This article appeared on the RenounceUSCitizenship blog.
The Cost of US Citizenship Abroad http://t.co/VYBUWueQks – #Americansabroad first pay US tax. Then if anything left pay local tax
— U.S. Citizen Abroad (@USCitizenAbroad) January 15, 2014
Interesting article by by Jessica Dorfmann in the Harvard International Review. On the whole it is a very good article. After describing many of the specific hardships of U.S. citizenship abroad, It closes by saying:
At its core, citizenship based taxation makes it harder for American citizens to live and thrive outside of the United States. This is a significant obstacle to the freedom of Americans to emigrate abroad in an increasingly globalized world. The United States has also implemented barriers to renouncing American citizenship. Citizens with a total net worth of over $2M USD, or a high income, must pay a 15% “exit tax” on the capital gains of their worldwide assets. And there’s been discussion about increasing the cost – when Facebook co-founder Eduardo Saverin relinquished his U.S. citizenship in 2011, U.S. Senator Chuck Schumer proposed increasing the exit tax rate to 30% and banning Saverin from returning to the United States for life. The U.S. Department of the Treasury also publishes, on a quarterly basis, the names of American citizens who have relinquished their citizenship, a practice used to “name and shame” renouncers. The Economist has dubbed these obstacles “America’s Berlin Wall”. It is no wonder that American expatriates frequently report feeling frustrated, harassed, and persecuted – the United States system has been built to punish them for merely residing outside of its borders.
The United States needs to get with the times and abolish citizenship-based taxation. The policy is tremendously unfair and detrimental to Americans living abroad, and it serves to anger and alienate citizens, many of whom have a lot to contribute to the United States in terms of international experience and skills. It is ironic that a citizenship so widely desired has come to feel like a burden for so many.
What I find most interesting is the Ms. Dorfmann’s description of how U.S. citizenship-based taxation works.
She writes:
In general, citizens pay the difference between their domestic taxes and what they would have been taxed in the US – so, if a citizen’s domestic taxes are higher than what they would owe in the US, they pay no additional taxes.
With respect to the author, this is incorrect and minimizes the insidious and evil nature of U.S. citizenship based taxation. A more accurate description of U.S. citizenship-based taxation is:
1. First the U.S. citizen abroad is taxed, in the same way, as any Homeland American (which means that virtually all financial aspects of the Expats life are considered to be “foreign” with all the horror this entails); and then
2. The U.S. citizen abroad is giving limited credit for some of the the taxes that he/she has paid to his country of residence. (For example, the huge amount of VAT and HST type of sales taxes are not creditable.)
U.S. Citizens abroad are also able to exclude a certain amount of earned income from their U.S. tax base (which is an advantage only in countries that have lower tax rates than the U.S. has).
If citizenship-based taxation isn’t bad enough, U.S. tax rules assume the dominance of the U.S. tax system over the tax system of the the country of residence.
So, although I certainly agree with Ms. Dorfmann’s conclusions (it’s time to abolish citizenship-based taxation), the reality of citizenship-based taxation is far worse than her article suggests!
There are also all kinds of other taxes Americans abroad unjustly face such as the non-recognition of tax deferred retirement funds and non-recognition of small business corporations which are considered controlled foreign corporations (CFCs) with the company profits treated as if it is personal income.
Any American small business owner who lives outside the US and wants to be tax compliant must get rid of US citizenship. It is a matter of of survival.
@samuel
My son is a small business owner and was asked to sign a W-9 when he applied for a business loan . He is ignoring the tax issue (born outside the US, never filed).
Not happy 🙁
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….and what about currency exchange? I have heard of some retirees who live their lives on a meager pension in euros, and then have to pay US tax in dollars. The dollar goes down, and they are deemed to have a “profit” and taxed on it! I was told some can`t even afford a coffee anymore.
The U.S. does not provide relief from double-taxation for all types. In particular it does not provide relief from VAT. Of course for many European countries VAT is one of the principal means of taxation.
@Polly
Good point. We really got stung on currency exchanges on the sale of our home in Canada.
Reading several months of previous postings, no one seems to mention the most egregious double taxation issue for US citizens living abroad, that of Estate Tax (when you die).
