Reblogged from the Renounce U.S. Citizenship blog.
Imagine the following two people:
We are comparing “Homelander Ted” to “Expat Benedict Arnold”.
Assume that “Homelander Ted” lives and works in the Homeland and purchases in ONLY U.S. dollars. He would not consider using any other currency.
Assume the Expat Benedict Arnold” (having escaped from the Homeland) lives and works in Canada and purchases in ONLY Canadian dollars. He would NOT consider using any other currency.
Assume that each of “Homelander Ted” and “Expat Benedict Arnold” own a home in their respective countries of residence, have employment income, engage in personal finance which includes retirement planning. “Homelander Ted” commits “personal finance” ONLY in the Homeland. “Expat Benedict Arnold” commits “personal finance abroad”.
Assume that “Homelander Ted” and “Expat Benedict Arnold” have financial situations that are comparable in their respective countries of residence.
To be specific both of them:
1. Have a principal residence in that they have owned for more than two years and that was sold on November 30 of the year. Assume further that there was NO capital gain measured in local currency. Assume that the sale included a discharge of an existing mortgage and that interest was paid on the mortgage up to the November 30 sale. Assume further that they each carry a “casualty” insurance policy on the property.
2. Have employment income and have pensions provided under the terms of their respective employment contracts.
3. Have and use mutual funds as a retirement planning vehicle.
4. Have a 401(k) plan in the USA and an RRSP in Canada.
5. Have spouses and must consider whether to use the “married filing separately” or the “married” filing category. “Expat Benedict Arnold” is married to an “alien”.
6. Give their respective spouses a gift of $500,000 on January 1 of the year.
U.S. Tax owing – versus TAX MITIGATION PROVISIONS
Assume further that each of “Homelander Ted” and “Expat Benedict Arnold” each prepare a U.S. tax return. Imagine that the Internal Revenue Code does NOT have (TAX MITIGATION PROVISIONS) either the Foreign Earned Income Exclusion (Internal Revenue Code S. 911) or the Foreign Tax Credits (Internal Revenue Code 901). Imagine further that there is no U.S. Tax Treaty that mitigates tax payable to the USA under these circumstances.
The question is how much tax “Expat Benedict Arnold” would be required to pay the U.S. Government if there were no TAX MITIGATION provisions.
How likely is that without the TAX MITIGATION PROVISIONS that the “Expat Benedict Arnold” would be required to pay HIGHER U.S. taxes than “Homelander Ted”. In other words:
Does the Internal Revenue Code:
First, impose higher taxes on “Expat Benedict Arnold” for the crime of committing “personal finance abroad“?
Second, mitigate those higher taxes through one of the TAX MITIGATION PROVISIONS described above?
Are U.S. Taxes (not including foreign taxes) actually higher for Americans abroad than for Homelanders?
Please consider the questions (without considering tax paid by “Expat Benedict Arnold” to Canada) in the following poll:
How does the U.S. tax bill of an American Abroad compare to the U.S. tax bill of a comparably situated Homelander?
Although not a tax per se, we ought to factor in the ruinous compliance costs for so-called “US persons” living overseas.
Good grief, if I could figure out how to do this poll, I wouldn’t need an accountant.
Because tax systems across borders are based on differing concepts, any US-taxable person abroad risks paying double. Thus: in France or Switzerland, wealth tax which displaces some income tax is not deductible as a foreign income tax credit. Sales taxes are higher in Canada and Europe. Property tax is lower in the UK. How one resolves this depends on facts: is the spouse, if any, an American; are the children recorded as American whether or not they are in law US ciftizens? In many retirement fund cases where (unlike the UK) common funds are not exempt from current US taxation by treaty it may be possible to buy specific shares: think of Nestlé or another conglomerate within a pension fund, ISA or other similar tax-sparing arrangement. For the wealthy there is a host of trust and company arrangements possible. So the answer to your question has to be that for the middle classes expats pay more than homelands. The very poor probably pay less because many countries (the UK among them) allow them State Pension credits either free (if they have a dependent child or are low paid) or for less than FICA/SET. That foreign benefits and tax credits and unemployment compensation may be taxable by the US even though not taxable abroad is, in my humble opinion, criminal. In fact most Accidentals and many of those who never intend to return to the USA do not declare such benefits, based on my own statistically-invalid inquiries.
You have, of course, asked only about the US tax bill. I don’t think that’s a fair question. Clearly Canadians who pay CGT instead of estate duty (but after a decade of double taxation began to get credit for that) and who pay US CGT on home sales where the gain exceeds $250,000 per US taxpayer, have an obvious loss. It’s far more subtle for the rest. The very highly paid either get tax equalisation or they get expensive but effective advice. For others it depends on the nature of income, the amount of foreign-nontaxable benefits and much else.
