Annual double-taxation-without-representation time rolls around for US citizens abroad

by Rhodri C. Williams

Spare a thought this week for US citizens abroad, who will be scrambling to comply with one of those nightmarish bureaucratic systems that no rational person would ever propose if they were working from a clean slate today.

As one of those affected, what to say? Many of us will have stayed up far too late during recent nights, working out whether we are likely to fall victim to an arbitrary snap-enforcement program that has imposed massive fines on people out of compliance with a previously dormant filing requirement we had precious little reason to be aware of. Still more of us face the prospect of spending entire days working through a battery of incomprehensible forms in order to prove what should be a self-evident point – we owe nothing to the US Government because our residence is registered in foreign jurisdictions with a legal right (and often a great enthusiasm) for culling our incomes in exchange for the services they offer. Those with higher incomes will simply be taxed on them twice over, and this by the ostensibly most tax-averse country in the developed world.

As an American on the ‘liberal’ side of the political spectrum, I have never had much time for black helicopter conspiracy theories about an oppressive ‘big government’. On the other hand, my experience with the US tax authorities has sharpened my classically American concerns about unrestrained government. While I have little doubt that the US Internal Revenue Service behaves responsibly and responsively (e.g. as a ‘service’) when it comes to ‘internal revenue’, it has taken the form of an unaccountable, repressive juggernaut for those of us in the ‘external revenue’ free-fire zone (consider the terrifying recent experience of one of my fellow US citizens in Sweden). However, it is ultimately the IRS’ masters in Congress and the Executive Branch (ahem, Mr. Obama) that have given these dubious tendencies ample room to breathe.

For those of you interested (academically or personally), there is lots of good information out there on the internet. A few starting points include the Isaac Brock Society representing the enormous population of affected people in Canada, as well as the more academic Federal Tax Crimes blog. Peter Spiro also provides a helpfully contextualized running commentary on these issues on Opinio Juris. However, the most important player is American Citizens Abroad (ACA), an organization that provides updated advice on navigating the double taxation labyrinth while actively seeking to replace it with an ordinary system recognizing residence-based taxation that would let Americans abroad get on with raising families and engaging in the private diplomacy and trade promotion we provide our country with every day (at zero cost to any taxpayer!)

If you surf this topic a bit, you will probably find yourself scratching your head and wondering how this could have come to pass. Foreign banks to refuse to open accounts for US citizens as a matter of policy? Struggling US citizens abroad put to the rack for the sins of fat-cats with undeclared Swiss bank accounts who are mostly US residents anyway? (I mean, who really thinks the Swiss care where you live if the numbers add up?) US citizens lining up to renounce their citizenship because their own government is shaking them down in a desperate and legally questionable attempt to fill the deficit gap?

In the cold light of day, this stuff should not stand up for a single Congressional term, particularly in a Congress now dominated by politicians dead-set on (1) reining in out-of-control Federal agencies, and (2) cutting tax burdens on productive citizens come hell or high water. For the first time in my memory, I may actually passionately agree in principle with my conservative delegates to Congress, at least as far as this issues goes. So why does it just get worse?

My considered opinion after some self-interested research is that affected people have been kept so busy sweating over personal compliance that they have had very little energy left over to focus on political message. There are lots of complaints about how the US media seems only too happy to fall into line with the IRS’ implicit assumption that living outside the US is in itself a form of tax evasion. However, beyond the ACA’s important efforts, there doesn’t seem to be much systematic advocacy. So let me take a first stab of my own. Why should the average US citizen care about the fiscal fates of their brethren abroad?

First, double-taxation is unfair. Other than predatory states like Eritrea, all other states in the world leave their diasporas alone as long as they are satisfied that they are complying with their legal obligations in their current place of residence.  In my case, Sweden has every incentive to tax me and does so with aplomb. I pay for the extensive services I receive here to the tune of fifty percent of my income.

