PurpleExpat’s Assessment of the Democrats Abroad plan to fix tax problems for US Citizens abroad
March 6, 2018, By Greg Swanson with input from Karen Alpert from Fix the Tax Treaty (Thank you).
Update: March 11, 2018, There has been a concern expressed that it is misleading that his plan was jointly developed by DA and ACA. That is not the case and it was not our intention to give that impression. The basis of this plan was made independently by ACA. From our available information, DA produced the “3 Solutions” document as an overlay to the ACA RBT plan. We apologize if this was not clearly communicated clearly.
A special thanks to Karen Alpert for her help. We would also like to thank DeeDee Gierow from DA’s Tax team for her cooperation and efforts. We also would like to thank the ACA for their efforts in generating this plan.
For more information
The following information is a quick assessment of the Democrats Abroad “Three Solution” plan to fix our tax problems. This is a completely non-partisan view of this plan based on our basic principles of the PurpleExpat.
- Our goal is to ensure being an American abroad should never lead to discrimination.
- Our demands are simply to be on the same playing grounds as any other expat from any other country.
- We believe that freedom of movement is a core American value. Therefore our freedom of movement should never be limited in any way by our Government’s tax or economic policies.
We will try to suggest changes to make the plan more suitable to fit those objectives.
What we like
- US citizens residing abroad would “in general” be removed from the category of individuals subject to US income tax, and would “in general” be placed in the same category as nonresident aliens. By tying us to nonresident aliens, this could be a simple and straightforward method of implementing RBT, and it is already in place in the tax code.
- We also like that the “savings clause” in nearly all tax treaties which allows the US Government to tax us at will, would no longer apply.
- U.S. Social Security benefits would be taxed as US income and are subject to withholding tax. With this, we applaud the DA’s recommendation to repeal the Windfall Elimination Provision.
- Elimination of taxing foreign welfare payments. We feel that this is currently an immoral taxation of another country’s social net and should actually be illegal.
- We also applaud the DA recommendation to exempt small to medium-sized American owned businesses from the 15.5% repatriation tax, currently called for in the Tax Cut and Jobs Act, passed by Congress in December 2017.
- We also applaud the recommendation to modify the tax treatment of GILTI to give small to mid-sized American owned foreign businesses the same offset deductions that large multinational companies receive. However, we would like to suggest that GILTI should not apply to corporations owned by bona fide nonresidents.
What we do not like
Hurdles / Bureaucracy
There are a lot of hurdles to qualify to receive a “departure certificate.” A departure certificate is a certificate issued by the IRS that says that you qualify to receive the “benefits” of RBT. These hurdles include:
Being a bonafide resident of the country where you live for a period of 5 years prior to the year of claiming non-resident status. (Grandfather clause for those already living abroad)
Often expats move from one country to another. It is not clear if this rule means that an expat must be bonafide in one country for a 5 year period or bonafide as being non-resident for a 5 year period. Many expats have lived in more than one country, however, have not lived in the US for many years. This will also reduce the mobility of the expat without reason.
Departure Certificate is valid only after IRS approval.
There is no time limitation on the time that the IRS has to process the Departure Certificate application. So, after waiting 5 years to be able to apply, you may have to wait X years to receive your certificate? Since the Certificate “benefit” is not retroactive, this exposes the taxpayer to a very long wait and further exposure to double taxation in addition to exchange rate risk on the possible application of the Departure Tax.
Additionally, it is not known what happens if the taxpayer moves countries after the application for a Departure Certificate is made; Does this invalidate the application? Would the desire to receive RBT lock a taxpayer in place and eliminate their freedom of movement over a period of several years?
Fees are the same as renunciation fees. Currently, the fee for renouncing citizenship is $2350. In order to receive the benefit of RBT, the same fee would be paid to try to receive the Departure Certificate as if a taxpayer was renouncing citizenship. It is not known if this fee is refundable if the Departure certificate is rejected. It is also not known if this needs to be paid in advance while filing for the Departure Certificate or payable when the Departure Certificate is issued. With such a high fee, lower income expats will be unable to afford a Departure Certificate.
The provision of departure tax is generally the same as the provisions and thresholds for renouncing citizenship (under expatriation to avoid tax). If certain thresholds are met, all property is treated as sold at a fair market value on the day before the expatriation date (assume the date that the Departure Certificate is issued).
There is a difference between being taxed as a resident of another country for a period of time verses renouncing citizenship. The ACA model, in nature, eliminates the possibility that an expat could ever want to return to the US after receiving a Departure Certificate. In this case, there is no difference in keeping citizenship or renouncing citizenship. Renouncing is actually preferable as it eliminates further information reporting.
In fact, it is unclear that if the expat would pay the departure tax, then after deciding to return to the US, rather or not the expat would be taxed again on the realization or liquidation of the asset for which they had already paid a departure tax. Someone keeping their citizenship is simply residing in a different tax jurisdiction. This may or may not be permanent. The US tax code should allow the non-resident to defer taxes on assets.
The plan includes “Same Country Exception” (SCE) as a resolution to our FATCA issues.
Same Country Exception means that your Financial Institution is released from FATCA requirements for your bank account if your bank account is in the same country where you live.
Although theoretically an improvement, whether or not this will help (or possibly hurt) will be determined by how the IRS / Treasury implement it. Typically, the US Government places the policing responsibilities on our “Foreign Financial Institutions” (FFIs). Placing further requirements and potential risks on our FFIs will actually cause the US Citizen to not only cost more but could be highly difficult for the FFI to manage our accounts, increasing rather than reducing the problem.
