Over the past 15 years, Congress has been more deeply polarized than at any time in recent memory. Every major national issue has been the subject of vigorous, sometimes ferocious, debate: the war in Iraq, spending cuts, tax increases, gun control and health care. Congressmen take diametrically opposed positions on all of these issues and threaten to shut down the government if they can’t have their way.
There’s one exception, however—one unifying issue that brings together left and right, rich and poor, young and old: The passage of laws that demonize those who give up their U.S. citizenship.
Congress has significantly rewritten the law concerning the taxation of expatriates at least three times over the past 15 years and is currently considering further changes.1 Each time, a small number of Americans have continued to expatriate, as they always have done and always will do.2 And each time, Congress becomes outraged at these people, who are complying with all the laws that Congress itself enacted, and declares that an egregious loophole must be plugged by rewriting the laws yet again.
Laws Targeting Expatriates
The law requires that the names of all expatriates be made public in the Federal Register, presumably to allow the press the opportunity to heap scorn upon them.3 (Imagine the uproar if the Internal Revenue Service released the names of every American who earned over $1 million per year.) In addition, in 1996, Congress passed the “Reed Amendment,” which provides that any individual who expatriates with tax avoidance as a motive may be put on the list of “undesirables” who aren’t permitted to enter the United States under any circumstances. This list also includes suspected terrorists, child molesters and former Nazis. While no one was put on this list for a number of years, it certainly had a chilling effect on anyone who was thinking of expatriating. Recently, there’s been at least one reported instance of an expatriate being denied entry to the United States based on the Reed Amendment, and then-congressman (now senator) Jack Reed has recently asked that his amendment be applied more vigorously.
Shortly after the Reed Amendment was enacted, I discussed it before a gathering of prominent trusts and estates lawyers. I pointed out that giving up one’s citizenship is a constitutional right recognized by the Supreme Court under John Marshall, and in fact, this position helped lead to the War of 1812 with Great Britain, which claimed that one couldn’t give up one’s citizenship; therefore, formerly English sailors who had become Americans could still be impressed into the British navy. I noted that expatriation isn’t a blatant tax loophole, since few Americans do it, and the United States has had laws for decades to deal with the tax treatment of expatriates.
Being young and naïve at the time, I assumed that a roomful of experienced trusts and estates lawyers sensitive to human rights issues would share my concerns about the Reed Amendment. To my surprise, half of those present not only favored the Reed Amendment, but also probably would have supported burning expatriates at the stake if that question had been put to a vote. This half of the assemblage (none of whom had ever laid eyes on an expatriate in the flesh) found the idea of giving up a U.S. passport to be altogether heinous. When I noted that the United States was founded by individuals who moved here from other countries and gave up their citizenships in those countries, someone in the audience called out: “That was different: they were starving!” The fact that the United States has always given first priority to immigrants who are professionals, educated or wealthy and that the United States today sells more citizenships and green cards to wealthy foreigners than any other country was of no import. Anyone coming to the United States was a hero; anyone leaving was a traitor.
Why do Americans have such deeply ingrained hostilities toward expatriates? There are a number of reasons, most more emotional than rational and deeply rooted in U.S. history and culture.
Who are the Expatriates?
Most Americans assume that the typical expatriate is a sixth generation American with no prior international connection, who decides one morning that he doesn’t want to pay taxes any longer, moves out of the country by noon and mails his passport back to the State Department that evening. It’s this perceived choice of tax avoidance over patriotism, with no other possible motive, that causes Republicans to regard expatriates as unpatriotic and Democrats to consider them tax cheats. Yet, the very interesting 2003 report on expatriation by the Congressional Joint Committee on Taxation4 was unable to identify a single member of any of the wealthiest U.S. families who fit into the above pattern. Practitioners in the area agree that such cases are very rare. Instead, expatriates fall overwhelmingly into one of three categories:
1. Members of a multinational family, who may have been born outside the United States, moved to the United States at some point and became naturalized and are now moving back to their home or to another country.