Actually it is a very easy question:
Under the assumption that the tax mitigation factors are 0, which means all this foreign income is taxed in the US as a US resident would be taxed on the same foreign income, would the US tax bill (only the US tax bill) be higher than the US tax bill who had the same income from similar sources but which are US sourced.
The answer is YES. This is because all things foreign are taxed at the same rate or higher than the same US vehicle (PFIC, say no more).
I see the purpose in the question is to determine the constitutionality of the CBT tax system as currently implemented. The foreign is not being handled the same, but US persons have under normal circumstances only foreign income and would for this reason be taxed higher on the same lifestyle.
I guess higher, lower or equal wouldn’t matter as much to me as the significantly higher paperwork burden for “Expat Benedict Arnold” and the injustice of having to do paperwork for his homeland in the first place. I didn’t try to figure out the answer so I didn’t vote, leaving it for those who can work their heads around this interesting problem.
@UnforgivenToo: It is not so easy as that. Here’s the question again:
“Poll: Is it common for #Americansabroad to have a higher U.S. income tax bill than a comparably situated Homelander?”
A low-paid US Homelander will still pay FICA. Whether s/he pays SET abroad (or FICA in a few cases) depends on whether there is a totalisation agreement.
Whether s/he pays current tax on pension contributions depends on the tax treaty: few such treaties now have that exemption.
PFIC may or may not be avoidable for the reasons I explained: it is possible in many cases to invest in specific securities that fall outside that protectionist legislation.
You have to look also at price levels. Even Homelanders face differentials based on state taxation, real estate values, sales tax and state income tax and so on. This is an unanswerable question, the poll will not yield anything useful. Most employed expats will not pay as much to the USG (not to mention their home state which could, if it claimed domicile, tax them even abroad) as they would if they lived in the USA — if only because of the FEIE. But those with unearned income may pay much more, including the 3.8% Obamacare tax for which they receive no benefit whatsoever.
There are specific issues where overseas Americans encounter discrimination: non-deductibility of many foreign taxes (wealth, VAT, property, charitable contributions…), taxation of certain benefits that would not be taxable at home,
Unfortunately tax treaties are negotiated with industry and the U.S. Chamber in mind. Any benefit to an expat is purely coincidental.
You are correct as far as reality goes, but the question was:
“The question is how much tax “Expat Benedict Arnold” would be required to pay the U.S. Government if there were no TAX MITIGATION provisions.”
Though I may not be answering the question asked…
Here are a couple of the many examples of higher cost for Canadian citizens (and citizens of other countries), even excluding the high cost of administration for needed assistance from US tax lawyers and US tax accountants for US tax and reporting compliance, if these citizens of Canada or other countries in which they reside and consider their country are considered by that, their own country, citizens of the USA who only happen to abide in Canada (or other countries).
These citizens of countries outside the USA cannot invest in the same ways as other citizens of their country. As in Canada — really, *Is a Canadian is a Canadian is a Canadian*? Or — are they second class to any other citizen of their country no matter where they were born or that national origin of their parent(s)?
FEBRUARY 17, 2017 – PHIL HODGEN Children, Investment accounts, and PFICs. It’s a Mess.
RDSPs and FATCA: Warning to People With Disabilities With Any Connection to the U.S.
‘Is it common’
‘6. Give their respective spouses a gift of $500,000 on January 1 of the year.’
No, it is not common. You’re asking about the 1%.
But here’s something about the 99%:
‘5. Have spouses and must consider whether to use the “married filing separately” or the “married” filing category. “Expat Benedict Arnold” is married to an “alien”.’
More importantly, Homelander Ted can be married to an alien too. There is a big difference in that Ted and his spouse can file jointly, but Benedict and his spouse have a Sophie’s Choice because both jointly and separately cause problems. The IRS’s Taxpayer Advocate’s report to Congress in 2011 either addressed that matter or came very close, mentioning unfair overpayments by the US’s diaspora, civil penalties, and criminal penalties. Courts other than US Tax Court have killed off the 5th Amendment.
‘Imagine that the Internal Revenue Code does NOT have (TAX MITIGATION PROVISIONS) either the Foreign Earned Income Exclusion (Internal Revenue Code S. 911) or the Foreign Tax Credits (Internal Revenue Code 901).’
I think we don’t need an imaginary poll. But it hardly matters. Sometimes the US didn’t have FEIE. But FTC is pretty solid. Homelander Ted can use FTC, and Donald Trump and at least one US Supreme Court judge surely use FTC.
