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U.S. Citizenship Based Taxation: Unique or Outrageous?

Contributed by Lynne Swanson
December 16, 2013

United States occupies a unique position in the world. Well, almost unique. This distinction is shared with one other country. Eritrea.

Yet, at the United Nations, U.S. and other countries condemned the tiny African nation for their practice.

U.S. and Eritrea are the only two countries that tax based on both residence and citizenship. Other countries tax worldwide income of residents, but not citizens living elsewhere.

What If Other Countries Adopted American Citizenship and Tax Laws?

Here is how this would affect a few prominent Americans.

President Barack Obama was born in United States to an American mother and a Kenyan father. So, if Kenya had the same citizenship laws as United States, he would be a Kenyan citizen because of his father’s birthplace.

If Kenya matched citizenship tax laws with U.S., Obama would be required to file income tax returns to both United States and Kenya. With more than $10,000 in assets, this would include a comprehensive and invasive Foreign Bank Account Report (FBAR) to Kenya on all his bank accounts and other savings and investments--including joint accounts with Michelle and education savings for Malia and Sasha. For failing to do, Obama could face a penalty of the greater of 50% of the value of each account or $100,000.

"That’s outrageous," Obama would likely declare. "I didn’t even know. Why should I pay taxes to another country? I pay taxes here in United States where I live."

Following a typical U.S. Internal Revenue Service (IRS) approach, the response would probably be "Too bad. It was your responsibility to understand our laws even though you don’t live here."

Senator and Presidential Hopeful Ted Cruz was stunned recently to learn he is a Canadian citizen because he was born in Canada to an American mother and a Cuban father.

If Canada and Cuba applied the same citizenship income tax laws, Cruz would be required to file income tax returns to three countries—United States, Canada and Cuba. Again, these would require FBARs on all his assets, including those held with his wife Heidi and education savings for their two daughters.

Finally, Cruz and Obama would agree on something. "That’s outrageous. I didn’t know. Why should I pay taxes to another country?"

Canada and Cuba respond: "How could you not know? You’re a Harvard-educated lawyer."

Secretary of State John Kerry was born in United States to two American parents, making him all-American, right? But, wait. Kerry’s mother was born in France to two American parents.

So, if France had American citizenship and tax laws, Kerry would have French citizenship and reporting obligations to France--including any assets held with his wife, Teresa Heinz Kerry.

Now, things get complicated. Heinz-Kerry was born in Mozambique to Portuguese parents. This gives the couple reporting and tax obligations to United States, France, Mozambique and Portugal.

There is an earned income exemption, but these Americans exceed that threshold. There is a credit for taxes paid to a foreign government. United States taxes are lower than most of those these countries, so there would be taxes owing—plus those massive FBAR penalties.

Here Comes FATCA

Soon, Obama, Cruz and Kerry would face FATCA (Foreign Account Tax Compliance Act) demands. Their American banks would be required to report on all their accounts, transactions and other personal information or face harsh penalties. Just like United States is demanding of banks around the globe.

"That’s outrageous," the trio would scream. They’re right.

"I’ll renounce," each would declare. Following unique U.S. example, those countries could respond: "Not so fast."

File five years of complex tax returns requiring hugely expensive legal and accounting help. Tell us your net worth. Give us your FBARs. Pay us massive penalties. Hand over a huge exit tax.

Then, maybe we’ll let you go. But, we will declare you "tax cheats" and "traitors."

Real Lives, Real People

Those scenarios are fictional. But, they are very real for millions of people.

Some are Americans living abroad.  Among those are dual citizens with their country of residence and United States. Others are former Green card holders or naturalized Americans who returned to their homelands for family or personal reasons.

U.S. Consulates told many they were "permanently and irrevocably" relinquishing U.S. citizenship when they became citizens of other countries decades ago.

Some have lived their entire lives as citizens of other countries. "Accidental Americans" were simply born in United States while parents were studying or working there temporarily. Canadian "border babies"—many now in their 70s or 80s-- were born in United States because it was the nearest hospital.

The only connection to United States for some is one parent’s place of birth.

These people are collateral damage of United States Treasury and IRS determination to combat offshore tax evasion. The demands they face are "outrageous."

Like Obama, Cruz and Kerry, these people are living honest, productive lives. They are not tax cheats or tax evaders. They pay taxes where they live, work, earn an income, own homes and raise families.

Yet, IRS demands to know all about them and their finances—including invasive snooping into their legal bank accounts held with non-US spouses or for children born and raised outside United States.

IRS offers little overseas advice, but expects highly complex and convoluted filing. Many people live in countries with no qualified accountants or lawyers for help with filing. Some spend huge sums of money on accountants to file returns with nothing owing.

In fact, 82% who do file owe no taxes to U.S. This requires significant IRS resources for no revenue.

One "accidental American" stay at home mother with no income of her buys shoes and clothes for her children rather than spend thousands of dollars on an accountant to tell U.S. she owes no money to them.

A U.S. military veteran recently renounced U.S. citizenship to protect his Swiss family and his Swiss mortgage.

A professional woman in Europe had her long-established retirement account closed in the country where she lives, works and plans to retire simply because she is a "U.S. person."

Another woman worries IRS will try to seize funds she saved for her developmentally disabled son simply because she was born in United States 70 years ago. She recently renounced U.S. citizenship, but U.S. will not allow him to do so because he does not have the "mental capacity."

These are not isolated situations. They are reality for millions of people. .

Global Financial Chaos

What would happen if the whole world adopted U.S. citizenship based taxation and demanded financial records of any of its citizens living outside its borders?

Would United States cooperate? Would they provide information on naturalized American citizens or U.S. Green Card holders to Kenya, Canada, Cuba, France, Mozambique, Portugal or Eritrea? Of course not.

Add about 190 other nations worldwide to those few and it's easy to see it would create global financial chaos.

Time for Change

Put simply, citizenship-based taxation is "outrageous."

It’s time for change to join the rest of the planet and move to resident-based taxation. .

American Citizens Abroad (ACA), Association of Americans Resident Overseas (AARO) and have made reasonable, sensible comprehensive recommendations for reform. Will U.S. Congress listen? 

Lynne Swanson is a retired Human Resources Manager, writer and blogger. Born and raised in Pennsylvania, she has been a Canadian citizen for 40 years.


Tags: tax | United States | Kenya | law | France | Canada | Cuba | Mozambique | Eritrea | penalties | Other | Portugal | FATCA | education | Tax | retirement | Internal Revenue Service (IRS) | exit tax | investment | Citizenship | Compliance



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