The Issue Is Not @CitizenshipTax. The Issue Is Whether The US Can Claim The Tax Residents Of Other Countries As US Tax Residents!

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Introduction – The United States has the “sovereign right” to define who are its “tax residents, but …”

Prologue

There is presently heightened advocacy directed toward the goal of influencing the United States to take action to end (what is described as) U.S. citizenship taxation. Notably this goal is for the purpose of influencing the United States to take action.

Perhaps it would be equally useful to define a separate goal of:

Not allowing the United States to claim the residents of other countries as U.S. tax residents!

Notably this goal would be to engage the governments of other countries!

Ideally both Americans abroad and their countries of residence should seek to stop the United States from reaching into those other countries and claiming the residents of those countries as U.S. tax residents!

In FATCA related discussions it has been common for Government Officials to claim that the United States has the sole right to determine who are its tax residents. Although true, this cannot mean that the United States (or any country) has the right to claim the residents of another country as its tax residents. (The debate is illuminated here and here.)

(Interestingly when the European PETI delegation visited Washington in July of 2022 they made it clear that they did NOT question the right of the United States to define European residents as U.S. tax residents. Rather, they just wanted to find a way to make it easier for European residents to be permitted to have access to bank accounts in the European countries where they live.)

It is appropriate for other countries to accept that the United States has the right (like any country) to define who are U.S. tax residents. It is completely inappropriate for Europeans to accept that the United States has the right to treat European tax residents (who actually live and work in Europe) as U.S. tax residents. By protecting European residents from the United States, European countries would be acting in a manner that is consistent with the OECD tax treaty which anticipates situations of “dual tax residency”. In circumstances of dual tax residency, the model OECD tax treaty (Article 4) provides that the treaty “tie break” will be used to assign tax residency to the country that correlates with the “circumstances of life”. (See page 111 in the document linked to in the previous sentence.) Interestingly, citizenship which absent naturalization, is based on “circumstances of birth” is considered to be the least important criterion under the treaty “tie break”rules.

The treaty tie break rules presumptively assign tax residency based on the “circumstances of life” and not on the “circumstances of birth“.

The bottom line is that, it’s time for the world to simply say:

Of course the United States can define who are its tax residents. But, the United States will NOT be permitted to treat the tax residents of our country (who actually live in our country) to be treated by the U.S. as though they are the tax property of the United States! That is the simple message that must be conveyed!!

Let’s now analyze how the United States goes about claiming the residents of other countries as U.S. taxable property. It’s explained by Mr. Paolo Gentoloni as follows …

According to Mr. Paolo Gentoloni:

The language in the tweet includes …

“Decisions on when a state applies taxes are a matter of sovereignty for any state, including the EU Member States. The possible resulting double taxation is in general prevented through domestic provisions and bilateral treaty relief, but its appropriate treatment requires the respect of the declaratory obligations of the different countries concerned. The U.S. decision to subject to tax all its citizens (and as a result to require declaratory obligations to the U.S. citizens) was taken many years ago and has always been accepted by the EU Member states as evidenced by their agreements with the U.S. to avoid double taxation.” …

When Mr. Gentoloni claims that U.S. citizenship taxation has always been accepted by EU Member states, he is referring to the “saving clause” that is part of every U.S. tax treaty.

(See the Sophi In ‘t Veld response here.)

Generally the “saving clause” has two effects:

1. It allows every person who is NOT a U.S. citizen to use the “treaty tie break” provision to be teated as a “tax resident” of only the country where that person actually lives, works and pays taxes; and

2. Ensures that the United States can ALWAYS impose the full force of the U.S. Internal Revenue Code on those residents of the treaty partner country who the U.S. defines as U.S. citizens. The “saving clause” makes clear that the United States ALWAYS has the right to tax its citizens. (In other words, because of the “saving clause”, every U.S. tax treaty partner country agrees that the United States can claim any person resident in their country as a U.S tax resident and subject them to U.S. taxes, reporting and penalties!)

(See Appendix A below which shows that the Government of Canada understands the “saving clause” to mean that the U.S. can tax Canadian residents.)

Mr. Gentoloni then continues by confirming that the United States can impose its domestic tax law on European residents.

“The status of EU citizenship is independent of and unaffected by any third party nationality held in addition to the nationality held by a Member State. A Member State must treat an individual who holds both the Nationality of a Member State and a third country as an EU citizen. In the EU context, EU citizenship takes precedence over any additional third party nationality. However, this does not prevent third countries from applying their laws on individuals holding their nationality, even if they hold the nationality of a Member State and thus EU citizenship. This is a natural consequence of dual nationality.”