Granted the US *only* double-taxes high salaries as well as non-salary income, but the compliance cost alone is extremely burdensome. I struggle through at least seven separate forms and schedules every year. Others hand the mess over to a tax lawyer and pay thousands of dollars every year simply to demonstrate compliance without bringing a penny to the IRS. No other western country imposes this kind of bureaucratic yoke on citizens that are busy consuming government services and providing corresponding revenue elsewhere.

For an analogy, imagine that every state in the US could force you to continue filing state tax forms every year for the rest of your life after you left that state and imposed its own taxation (on top of that of your state of current residence) on income over a certain level and capital gains anywhere else in the country. Now imagine that such states also required you to report bank accounts in other states but never informed you of this rule. Add to that a snap-enforcement campaign where they proposed to charge you $10,000 per account per year for every single unreported out-of-state account, retroactive six years. Welcome to US citizen life abroad.

Second, double taxation is preconditioned on lack of representation. If any US state seriously proposed the kind of scheme laid out in my hypothetical above, the elected Federal (and state) representatives of each and every other US state would scream bloody murder and that would, in all likelihood, be that.

However, there is no dedicated representative for the estimated five to seven million US citizens abroad. In terms of the size of this population, the margin of error alone is equivalent to the population of New Mexico, and if we do clock in at the high end, that makes us equivalent to Virginia, the 12th largest state in the Union. However, in political terms we are five to seven million fish in a barrel, subject to an arcane and burdensome taxation regime imposed by a system bereft of institutional means of taking our collective interests or concerns into account.

Lack of representation for US citizens abroad means that little serious scrutiny is given to perhaps the most salient arguments against double-taxation. For instance, the ACA argues that adopting residence-based taxation would not only be revenue-neutral but bring new economic advantages to the US. Double taxation, in other words, has an economic opportunity-cost – even if the lack of representation of US citizens abroad means there is little political opportunity-cost attached to retaining it.

Finally, the double taxation regime gives rise to a worrisome scope for arbitrariness. My intuition tells me that no ordinary citizen abroad can really be expected to fully understand all the incredibly cumbersome filing requirements associated with the current regime of double taxation. We all do our conscientious best to comply or throw a lot of money at tax lawyers. Almost all of us, despite our best efforts, may reasonably suspect that we may nevertheless find ourselves held in violation of various arcane rules that are written at a level of complexity far beyond what any fair due diligence requirement could demand.

Writing on the current ultra-nationalist government of Hungary, one observer recently made a basic observation on the rule of law that I increasingly feel applies to my own personal situation with regard to the IRS:

If no one knows what is legal, then no one can know what is illegal. And when no one knows what is illegal, then anything, essentially, can become illegal. Through this rushed and inconsistent process of lawmaking, what has emerged is the deliberate creation of a climate of absolute legislative uncertainty (and thus of fear). In this context, the ordinary citizen can rely only upon arbitrary mercy by the relevant authorities to avoid being unjustly persecuted.

And so it goes. For me, renunciation of my citizenship is unthinkable because being American is so much a part of my identity. After 12 years of residence in Europe, I am still a US citizen only, and have taken active steps to pass this legal status – and sense of identity – to my dual citizen children. Moreover, as an American, I feel it is both my privilege and my obligation to actively seek to change a political situation that arbitrarily disadvantages me, long before considering opting out. Hence, this posting.

However, as a politically unrepresented American navigating an arbitrary legal regime, I have grounds to fear that the exercise of my rights may have negative consequences for me. In a democracy, my fellow citizen may disagree with me but will go to the wall for my right to express my opinion. In an autocracy, the nail that sticks out gets hammered down. Lets see where we stand.

18 responses to “Annual double-taxation-without-representation time rolls around for US citizens abroad

  1. Pingback: What “Form Nation” does to U.S. citizens living outside the United States « Freedom from the tyranny of U.S. citizenship-based taxation for U.S. and dual citizens outside the U.S.

  2. One colleague sent a timely reminder that my take on US overseas taxation opens me to charges of oversimplification. In the words of his accountant:

    “It seems like this blog is commenting on being taxed twice on the same income – once abroad and once in the US. I do not agree as the US tax law is clear that income is not taxed twice. In your case, you only pay social security tax on your earned income since you qualify for the foreign earned income exclusion and that excludes your income from income tax. If your income was higher than the earned income exclusion and you paid tax in [your country of current residence] then you would get a tax credit in the US for the amount of tax paid [there].”