If you live in Canada, for example, when you die all your financial assets are tallied up, deemed disposed and taxed as if sold on the day you died (that is, paying final capital gains taxes).
Unfortunately (for US citizens living here), these “death and deemed-disposition taxes are NOT considered equivalent to US “Estate Taxes”; consequently, they provide no relief from US Estate Taxes on one’s world-wide assets. Consequently, further, double taxation and, potential wipe-out of 60-70% of your estate.
I explained this to an worldly, financially well-educated uncle living in DC years ago and he, in his arrogance, said “Oh, you must be mistaken, that can’t be”. He then went on to call an acquaintance of his who had been high up official in the US Treasury Dept, asking what he knew of this. Two days later, I got a call from the Treasury-friend who said, very bluntly “you’d better have a good lawyer and accountant”. My uncle never apologized for dismissing me (but then people in the US know nothing of this).
@LM wrote: “Unfortunately (for US citizens living here), these ‘death and deemed-disposition taxes’ are NOT considered equivalent to US ‘Estate Taxes’; consequently, they provide no relief from US Estate Taxes on one’s world-wide assets. Consequently, further, double taxation and, potential wipe-out of 60-70% of your estate.”
This is very misleading. The Third Protocol to the US-Canada Tax Treaty avoids some, probably most, of the double taxation that took place for a decade after Canada replaced death duties with tax on deemed gains at death. The newly increased US threshold for estate duty further reduces the chance of double taxation; on the other hand provinces may not give credit for US state taxes on estates. (There’s a further conflict with UK taxation, but HMRC does make an extrastatutory concession in at least only imposing its 40% death duty on the net (i.e. tax paid) value of Canadian assets at death.)
http://www.fin.gc.ca/treaties-conventions/unitedstates-etatunis-eng.asp (See Art. XXIX B)
https://www.jct.gov/publications.html?func=startdown&id=2472 (See para. 19, page 9)
http://www.pwc.com/en_CA/ca/estate-tax-update/publications/pwc-2009-04-13-us-tax-exposure-canadians-2013-02-19-en.pdf (“Canada will allow a foreign tax credit for US estate tax paid on the US assets.”
@Samuel Adams wrote: “There are also all kinds of other taxes Americans abroad unjustly face such as the non-recognition of tax deferred retirement funds and non-recognition of small business corporations which are considered controlled foreign corporations (CFCs) with the company profits treated as if it is personal income.”
Modern US tax treaties allow for reciprocal recognition of pension fund assets (often Art. 19) and Totalization Agreements cover Social Security-type pensions and largely prevent double taxation (although it can sometimes benefit a taxpayer to pay such tax voluntarily; and the Totalization Agreements were in fact impelled by US tax law which required nondiscrimination in pension eligibility and major multinational firms had to contract with the SSA to subject their employees abroad to FICA when those employees were covered by pension plans “integrated” with Social Security. For the rest, CFC issues need not arise with respect to operating companies. There can be complications with “hybrid entities”, but those are often deliberate tax sparing choices. Lack of knowledge about filing requirements can be costly however: the IRS imposes automatic penalties for late filing that begin at $10,000 with respect to forms 5471 and 3520, enough to drive some small businesses into bankruptcy. Filing bankruptcy in Canada against a debt to the IRS — assuming that is possible; a quick search hasn’t shown any cases either way — will make the relevant US tax forever uncollectible in Canada (but not in the USA if the taxpayer has assets, income or heirs there).
COMMENT: The real problem for middle-class cross-border taxpayers and their small businesses and investments is that tax law is so complex and competent advice so costly that noncompliance is common. Draconian penalties aimed at perceived domestic tax cheats have the unintended consequence of making “accidental” and redundant possession of U.S. nationality an unbearable burden. And the concept of U.S. nationality as “allegiance” leads to an American view of expatriation as quasi-treason or apostasy. Partly as a result, Congress is unlikely to respond to such hardships unless those who “own America” and who “speak for America” take an interest. (Bear in mind that it was a series of articles in Forbes beginning in 1996 about expatriation to avoid taxation and the case of burger box billionaire Robert Dart that led to the subsequent spate of expatriation taxes.)