"Savings clause" in US Tax Treaties guarantees US right of taxation on residents and citizens of other nations

Introduction …

It is commonly believed that U.S. Tax Treaties are for the purpose of preventing “double taxation”. In general, US Tax Treaties do NOT prevent double taxation with respect to Americans abroad. For Americans abroad, double taxation is mitigated (but not prevented) by through Internal Revenue Code S. 901 (foreign tax credits) and Internal Revenue Code S. 911 (Foreign Earned Income Exclusion).
U.S. Tax Treaties include a “savings clause” (found in different sections of different treaties) that:

1. Guarantee the right of the United States to impose taxation on its citizens who are residing in other nations; and

2. Guarantee the right of the United States to impose taxation on its citizens as though the treaty didn’t exist.

Note that these “U.S. citizens” may (and in many cases are) citizens of their country of residence.
Those countries that have signed FATCA IGAs have effectively agreed to assist the United States in imposing taxation on their own citizens and residents. This will allow the United States to legally transfer capital out of the signatory country to the United States Treasury (for better use).
May 2016 – Elazar Cole and the “Savings Clause” …

On May 16, 2010, the U.S. Tax Court in the decision of – Elazar M. Cole v. Commissioner of Internal Revenue, T.C. Summary Opinion 2016-22 (May 2016) – confirmed the principle that a U.S. citizen cannot (as a general principle) use the Tax Treaty to prevent U.S. taxation.

The decision is here:


The “Savings Clause” and the Canada U.S. Tax Treaty …

Reverend John B. Duncan was the employed “Pastor” of a Presbyterian church in Canada. At all material times he was U.S. citizen.

The relevant part of the decision reads as follows:

Second, even if those provisions of the treaty were in effect during 1979, we still disagree with petitioner’s contention that the income he earned from personal services is not subject to taxation by the United States.[10] His argument fails to take into account the savings clause provision of the treaty, which is paragraph 2 of article XXIX. In construing a treaty, the provisions of the savings clause take precedence over the other provisions in the treaty, unless the other provisions are specifically excepted from the provisions of the savings clause. Filler v. Commissioner, 74 T.C. 406, 410-411 (1980). Paragraph 2 of article XXIX reserves the right of the United States to tax the income of its citizens as if the treaty were not in effect. Since articles XIV and XV are not excepted from the provisions of paragraph 2 of article XXIX, the savings clause controls and the income 975*975 petitioner earned is subject to taxation by the United States. Since his income is subject to tax by the United States, paragraph 4 of article XXIX is not applicable.[11]

Those interested can read the complete decision in the Duncan case here.

The Savings Clause of the Canada U.S. Tax Treaty reads as follows:

Article XXIX

Miscellaneous Rules

2. Except as provided in paragraph 3, nothing in the Convention shall be construed as preventing a Contracting State from taxing its residents (as determined under Article IV (Residence)) and, in the case of the United States, its citizens (including a former citizen whose loss of citizenship had as one of its principal purposes the avoidance of tax, but only for a period of ten years following such loss) and companies electing to be treated as domestic corporations, as if there were no convention between the United States and Canada with respect to taxes on income and on capital.

Towards a new model Tax Treaty …

In 2016 U.S. Treasury released its new model tax treaty. An interesting discussion about the provisions took place at the Isaac Brock Society.

The first comment (which started a fascinating discussion) focussed on the text of the proposed “savings clause”:

Article 1 4 is the “savings clause” which is that part of the tax treaty which gives teeth to CBT, since it is this paragraph that allows the US to tax “by reason of citizenship its citizens, as if this Convention had not come into effect” (present day words in the UK-US Convention). The new words are similar, “the Convention shall not affect the taxation by a Contracting State of its … citizens”.

But then there seems to be a new second sentence which is more fierce, ending “… a former citizen or former long-term resident of a Contracting State may be taxed in accordance with the laws of that Contracting State.” On the face of it, this allows the US to tax people who have renounced and who are no longer US citizens. Perhaps FATCA will make it possible to enforce this, whereas previously it would not have been possible. Perhaps banks worldwide will need to ask “Are you – *or have you ever been* – a US citizen.” I hope I read this wrongly.

The pre-2008 expatriation regime allowed for a continued 10 year long US-taxation of covered expatriates. Perhaps this sentence is there for that, since its affect will not fully expire until 2017. The UK-US treaty has presently Article 1 6 which allows for taxation of an ex-citizen “whose loss of citizenship…had as one of its principal purposes the avoidance of tax …. but only for a period of 10 years.” A difference is that the new sentence in the model treaty does not restrict to 10 years.
Article 1 5 provides a few exceptions to the savings clause. These are not identical to the exceptions in present day UK-US treaty. Further study is needed to see if these exceptions are more generous or not. My first reading of this is that Boris Johnson would still have to pay US capital gains tax on sale of his London principal residence.

The “Savings Clause” in a FATCA world …

FATCA will reveal how the United States uses “place of birth taxation” and FATCA to extract capital from the economies of other nations. (The “savings clause” effects different people in different countries differently.)

A strong first step in a “FATCA Fight Back” would be to renegotiate ALL tax treaties to remove the “savings clause”. The Savings clause is how the United States “plants flags” in other nations. Film Maker Michael Moore understands this principle.

John Richardson – Follow me on Twitter @Expatriationlaw

One thought on “"Savings clause" in US Tax Treaties guarantees US right of taxation on residents and citizens of other nations

  1. Pingback: A Proposed Pillar 3 For International Tax Reform: Individuals Should Be Tax Residents Of Only One Country At A Time | preppodcaster

Leave a Reply