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International Tax and Public Finance

Erschienen in:

13.12.2022

Citizenship and taxes

verfasst von: Paul R. Organ

Erschienen in: International Tax and Public Finance | Ausgabe 2/2024

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Abstract

The U.S. tax system applies to its citizens’ worldwide incomes and estates, whether those citizens live in the U.S. or abroad. Fully escaping the U.S. tax system requires renouncing U.S. citizenship, and in recent years a growing number have done so. Using administrative tax microdata, I provide new descriptive information about the population of individuals who have renounced U.S. citizenship. The typical renouncer had long lived abroad, was slightly wealthier than the typical American, and reported no or little net U.S. tax liability prior to their renunciation. Combined with information on the foreign jurisdictions where renouncers reside, the evidence suggests that most recent renunciations are a result of increasing compliance costs of maintaining U.S. citizenship while living abroad, and not a response to U.S. tax liability.

Vorheriger Artikel Welfare type and income inequality: an income source decomposition including in-kind benefits and cash-transfers entitlement

Nächster Artikel Optimal fiscal policy with a balanced-budget restriction: revisiting Chamley and Barro

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Only two other countries, Eritrea and Myanmar, similarly tax their citizens regardless of residence. Eritrea levies a flat income tax of 2% on its citizens living abroad; Myanmar applies the same rates to its citizens’ income, whether derived at home or abroad.

I use the term “expatriation tax system” to refer to the laws and tax regulations that govern expatriation and citizenship renunciation; these include filing and reporting requirements, and tax liabilities incurred at and after renunciation. Following previous literature and the terminology of related legislation, I use the term “expatriation” to mean giving up U.S. citizenship, rather than merely moving abroad.

I rely on the list of tax havens used in Johannesen et al. (2020). As they note in footnote 1, “This list does not have any official role in IRS enforcement efforts.” Neither the IRS nor the U.S. Treasury have an officially accepted definition of a tax haven.

There are two model types of IGAs, Model 1 and Model 2. Belnap, Thornock, and Williams (2021) show specifically that Model 1 IGAs, comprising the vast majority of IGAs, were associated with higher-quality information sharing and thus higher FFI costs, relative to the combined group of Model 2 IGA and non-IGA jurisdictions.

I am especially grateful to Tom Hertz at the IRS for developing these data.

Appendix A, Figure 6 shows the annual counts using publicly available information, with counts for 1962–1994 from Joint Committee on Taxation (1995) and counts for 1998–2020 from the Federal Register.

For example, Naughtie (2021) describes those renouncing as “leaving the US”, and Kingson (2021) describes the decision to renounce as a decision to “flee.”

This is an imperfect proxy that in general would bias towards classification into the first group, as some individuals may maintain addresses in the U.S. even while living abroad, or may use a U.S.-based tax preparer’s address on their filings. Because not all renouncers are primary filers, I search for tax filings associated with their TIN as either primary or secondary filers, to ensure as much pre-renunciation location information about each individual as possible.

For example, some public press articles specifically mention the examples of Tina Turner (Wood 2013, McGinty 2020) or Facebook co-founder Eduardo Saverin (McGinty 2020).

For example, consider the case of Oleg Tinkov, who had true net worth in excess of $1 billion but filed a Form 8854 reporting less than $2 million in net worth, and was subsequently indicted and pled guilty to filing false tax returns (Department of Justice, Office of Public Affairs 2021).

In September 2019, the IRS announced “Relief Procedures for Certain Former Citizens”, which provide alternate means for satisfying the tax compliance certification process, available to U.S. citizens with a net worth less than $2 million and an aggregate tax liability of $25000 or less for the year of expatriation and the five prior years (https://www.irs.gov/individuals/international-taxpayers/relief-procedures-for-certain-former-citizens).

These population estimates are for households, and thus weighted towards higher amounts, relative to the renunciation statistics which are for individuals.

The 2018 Credit Suisse Global Wealth Report estimates that 17.35 million Americans were millionaires, or 7.1% of the adult population.