    Two useful reminders here. First, it is more accurate to describe the US system as ‘citizenship-based’ (as opposed to residence-based) taxation than to speak of double taxation. However, some qualifiers. First, as I understand it, better earners are often forced to pay tax in two jurisdictions when the tax rate in the residence country is lower than in the US (meaning the credit doesn’t cover the difference). Also, non-wages type income seems to be largely subject to double taxation.

    The second reminder is that the system still involves double-filing, if not double taxation, and extremely onerous and intrusive filing at that. My colleague is required to retain an accountant on his own (sub-earned income exclusion) salary to handle this. His colleagues from virtually any other country in the world have no such concerns. So, in sum, the accountant is quite right on the semantic point that this is not full-on double taxation but rather citizenship-based taxation – AND, he would be out of a job if it were residence-based taxation instead.

    Last caveat – I am a concerned citizen but not an expert on this issue – anyone looking for serious advice should follow the links to serious expertise provided above.

    • sorry, but you say you are a liberal? That means you voted Obama, right? Barack, who has nearly DOUBLED the size of the IRS, i have no sympathy for you. If you vote democrat, you can expect not only more complications, but higher tax burden. Democrats will do anything to squeeze EVERY CENT from your pockets. Like Obama said…Elections have consequences. You voted for it, now drink it down.

      • Thanks Dustin. I’d be grateful if you could keep a more civil tone but I don’t have any problem with your comment. To clarify, I did vote for Obama, I don’t mind paying taxes, and I could even deal with a reasonable level of double taxation. I don’t agree that Obama is set on bleeding us all dry, but the man is busy cleaning up the stables after the last administration and that doesn’t come free.

        Generally speaking, the US is a place where you get value for taxes and I’ve been to enough places where you don’t to appreciate that. What I don’t like is the prospect of shoveling money over to a priestly caste of tax lawyers in order to avoid senseless draconian fines and wasting lots of time every year on incomprehensible forms. I’m a hardworking American who happens to live abroad. If my country of citizenship needs a slice of my income on top of what I give my country of residence, that we can talk about. But I can see no sense in the current charade, which produces no meaningful revenue, benefits nobody and has both political and economic opportunity costs.

  3. Kudos for adding to the coverage of this issue. The analogy to a move from one state to another is a great one. Let’s hope our government wises up and pulls the plug — or at least seriously modifies — this dubious program.

  4. So very true about the potential for falling into hazard, or being unable to avoid the pitfalls due to the unmasterable (and ever changing) complexity of the labyrinthine rules and requirements. That is why some people call one of those hazards; the ‘FBAR fundraiser’ – only one amongst the many incomprehensible reporting requirements and penalty structures – all with draconian fines, all ready to strike us down based on post-tax savings – all entirely legal and all duly reported to the non-US countries we earn and pay taxes in – in spite of owing not a penny of US tax. It is hard to believe that these hazards are not deliberately designed to generate revenue ‘in lieu of’ the taxes excluded by the FEIE or foreign tax credits. It is also important to note that since not all countries have an ‘income’ tax that exactly parallels that of the US, or have reciprocal tax treaties that don’t recognize other types of taxation and savings vehicles, there are several other opportunities for US citizens ‘abroad’ to be penalized or double taxed.

  5. Citizenship based taxation was good when the world was a larger place, and where our economy was not as International as it is today. Because the US is the only major country that does not follow residence-based taxation, it means that Americans are at a disadvantage when living abroad because they must pay taxes in the country where they live, and potentially pay taxes to the US.

    In fact, citizenship based taxation allows for taxation on “phantom income” – income that doesn’t really exist. Let me explain –

    Suppose a US citizen who lives and works in Canada bought some investment property at a cost of 50,000 Canadian dollars. Five years later, the property hasn’t increased in value, so he decides to sell it for 50,000 Canadian dollars.