2. “Accidental Americans” who were born in the United States to non-U.S. parents and have spent most of their lives outside the United States. (For more information, see “The Accidental American,” by Gavin F. Leckie in the November 2011 issue of Trusts & Estates, p. 58.)
3. American citizens who moved abroad, often to marry or work, have lived in another country for many years and acquired a non-U.S. family and decide to become a citizen of that country and give up their U.S. citizenship.
Occasionally, a wealthy American with no prior international ties explores the possibility of expatriating, acting on rumors he’s heard about huge tax savings. He may be surprised to learn that he must both move out of the United States and give up his U.S. passport. Once he’s told of these two requirements, he may drop the idea. If he doesn’t, I recommend that he live outside the United States on a full-time basis for two years before proceeding further with expatriation. Very few people who’ve never previously lived abroad pass this test and proceed to give up their U.S. passport.
Some years ago, a wealthy American from Sarasota, Fla. obtained citizenship in a Caribbean country, gave up his U.S. passport and left the United States. However, he and his family found that the substantial tax savings they realized didn’t cure their homesickness for Sarasota. This expatriate then proceeded to incur favor with the ruling political party of his adoptive country, and in return, he found himself appointed as Consul General in the new consulate that country proposed to open in, of all places, Sarasota. (Accredited diplomats may live in the United States without paying U.S. tax.) Regrettably for him, the scheme made the newspapers before his diplomatic credentials were accepted by the U.S. State Department, and he never managed to move into the new consulate.
Some readers may view this story as an example of the lengths to which certain people will go to save taxes. I would instead interpret it as explaining why so few wealthy Americans do, in fact, expatriate: They want to live in the United States. Most wealthy Americans have figured out that there’s no point in saving taxes if they can’t live where they want.
Many Americans (and the press in particular) voice the opinion that expatriates are “cheating” on their taxes. Yet, in fact, Congress has imposed taxes on expatriates for over 50 years. As indicated, there have been several changes in the law, most recently in 2008. Why is someone who gives up his citizenship, complies with all of the applicable U.S. laws and (in many cases) pays an exit tax that may be very substantial, nonetheless, considered to be a “cheat”?
Of course, once that person leaves the United States and pays his exit tax, he’ll no longer be subject to global U.S. income and estate tax, unless he moves back.5 But so what? He’ll often be subject to taxes in his new country, which may be higher if the country is Canada or France, for example. An individual who moves out of New York doesn’t continue to pay New York state income tax on income that’s not connected to New York. This reduction may be more than offset if he moves to a state with higher taxes, such as California, or he may realize a net benefit if he moves to a low tax jurisdiction, such as Florida. As long as he legitimately moves, nobody is shocked by this result or decries his change of residence as “cheating.”
The tax leakage in this area doesn’t occur because of a small number of expatriates who scrupulously comply with all of the laws that Congress has enacted. Rather, the real tax loss comes from the million or more U.S. citizens and green card holders who live outside the United States and simply fail to file U.S. tax returns. Yet, no statute analogous to the Reed Amendment has been proposed to keep these violators of the law from reentering the United States. If anyone should be the subject of opprobrium, it’s those who flaunt the laws, not those who obey them.
Citizenship Versus Residence
Renouncing a passport is a more dramatic and provocative step than a mere change of residence. However, U.S. laws compel a U.S. citizen who moves abroad to at least contemplate renunciation. The United States subjects its citizens to taxes on their worldwide income during their lives and on their worldwide assets at death, regardless of where they live. By contrast, almost every other country in the world levies taxes based on residence or domicile, not citizenship. The U.S. model is followed only by a few countries, including North Korea and Eritrea.6
The previous paragraph may cause some readers to mutter: “Aha! So it really is all about saving taxes.” But the situation is more complex than that. Americans who reside abroad must pay local taxes, then file a U.S. return claiming a credit for the local taxes paid and pay the difference (which may be negligible or substantial). To do this, they must obtain the services of a knowledgeable U.S. accountant, even though they’re living in New Zealand, Thailand or Turkey. They must convert all of their financial data into a format that’s appropriate for U.S. reporting, since this isn’t automatically provided to them by non-U.S. employers, banks and financial institutions. They must file not only tax returns, but also a variety of disclosure forms, such as the report of Foreign Banks and Financial Accounts and Form 8938, which are unknown in their country of residence and which entail substantial penalties for failure to report properly.