This is not an imaginary poll.
This will be an instrument that will demonstrate clearly, that Americans abroad ARE NOT treated the same as Homelanders-IOW, as I understand it, a clear basis for discrimination, unconstitutionality of what is going on here.
It will perhaps be more understandable to see the two tax returns side by side (future post)
andy05 said “PFIC may or may not be avoidable for the reasons I explained: it is possible in many cases to invest in specific securities that fall outside that protectionist legislation.”
It may be possible to invest in direct shares instead of managed funds (PFICs). However, one of the main benefits of investing in a fund is the diversification that is provided to even very small accounts. The minimum capital needed to substitute direct shares for a managed fund, while maintaining diversification and low transactions costs is $60,000 – $80,000. Managing this portfolio is much more work than just sending a regular cheque to your index fund. It takes time, knowledge and some skill.
My point here is that the PFIC rules discriminate against those who are not yet wealthy – those just starting out or who have been unable to save (due to double taxation in many cases). These rules also discriminate against those who haven’t the knowledge, skill, or time to manage a direct share portfolio.
The current rules that discriminate against “foreign” managed investments mean that expats will either a) pay confiscatory tax on their investments; or b) be locked out of equity investments until they can accumulate enough capital using savings accounts (paying 1% or less in many countries).
I know the answer to this question. I filed one year using TurboTax (and a host of paper filings since TurboTax falls way short of being sophisticated enough for a foreign return) and it had a helpful function at the end where you could compare your US tax liability against others in a similar income band. My US tax liability was 2.5x the average bill in the same income band. That’s not 2.5% but 2.5x. My “fair share” was more than twice as much for the same level of income as the homelander “fair share”.
Thankfully, the out of pocket cost was limited by the taxes I had already paid in the UK. But, it shows the cost of not living a life optimised for the rules of the US tax system can be enormous. If you live in the US, there are tax no brainers. If you live in the UK, there are tax no brainers. But if you’re subject to both systems at the same time, you can’t benefit from the tax no brainers since, by and large, the other country takes what the other giveth.
As I’ve said before, the US tax system includes on the basis of citizenship but excludes on the basis of physical location since participation in the tax no brainers is limited by things like US source earned income which you can, generally, only get when you live in the US.
Your comment made me feel a good guess to make for this poll would be HIGHER so I just voted. I’d be very interested to see side-by-side mock returns for this hypothetical situation. I haven’t seen any recent IRS forms because we haven’t gone to their website for 3 years. (They record IP addresses.)
There will be mock tax returns to compare -stay tuned.
@ Patricia Moon
Will do. Are you doing them?
I’d be interested in a poll that collects the annual compliance costs those deemed to be Canadians (and other) with the US burden paid for help with US compliance: ex. filing return, forms, etc., the estimated time invested by DIY filers in lieu of paying experts, and related expenses. Also, for relinquishers/renunciants, the total compliance costs and fees incurred. And for those continuing to comply, the estimated costs to date – either a total, or an estimate broken down per year so far.
Also interesting would be investment losses due to savings denied or deterred because normal investment vehicles, strategies, etc. are effectively denied to those ‘abroad’ because of excessively complex and expensive compliance costs, punitive treatment (ex. ‘foreign’ mutual funds, deemed ‘foreign’ trusts like our Canadian RESP, RDSP, TFSA, etc.) and an estimate of the level of layered penalties potentially incurred for any error.
Those costs are significant quite apart from any actual US tax assessed.
Why should those compliant with local tax laws incur annual losses to comply with a foreign country’s laws when they have NO economic connection? Why should those compliant with local tax laws incur ANY annual loss of ability to benefit from their own home country government registered plans and social/fiscal policy, and pay additional costs and fees to comply with a foreign country’s laws or to be free of them when they have NO actual economic or resident connection? The Canadian government by enabling FATCA via the IGA assists in imposing substantial compliance costs, financial losses and renunciation costs on Canadians that have nothing to do with any tax the foreign country might assess – in addition to the abrogation of constitutional and Charter rights.
They shouldn’t. Which is why compliance is dumb.
Thanks, badger. I would also like to see such a poll that addresses what the media seems to (purposely?) miss (or are they really so dense?) — the cost of US tax and reporting compliance and the inability for second-class Canadians who are described as *US Citizens who happen to abide in Canada* to benefit from all investments in this country as any other Canadians can. And, of course, the density of another who boasts *A Canadian is a Canadian is a Canadian*.
@ Patricia Moon
How’s the CPA doing with those calculations? Will he/she also be tallying up the time spent on the mock tax returns?
I’ve no idea………I will check.
Thanks for reminding!