    From a Canadian standpoint, there was no profit or capital gain – the property was bought for the same amount that it was sold – in Canadian dollars – which is what the person earns and uses.

    But, the IRS requires that all transactions be reported in US dollars using the rate of exchange in effect when the purchase and sale each took place.
    If, at the time of the purchase, the Canadian dollar was worth 75 cents US – the IRS would say that the property was purchased for 37,500 US dollars which is the value of 50,000 Canadian dollars at the time of the purchase.
    At the time of the sale, the Canadian dollar was worth 100 cents US – the IRS would say that the property was sold for 50,000 US dollars. The IRS would then calculate a capital gain of 12,500 US dollars and tax this US citizen on this gain.

    Since the US citizen bought the property in Canadian dollars and sold it in Canadian dollars, he has no real gain. But the US would show a phantom gain (income) of 12,500. Even worse, since there was no gain in Canada, there would be no Canadian tax paid to offset the US tax on this phantom income. The IRS would expect tax to be paid on no real income.

    The US should adopt residency based taxation and abandon citizenship based taxation. It would eliminate so many problems with enforcement.
    As a US citizen, I lived in Canada for 12 years, and filed both US and Canadian tax returns each year.

  6. Thanks Kary. How many current Congresspeople, if informed on current international practice and asked to come up with a rational system for the US, would opt for this? The problem is that its much harder to reform a system once established, especially where it only affects an effectively unrepresented constituency.

  7. It seems that at least the FATCA component of the whole mess is finally coming in for some proper scrutiny in the US press:

    http://www.forbes.com/sites/robertwood/2012/07/17/more-bad-news-for-fatca/

    Also, Peter Spiro, who I quoted above in the piece, notes that other countries (well, at least France!) with significant citizen populations abroad actually accord them a voting district of their own:

    http://opiniojuris.org/2012/07/26/if-its-thursday-it-must-be-london-mitt-romney-edition/#comment-41314

    And finally, I just picked up on some wonderfully lucid comments on citizenship-based taxation from the author of the Franco-American Flophouse blog. For starters, my analogy about moving between US states was not quite as original as I thought:

    http://thefranco-americanflophouse.blogspot.se/2012/01/citizenship-based-tax-systems.html

  8. Mr. Williams, I followed your link from Peter Spiro’s recent piece on Opnio Jus and was very glad I did. You do an excellent job of explaining the atmosphere of fear and uncertainty that reigns these days among Americans abroad and why the current situation is bad for U.S. citizens at home and abroad (it’s even worse for immigrants because all of this nonsense applies to them too even though they do not hold citizenship and cannot vote. )

    To your comments about representation I would add that many of us at Isaac Brock and the other organizations (ACA and AARO) who are trying to mobilize the American diaspora for change, have been writing letters to our representatives in our home states but, all too often, the politicians don’t even bother to answer. It’s very frustrating to have concrete evidence that we are not even on their radar.

    We are not the first diaspora to face these kinds of issues. One area I’ve been looking into over the past few months is how other countries have negotiated with their “domestic abroad” to come up with mutually satisfactory arrangements. I think there are lessons we can take away from their experiences. Surely, some of their strategies could be useful to us.

    And finally, thank you for reading the Flophouse piece and for your kind comments about it.

    Best regards,

    Victoria

  9. Many thanks Victoria! The fundamental problem seems to me to be that we are seeking negotiations without any leverage. In other words, we might have the best arguments on our side, but if our counterparts feel that they have no reason to take them into account they won’t get us very far. Its hard to get to mutually satisfactory if the party with all the power is already perfectly satisfied, thanks very much.

    • Rhodri, Yep, I agree that this is indeed the core problem. I was reading an interesting paper the other day that described the process of normalizing the relationship between states and their diasporas. Three steps:

      1. The state sees its diaspora as an asset/ally that can be used to further its ambitions and offers recognition of its “domestic abroad” (emigrants as heroes as opposed to traitors);
      2. The state offers rights and benefits in conjunction with official recognition (dual citizenship, voting rights, protection and so on);
      3. The state requests/demands diaspora support for the homeland (taxes, investment, even political support in host country politics)

      The U.S. seems to have started with 3, is grudgingly working its way to 2 and is light years away from 1. :-)

      But 1 really is the starting point.