There are a number of investments, such as insurance products and mutual funds, which may be widely used in the country where they reside, but which don’t comply with U.S. tax requirements or don’t provide the information necessary to make an accurate U.S. tax filing. Many non-U.S. investments are closed to U.S. citizens because the institutions that offer them don’t wish to face the added tax and Securities and Exchange Commission requirements involved. Finally, a recent and widespread phenomenon is that many non-U.S. banks simply won’t take on U.S. citizens as clients, lest they be accused of facilitating tax evasion.
An American who lives abroad for two or three years will probably put up with all of these inconveniences and retain his U.S. citizenship. Those who’ve lived abroad for 10 or 15 years, have settled in a foreign country, acquired a foreign family and have no intention of ever returning to the United States, may ask themselves why they should continue to be subject to these burdens, which prevent them from integrating fully into the life of their adoptive country.7
Land of Immigrants
Americans have heard many stories of poor immigrants (often featuring their own ancestors) who arrived on our shores from distant lands seeking freedom and a better life, adopted our customs and language and achieved success while helping to build a new nation. One doesn’t often hear about people leaving the United States. America hasn’t experienced waves of emigration as other countries have. We haven’t seen a large segment of our population move temporarily or permanently to other countries for economic advantage or to escape war or persecution. We don’t have within our borders millions of people who would happily move to another country for a better life if they could. Because emigration out of the United States isn’t a part of the national story, many Americans can’t conceive of any legitimate motive for it and find the idea of leaving the United States suspicious.
However, as globalization increases, and as younger Americans more routinely study and work abroad and occasionally decide to stay there, we may eventually reach the point where, as in the rest of the world, many families have at least one or two members who’ve chosen to move to another country. At that time, the idea of emigration, and therefore expatriation, may not puzzle and shock Americans the way it does today.
Perhaps it all comes down to this: Americans believe the United States is superior to any other country on earth. How can any decent individual reject the blessing of U.S. citizenship that’s been graciously bestowed upon him? Didn’t they sing “America the Beautiful” in fourth grade like the rest of us? This quintessentially American attitude causes some foreigners to perceive Americans as arrogant and narrow-minded—after all, they love their countries, too. At the same time, millions of people around the world have chosen to move to the United States, and very few Americans elect to leave. The United States must be doing something right.
Those who are proud of the United States’ greatness should also be aware that every human story is different, some movement is inevitable in our increasingly mobile and global world, personal preferences vary and change and castigation of the small group of people who will inevitably choose to give up their U.S. citizenship every year is a sign of insecurity, rather than of national pride. If the United States is indeed the land of the free, it shouldn’t fear giving its citizens the freedom to leave, if they wish.
—This article is based on an article that originally appeared in Issue 235 (April 2013) of Offshore Investment Magazine.
1. In this article, the term “expatriate” will be used in its tax sense to signify a citizen who renounces his citizenship or a long-term (at least eight out of
15 years) green card holder who renounces his green card.
2. In recent years, the number of expatriations has ranged from 231 to 1,781 annually.
3. Internal Revenue Code Section 6039G.
4. Staff of the Joint Committee on Taxation, “Review of the Present-Law Tax and Immigration Treatment of Relinquishment of Citizenship and Termination of Long-Term Residency” (February 2003).
5. Non-U.S. persons are still taxed on U.S.-source income and U.S.-situs assets. In addition, for the covered expatriate, there may be tax for the rest of his life on distributions to him from certain trusts, and his U.S. heirs will pay an inheritance tax on receipt of gifts or bequests from him.
6. France recently considered, but didn’t enact, a law taxing its citizens who reside outside of France.
7. See G. Warren Whitaker, “Restoring sanity to taxation of US citizens who reside or have accounts abroad,” Offshore Investment Magazine (April 2012), for a series of proposed changes in the U.S. tax law to remedy this situation. To date, Congress hasn’t acted on these proposals.