We have asked DA if any due diligence and discussions with FFIs to check the impact of SCE. We have not received positive feedback. Since it is this lack of due diligence that creates “unintended consequences”, the PurpleExpat has engaged with two banks and is trying to get feedback from the Swiss Banking authorities to assess the potential risk or improvement of SCE. Questions of compliance immediately were expressed. Would the bank be held responsible for the US Citizens status of being a “US tax bonafide resident” or could they simply use their normal KYC rules? Would the bank be held responsible if they did not report a bank account for an American that had an extended stay in the US? These are some of the questions that have already been asked.
Secondly, the Residence Based tax (RBT) plan also calls for a “Departure Certificate,” that would be valid if the expat would move from one country to another (with a few exceptions of tax haven countries or sanctioned countries). In other words, a Departure Certificate means that you qualify for RBT no matter where you live, not just a single “same country”.
Therefore, FATCA Same Country Exception, being based only on the country where you currently live, does not overlap with the open nature of the Departure Certificate. Often, if you move from one country to another, you will keep the old bank account open while you are transitioning, or even longer, to pay latent bills. The old bank account would technically not be in your “Same Country.” However, placing the Same Country requirement on FATCA serves absolutely no purpose to the US authorities because you are no longer in the US tax jurisdiction, assuming you would have a Departure Certificate.
Our suggestion, (without suggesting a FATCA repeal) within this plan, is to change the FATCA Same Country Exception to a Non-resident Exclusion, or a repeal of FATCA for non-residents. A non-resident exclusion would be simple, clear, and more in-line with normal business practices in other countries (largely under OECD CRS reporting).
The plan does not address the renunciation of accidental Americans. FATCA implementation exposed many people as being American who did not even know that they were American. FFI discrimination occurred with many people who simply and accidentally were born in the US. Many didn’t spend more than a few months in the US. This is immoral. Renunciations fees and requirements should be waived.
The plan calls for different categories of Americans living abroad.
- Bonafide Resident (Residency Test)
- Bonafide Resident under CBT by choice
- Bonafide Resident that does not meet the requirements (yet) of applying for a Departure Certificate
- Bonafide Resident that has applied for a Departure Certificate and still in process
- Bonafide Resident with Departure Certificate
Replace all categories with a simple Bonafide Non-Resident under the bonafide residency test. If the expat has established a residency in another country, is registered as a taxpayer in that country, they should be under RBT. This is not only more straightforward, it is in line with other countries, much easier to manage from the IRS perspective, and allows for freedom of movement of our citizens. Residence tiebreaker provisions in the current treaties could be used to determine residence so that individuals are generally considered tax residents in only one country at a time.
Automatic / No fees needed
If the process of acceptance, mentioned above, is automatic, there is very little or any cost by the IRS to manage RBT. Furthermore, after the original automatic acceptance, the IRS actually will reduce cost in dealing with expats. We support the idea of DA to eliminate the 1040 form. However, we also believe that there is no purpose served by reporting our continued residence abroad to the IRS on a yearly basis. We should inform the IRS when departing and when returning. Elimination of fees would allow universal participation and also be in line with other countries.
Eliminate other requirements.
If an expat has tax debt or is not up-to-date with filing, that does not go away. In this case, we would also suggest one final “amnesty” program to allow the remaining expats to file three previous year’s taxes. This would enable a good standing and a lower the ongoing administration for RBT.
Allow tax deferral of the Departure Tax
The departure tax should apply only to those with a net worth above the estate tax threshold when nonresident status is established. The RBT Taxpayer is not dead nor is he/she renouncing citizenship. Collection of the departure tax can still be made while an expat is being taxed on residency. Asset reporting may be necessary, however, the taxpayer should be able to defer tax payment until realization or liquidation. Under the current plan, it seems that the thinking is that the expat will, under no circumstances, return to the US.
If FATCA is not repealed outright, replace FATCA SCE with a Non-Resident exclusion from FATCA
Under FATCA SCE, compliance management caused by SCE could actually cost FFIs more money and risk in dealing with US customers. The FFI would be at more risk during a transition phase when an expat moves from one country to another. Secondly, there are many people who actually live in one border area and work in another. Lastly, many small business owners have the need to set up bank accounts in different countries (often required by law). Since collecting this data on non-residents, who are not within the tax jurisdiction of the US government, would not be needed in an RBT system, we would recommend that FATCA is excluded for non-residents. We believe that this is a simplified solution that will allow FFIs to deal with Americans like any other nationality. Furthermore, implementing a Non-resident exclusion would also allow FATCA to harmonize with CRS so that banks could use a single KYC/AML compliance system for all customers, thus eliminating unneeded discriminatory risks of FFIs in dealing with US customers. This way, compliance with money laundering and tax evasion activities could be managed in a standardized way.
FBAR Repeal for non-residents
There would be no case where an FBAR would be necessary for non-residents. However, if a non-resident would return to the US while keeping the “foreign” bank account, the taxpayer would be required to file an FBAR. The FFI would also be required to report FATCA information for US residents.
Accidental American renunciation fees and requirements should be waived
There are many cases of people who did not even know that they were American that have fallen into the trap of our nightmarish handling of Americans abroad. We urge all parties to implement an automatic cost-free renunciation without obligation for people who were born in the US to foreign parents and have spent no time residing in the US as adults. No fees should be assessed, nor exit taxes applied. This nightmare is simply not what America stands for.