For example, legislative changes in the 1990s reportedly came about because then President Bill Clinton read about the tax-motivated expatriation of six wealthy Americans in Forbes magazine (Cooper and Melton 1995). More recently, Senators Chuck Schumer and Bob Casey proposed a bill to punish Facebook co-founder Eduardo Saverin for his pre-Facebook IPO expatriation (Romm 2012). The bill, titled the Expatriation Prevention by Abolishing Tax-Related Incentives for Offshore Tenancy, or Ex-PATRIOT Act, failed to make it out of committee.

Appendix A, Figure 18 shows a similar pattern when considering the average liability over the five years prior to renunciation.

Destination here refers to the foreign jurisdiction listed as a renouncer’s country of tax residency (when reported) or general residency (when tax residency is not reported or available). In almost all cases, tax residency and general residency are the same: more than 99% of the records with both tax residency and general residency have the same jurisdiction reported for both.

Press reports describe numerous anecdotes of U.S. citizens abroad facing such difficulties. See, e.g., Williams (2014), “U.S. expats find their money is no longer welcome at the bank” and Graffy (2015), “The law that makes U.S. expats toxic.” Some of these difficulties are only now starting to arise, as FATCA implementation was not necessarily immediate; France, for example, was set to start reporting information in 2020, prompting an August 2019 article warning of pending bank account closures for 40,000 U.S. citizens (Goncalves 2019).

One important group of individuals who were particularly affected by the enforcement changes were those hiding assets abroad. These individuals faced an ever-increasing likelihood of being discovered by the IRS. One response to this would be to come clean, pay any necessary penalties, and maintain U.S. citizenship. Another response would be to drop U.S. citizenship in an attempt to “sneak out” before the hidden assets could be discovered. However, because hidden assets are unobservable it is not possible to test directly whether individuals with such assets were more likely to expatriate following the increased enforcement actions.

Dharmapala (2016) models the behavior of FFIs under FATCA, with FFIs passing on the costs of information sharing to their accountholders through increased fees.

For instance, the JCT report notes at p. 7 that there may be discrepancies between the definitions used for the yeas 1962–1979 and 1980–1994.

Among all covered expatriates, nearly 90% are over the net worth threshold, while only about 25% are over the average income tax liability threshold. The evidence suggests there is little direct response to the average income tax liability threshold, in that there is no bunching below that threshold. One explanation is that it is harder for taxpayers to adjust an average based on past-5 years income tax liabilities than it is to adjust reported net worth at the point of expatriation.

That the pattern is visible both before and after the HEART Act suggests that covered expatriate designation was viewed as costly even without the mark-to-market exit tax consequences introduced under the HEART Act.

For this analysis, I rely on gift amounts reported on Form 709 and charitable contributions reported on Schedule A.

Reported net worth is only completely available since mid-2004, when Form 8854 began to require all filers to list their reported net worth; prior to this change, only those with net worth above the tax-motivation threshold ($622 K in early 2004, adjusted upward for inflation over 1998–2004) were required to report this information.

I use the prior year to ensure a full year’s income is reported. In the year of renunciation itself, those renouncing citizenship file a Form 1040 representing the portion of the year they are a citizen, and may file a Form 1040 NR for the remaining portion of the year after they have renounced.

Those without filings or TINs are excluded due to lack of income data.

See, e.g., the Nomad Capitalist (https://nomadcapitalist.com/) or 1040Abroad (https://1040abroad.com/about/).

For example, whether a taxpayer already lives or holds citizenship abroad; the amount and type of income a taxpayer receives currently and expected to receive in the future; the amount and type of assets a taxpayer holds currently and expects to bequeath in the future; the tax system of the anticipated destination country; and whether a taxpayer is currently compliant on their U.S. taxes.

The thresholds during 2019 were $168 K (average past-five-years income tax liability) and $2 M (net worth). Figure 19 shows how these have changed over time. Note that the income tax liability threshold is applied to tax liabilities, not incomes; to have an income tax liability of $168 K in 2019 would have required income of more than $500 K. This distinction is sometimes missed in discussion of the expatriation tax system, with some suggesting that the threshold applies to income itself (and thus implying that many more individuals would be treated as covered expatriates according to this threshold than is truly the case).Fig. 21Statutory covered expatriate thresholds and gains exemptions over time

Between 1997 and July 2002, 270 applications for private letter rulings overturning the presumption of tax-motivated expatriation were made to the IRS. Of these about half received favorable responses, and all but 11 of the remainder received neutral responses. Favorable and neutral responses meant that applicants could proceed without fear of further IRS enforcement under the expatriation tax regime. This suggests that roughly 96% of appeals were successful (259/270 = 0.959) (Kwong 2009, 421).