How can U.S. treaty partner countries fight back against the “saving clause” in the tax treaties?

U.S. Treaty Partner countries can end the U.S. practice of claiming their residents as U.S. tax residents in (at least) three ways:

First: By refusing to agree that the United States always retains the right to presumptively deny U.S. citizens the right to the “benefits of the treaty”.

Second: By including the “treaty tie break provision” as one of the exceptions to the “saving clause” which affords U.S. citizens the right to become “treaty nonresidents” under the treaty.

Third: By including a specific provision to the effect that “A U.S. citizen will be treated as a U.S. tax resident” for the purposes of the treaty only if the U.S. citizen has a sufficient specified connection to the United States (similar to how the U.K. tax treaty treats Green Card holders).

These are three treaty modifications (and there surely are more) where treaty partners can accomplish the goal of NOT allowing the United States (under the guise of “citizenship taxation”) to claim the residents of the treaty partner country as U.S. tax residents.

It is surely time for the world to consider the following questions in the context of U.S. tax treaties …

The “treaty tie break” in Article IV of the Canada U.S. Tax Treaty states:

2. Where by reason of the provisions of paragraph 1 an individual is a resident of both Contracting States, then his status shall be determined as follows:

(a) he shall be deemed to be a resident of the Contracting State in which he has a permanent home available to him; if he has a permanent home available to him in both States or in neither State, he shall be deemed to be a resident of the Contracting State with which his personal and economic relations are closer (centre of vital interests);
(b) if the Contracting State in which he has his centre of vital interests cannot be determined, he shall be deemed to be a resident of the Contracting State in which he has an habitual abode;
(c) if he has an habitual abode in both States or in neither State, he shall be deemed to be a resident of the Contracting State of which he is a citizen; and
(d) if he is a citizen of both States or of neither of them, the competent authorities of the Contracting States shall settle the question by mutual agreement.

Notably U.S. citizens do NOT (because of the “saving clause” have the right to use this provision. This is how the United States claims Canadian residents as U.S. tax residents. Any person (think Green Card holders) except a U.S. citizen has the right to use the tax treaty to assign tax residency to ONLY the treaty partner country. Notice that under the “tie break” rules “citizenship” is the least important criterion to determine tax residency. Yet, U.S. domestic law makes citizenship a sufficient condition for U.S. tax residency! (Is this hypocrisy?)

Both individuals and governments should consider the following:

Conclusion

There is presently heightened advocacy directed toward the goal of ending what is described as U.S. citizenship taxation.

Perhaps it would be more useful to define the goal as:

Not allowing the United States to claim the residents of other countries as U.S. tax residents!

John Richardson – Follow me on Twitter @Expatriationlaw

Appendix A – The Government Of Canada and the “saving clause”

Interestingly in the ADCS FATCA Appeal the Government of Canada Factum included the following two paragraphs which show their position that by agreeing to the “saving clause” Canada has accepted the right of the United States to impose U.S. taxation on those Canadian residents that the U.S. defines as U.S. citizens.

7. The US has a long-standing policy of taxing all citizens, even if they do not reside the there.2
As a non-resident US citizen, the applicant is considered a “US Person” under US tax laws, along with resident US citizens and green card holders.

8. The legitimacy of this US policy choice is recognised by Canada in the Convention Between Canada and the United States of America with Respect to Taxes on Income and on Capital (Canada-US Tax Treaty), which is incorporated into Canadian domestic law through the Canada-United States Tax Convention Act, 1984.3

Footnote 3 SC 1984, c 20, Schedule I, Article XXIX, s. 2 (FR).

Footnote 3 specifically references the “saving clause” in the Canada U.S. Tax Treaty!

Appendix B – Some older but interesting articles on tax residency and sovereignty

ADCS FATCA Questions. Trudeau Reply

FATCA, Constitutionality, and Canadian Sovereignty

One thought on “The Issue Is Not @CitizenshipTax. The Issue Is Whether The US Can Claim The Tax Residents Of Other Countries As US Tax Residents!”

  1. Charles Buckley

    So the thrust of this article, if any, would seem to be that, because the US and other countries are signatory to the “OECD Tax Treaty” (which text was not presented with a link so that one could go read it, and is not easily findable on the OECD website) which apparently does NOT have a savings clause as do all the bilateral double taxation treaties the US had previously negotiated with individual countries, then the OECD treaty should prevail? This seems like a valid idea that might be worth pursuing, but see the above obstacles I encountered when I did. It’s so easy to be transparent; why don’t more do this?

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    Charles – see page 111 of the document as linked to in the post.

    Reply ↓

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