One of the most common justifications among DC tax professors and policy wonks for taxing US homelanders and US Persons abroad in the exact same way is “horizontal equity”: the idea that “similarly-situated” taxpayers should pay similar amounts to the US government. Naturally, these people see the current situation, in which U.S. Persons Abroad get all these “great tax breaks”, as horribly unfair. So here’s a handy table comparing the paperwork which U.S. homelanders and U.S. Persons Abroad must complete in order to conduct similarly-situated kinds of financial activities. All estimates are courtesy of the Paperwork Reduction Act.
Keeping an account at the bank situated down the street from your house, and earning a few dollars of interest on it:
- Homelander: Form 1040. Put the interest income on Line 8a. No schedule B if the interest is under $1500.
- U.S. Person Abroad: Form 8938 and FBAR. Go through all your bank & brokerage statements month by month and convert each number into USD at the then-current exchange rate to find the highest asset value. Figure out if it was greater than your applicable reporting threshold. Put the end of year value on the 8938. Put the highest value on the FBAR. Also file Form 1040 Schedule B and remember to check the box about foreign accounts. Allegedly this should take one hour for the 8938; no Paperwork Reduction Act notice is provided for the FBAR. Plus whatever reporting is demanded by the country where you actually live.
Does the one hour estimate for the duplicative Forms 8938 and FBAR accord with your personal experience? Well, let’s keep going. How about saving for retirement?
- Homelander: Form 1040. Put the amount you contribute to your IRA on Line 25. You get a tax deduction for your contribution.
- U.S. Person Abroad: Form 3520. 55 hours per year. You do not get a tax deduction for your contributions to a non-US retirement plan, because they are “gratuitous transfers to a foreign trust”. Plus whatever reporting is demanded by the country where you actually live.
- Automation: Turbotax does not support Form 3520.
Situating yourself away from your normal tax home for a year to care for a dying relative, and then moving back to your usual residence and going on with your life:
- Homelander: “Shut up and quit trying to scare me, there’s no tax form for this”.
- U.S. Person Abroad: Form 2555. Explain why you have revoked the Foreign Earned Income Exclusion for a year but are now trying to claim it again. Possibly pay $2000 to get a Private Letter Ruling from the IRS. See 26 CFR 1.911-7(b) for details.
- Automation: Turbotax supports Form 2555. It does not support automatic generation of requests for Private Letter Rulings. I’m sure they’ll get around to it any day now.
Buying an ETF on your local stock exchange:
- Homelander: Form 1040. Keep track of your basis when you buy it. No paperwork while you hold it. Record the capital gain on Line 13 when you sell it.
- U.S. Person Abroad: Form 8621. 46 hours per year. You have two options.
- Make a QEF election when you buy it. Pay tax every year on the mark-to-market gains regardless of whether you sell it.
- Keep track of appreciation in every year. When you sell it, divide the gain into one bucket for every day you held it. Look up the tax rate applicable to each year in question. Compute the interest between now and then, with daily compounding. Pay the whole amount. Go pay $2000 to get a Private Letter Ruling for a late QEF election so you never have to do that again.
Plus whatever reporting is demanded by the country where you actually live.
- Automation: Turbotax does not support Form 8621.
Forming an LLC with your neighbour to run a small business:
- Homelander: Form 1065. 36 hours per year.
- U.S. Person Abroad: Form 8865. 67 hours per year. Not counting the time you need to spend convincing your neighbour to let you report his personal details to the IRS. You also may need to file Form 8832 Entity Classification Election in the first year. Unless you live in a country whose local LLCs are considered per se corporations by the US. In which case, you can’t use Form 8865 at all and instead you get to file Form 5471 (83 hours per year) instead, plus Form 926 (44 hours) for any year in which you inject capital into your business. Plus whatever reporting is demanded by the country where you actually live.
- Automation: Turbotax supports Form 1065. It does not support Forms 8865, 8832, nor 5471.
Fines for making unintentional errors:
- Homelander: A number which is proportional to the tax involved. Interest up to 25% of the tax owed, and possibly an accuracy related penalty of 20% of the tax owed.
- U.S. Person Abroad: $10,000 per year per form, regardless of tax owed.
Remember kids, an American in Peoria and an American in Poland are similarly-situated by virtue of their passports, so they should be taxed the same. Also, an American in Peoria and H1-B visa holder in Peoria are similarly situated by virtue of where they live, so they should be taxed the same. Finally, an H1-B visa holder in Peoria and an American in Poland are similarly-situated by virtue of … oh wait I guess this “horizontal equity” thing isn’t transitive. I’m just a dumb science major bringing up transitivity and logic and all those inapposite concepts. I’ll never be a tax professor.
So did everyone have fun with their similarly-situated paperwork? Let’s add up the numbers: that’s 170 hours of tax compliance burdens (presuming you are well-versed enough in tax law to do it yourself, and aren’t worried about racking up $50,000 in fines in a single year and getting your passport confiscated). Or you can pay an international tax accountant for 170 hours of his or her time. If you try to be cheap and use some discount internet tax preparer who charges $300, he will not file all the required forms, possibly for years running, and instead you will be paying for 170 days of a tax attorney’s time to undo the mess your discount clown made. But this situation is of course entirely fair: the law in its majestic equality imposes the exact same reporting requirements on you and on a tax evader in New York who forms a Panama foundation which settles a Belize trust which forms a BVI corporation which opens a Swiss bank account which sends him an anonymous credit card for use in the US. If you think this is unfair, why aren’t you using a patriotic bank and IRA like a normal American?
Horizontal equity for the win!