Arsenault (2009) provides further information on the first two changes. For the Form 8854 filing requirement, see the amendment history of IRC §7701(n); the 2004 AJCA added §7701(n), stating that an expatriating individual is still treated as a citizen or resident of the U.S. until that individual “provides a statement in accordance with Sect. 6039G.”.

Exceptions include deferred compensation items, specified tax deferred accounts, and interest in non-grantor trusts.

For expatriations during 2019 the first $725 K of gains are exempt. Figure 19 shows how the exempted amount has changed over time.

Expatriating individuals are still required to file Form 8854 under IRC §6039G, but after the 2008 HEART Act’s removal of IRC §7701(n), failure to file Form 8854 no longer carries the consequence that an individual is treated as a U.S. citizen or resident for tax purposes until the form is filed. This change lowered the cost of non-filing and may help explain the large share of expatriating individuals in recent years without Form 8854 filings.

Kim’s estimates of renunciation rates show that the highest rates were in jurisdictions with military draft systems, with the top three rates observed for South Korea, Singapore, and Taiwan. While the relative comparison of rates across jurisdictions is certainly of interest, the many factors influencing citizenship decisions make it difficult to draw conclusions from these cross-jurisdiction comparisons. By focusing on the decisions of individuals specifically with respect to U.S. citizenship, observing trends over time, and using individual microdata, much can be learned about the motivation for citizenship renunciation and its connection to the tax system.

If required to specify customers in advance, the IRS would not have been able to meaningfully pursue the relevant information. U.S. taxpayers hiding assets did not notify the IRS of their holdings, and thus could not be identified ex ante and specified in requests for information.

Between 2008 and 2010, the U.S. signed such agreements with six jurisdictions: Liechtenstein, Luxembourg, Malta, Monaco, Panama, and Switzerland.

As noted above, due to data accessibility I focus in this paper on citizenship and not long-term residency status, but similar arguments can be made for the long-term resident population, with similar conclusions about the effect of the tax system on individuals’ decisions. In each year, the number of individuals relinquishing long-term residency status is far lower than the number applying for it.

I am not the first to draw this comparison; a similar point was made by Elise Bean in her testimony before the House Subcommittee on Government Operations in a hearing titled “Reviewing the Unintended Consequences of the Foreign Account Tax Compliance Act,” held on April 26, 2017. In some respects, the discussion of renunciations is similar to that of corporate inversions: although the absolute number occurring is relatively small, there is still significant public press and legislative focus on the issue.

A similar framing considers citizenship as insurance. Herzfeld and Doernberg write that, “In effect, a citizen of the United States has an insurance policy, and taxes are the cost of maintaining that policy” (Herzfeld and Doernberg 2018, 24).

Some individuals who expatriate continue to file Form 1040 or Form 1040 NR after renunciation, depending on their income sources and other circumstances.

Schedule C includes income and loss from a business or profession practiced as a sole proprietor; Schedule E includes income and loss from rental real estate, royalties, partnerships, S corporations, estates, trusts, and residual interest in real estate mortgage investment conduits (REMICs).

In this main specification, seeking to explain the recent increase in Droppers, I include only the Droppers as renouncers, excluding Movers from the dataset in any year where they appear. I also run the models including all renouncers, and the results are nearly identical; see Table 13

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Titel: Citizenship and taxes
verfasst von: Paul R. Organ
Publikationsdatum: 13.12.2022
Verlag: Springer US
Erschienen in: International Tax and Public Finance / Ausgabe 2/2024
Print ISSN: 0927-5940
Elektronische ISSN: 1573-6970
DOI: https://doi.org/10.1007/s10797-022-09767-5

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