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  11. This is not realistic. Too many people take advantage of the systems that we have in place that are paid by taxes. My in-laws for example have all their babies in America so that they can be American and take advantage of the school system (college), healthcare, etc. Keep in mind, they come over 8-months pregnant (as non-USC), have the kids, and leave. Raise them somewhere else but the plan is when it’s time for them to go to high school and college, they’ll go at a huge discount (using Pel Grants, etc). 10 kids in my family alone and all their friends are doing it too. I want those kids to grow up and pay taxes regardless of where they live in the future because believe me, they are definitely going to get as many government-based scholarships, grants, healthcare benefits, as they can. And that’s fine, I think it’s awesome because it’s there way of obtaining the American dream. But don’t tell me they should pay taxes. How will we sustain that?

  12. Thanks anonymous.

    To clarify, the systems that are in place are generally used – and paid for – by the people that are in place. Germans living in D.C. pay US taxes and consume US services. Americans living in Berlin pay German taxes and consume German services. The difference is that that the German tax authorities (and all others but the US and Eritrea) leave their citizens abroad alone when they are legally resident and paying taxes elsewhere.

    Student grants may not fit the mould perfectly, but part of the assumption is that one does stay on and give back to society with the knowledge and skills one has received. And one of the complaints about people going to the US for an education in foreign countries is precisely that they often don’t come back.

    As for healthcare benefits, what can I say? I pay higher taxes here in Sweden than I probably would in the US and get excellent and laughably cheap healthcare. If I ever have to visit a clinic while in the US I pay through the nose and hope it gets at least partly covered by the medical insurance I purchase in Sweden. That doesn’t seem like much of an argument for filing US tax forms to me.

    If I move back and begin to bask in the delights of Obamacare, I will definitively be paying US taxes then. And I can rest assured that the Swedish tax authorities will have the decency to leave me and my non-US citizen wife alone.

    Whatever the intentions of the current system, it feels unjustified, oppressive, unnecessary and, if I may be so bold, un-American.

  13. Anonymous, If I may give a slightly different perspective. I am an American citizen who has lived outside the US for nearly 20 years and I have two college-aged children who are both US and French citizens. I am also currently undergoing treatment in France for invasive breast cancer.

    As we looked at universities for our daughters we did consider the U.S. and dropped the idea fairly early in the selection process. Even with grants, scholarships and student loans the cost was simply not feasible for us. My girls would have been considered non-resident and would have paid full price. There was no advantage given to them whatsoever on the basis of their US citizenship. It gained them absolutely nothing. It was a real disappointment but since Canada did offer them something based on their FRENCH citizenship, they are now happily enrolled in schools there.

    As for the healthcare system when I was diagnosed with cancer there was no question at all about which system I was going be treated under. Going back to the US would have been really REALLY stupid. No private company would have insured me (though that may have changed with Obamacare). I would have had to throw myself on the mercy of whatever charities or local government assistance that was available in the US and I’m not even sure they would have given it to since I haven’t been a resident of the US in years. Instead I stayed in a country where I’ve been paying taxes for many many years which has a top-notch public healthcare system.

    But here’s the kicker – I pay both US AND French taxes. And, frankly, for my money I get a lot from the French and zero from the U.S. So, homelanders in the US, for US citizenship to be worth my time and trouble, and if you really think it’s OK to tax though of us who live outside the US, you are going to have start shelling out some of the benefits or creating some that are as good as what citizens in other countries receive automatically, and make them available to those of us who live abroad.

    That is my take on it. For information my younger daughter who will be getting a STEM (science, technology, engineering and math) degree from a Canadian university has been inquiring about what her US citizenship really means in terms of responsibilities and benefits, in particular the chance that she will be taxed by a country she hasn’t lived in since she was 3 years old for the rest of her life. She is prepared to renounce if things don’t change. Something to think about.

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