Monthly Archives: April 2015

Part 2 – Understanding "Exit Taxes" in a system of residence based taxation vs. Exit Taxes in a system of "citizenship (place of birth) taxation

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This is Part 2 of a 9 part series on the Exit Tax.
The 9 parts are:
Part 1 – April 1, 2015 – “Facts are stubborn things” – The results of the “Exit Tax”
Part 2 – April 2, 2015 – “How could this possibly happen? Understanding “Exit Taxes” in a system of residence based taxation vs. Exit Taxes in a system of “citizenship (place of birth) taxation”
Part 3 – April 3, 2015 – “The “Exit Tax” affects “covered expatriates” – what is a “covered expatriate”?”
Part 4 – April 4, 2015 – “You are a “covered expatriate” How the “Exit Tax” is actually calculated”
Part 5 – April 5, 2015 – “The “Exit Tax” in action – Five actual scenarios with 5 actual completed U.S. tax returns.”
Part 6 – April 6, 2015 – “Surely, expatriation is NOT worse than death! The two million asset test should be raised to the Estate Tax limitation – approximately five million dollars – It’s Time”
Part 7 – April 7, 2015 – “The two kinds of U.S. citizenship: Citizenship for immigration and citizenship for tax”
Part 8 – April 8, 2015 – “I relinquished U.S. citizenship many years ago. Could I still have U.S. tax citizenship?”
Part 9 – April 9, 2015 – “Leaving the U.S. tax system – renounce or relinquish U.S. citizenship, What’s the difference?”
“Exit Tax” – Understanding The Confiscatory Horror
Let’s begin with some politics …


In an interesting post Robert Wood writes:

Both Mayor Johnson and Senator Cruz are U.S. citizens. Both Mayor Johnson and Senator Cruz either have or are renouncing the citizenships of the countries where they were born. There will no tax consequences to Senator Cruz for renouncing Canadian citizenship. Mayor Johnson will probably be spared America’s draconian “Exit Tax” (assuming he was born a dual citizen) for renouncing U.S. citizenship. The “Exit Tax” (if applicable) is a very serious thing. Robert Wood notes that:
To leave America, you generally must prove 5 years of U.S. tax compliance. Plus, if you have a net worth greater than $2 million or have average annual net income tax for the 5 previous years of $157,000 or more (that’s tax, not income), you pay an exit tax. There is an exemption of approximately $680,000. Giving Up A Green Card can cost you too. Some people expatriate under the immigration rules and never file anything with the IRS, a practice that is generally unwise. But then, no one wants to get on the wrong side of the IRS.

As the following tweet suggests, Senator Cruz was very lucky that he was born in Canada (which does NOT impose a tax on renouncing Canadian citizenship) and NOT in the United States (which does impose a tax on renouncing U.S. citizenship).


Introduction – What is an “Exit Tax”?
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Part 1 – "Facts are stubborn things" – The possible effect of the US "Exit Tax" on Canadian residents

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This is Part 1 of a 9 part series on the Exit Tax.
The 9 parts are:
Part 1 – April 1, 2015 – “Facts are stubborn things” – The results of the “Exit Tax”
Part 2 – April 2, 2015 – “How could this possibly happen? “Exit Taxes” in a system of residence based taxation vs. Exit Taxes in a system of “citizenship (place of birth) taxation”
Part 3 – April 3, 2015 – “The “Exit Tax” affects “covered expatriates” – what is a “covered expatriate”?”
Part 4 – April 4, 2015 – “You are a “covered expatriate” How the “Exit Tax” is actually calculated”
Part 5 – April 5, 2015 – “The “Exit Tax” in action – Five actual scenarios with 5 actual completed U.S. tax returns.”
Part 6 – April 6, 2015 – “Surely, expatriation is NOT worse than death! The two million asset test should be raised to the Estate Tax limitation – approximately five million dollars – It’s Time”
Part 7 – April 7, 2015 – “The two kinds of U.S. citizenship: Citizenship for immigration and citizenship for tax”
Part 8 – April 8, 2015 – “I relinquished U.S. citizenship many years ago. Could I still have U.S. tax citizenship?”
Part 9 – April 9, 2015 – “Leaving the U.S. tax system – renounce or relinquish U.S. citizenship, What’s the difference?”
Part 1 – “Facts are stubborn things” – The results of the “Exit Tax”

factsarestubbornthings
This post will demonstrate how the U.S. “Exit Tax” affects “middle class Canadians who  have U.S. citizenship and wish to relinquish it. You will see how the “Exit Tax” imposes punitive taxes on Canadian assets and on income earned in Canada. You will also see how some U.S. assets are (in effect) exempted from the “Exit Tax”. We will learn from the example of a “Middle Class Canadian” with an average house in Toronto, a pension plan from the University of Toronto and a low value RRSP who decides that he no longer wishes to be a U.S. citizen.
This person has lived in Canada most (or perhaps all) of his adult life. You will see that he has NO U.S. assets and NO U.S. income. He was born in the United States, never officially relinquished U.S. citizenship and is therefore considered to be a U.S. citizen.
The U.S. imposes charges fees/taxes to NOT be a U.S. citizen. Everybody is required to pay an administrative fee of $2350 to no longer be a U.S. citizen. Others will have to pay an additional premium in the form of an “Exit Tax”.
In this particular case our “middle class Canadian”  would have be required to  pay the United States an additional fee in the form of an “Exit Tax”.
The amount of the “Exit Tax” is approximately $400,000 Canadian dollars.
Note that this “Exit Tax” is paid NOT on U.S. assets but completely on Canadian assets. It could very easily have been much more! Of course, if he had NOT been born ONLY a U.S. citizen he might not have to pay any Exit Tax (unless he was NOT living in Canada when he renounced) ….
This is all possible because of U.S. “citizenship (place of birth)” taxation.
The problem will be exacerbated by FATCA and by the agreement by the Government of Canada to assist the U.S. in the enforcement of FATCA in Canada

“Citizenship (place of birth) taxation” and FATCA are logically distinct but contextually related. The purpose of FATCA is to enforce “citizenship (place of birth) taxation.
This post will demonstrate  the graphic and horrific tax consequences of a middle class person in Canada who relinquishes  U.S. citizenship. If you understand this post, you will see that the claim that U.S. citizens abroad renounce citizenship to avoid taxes is absurd. In fact, it’s the exact opposite. Renouncing U.S. citizenship is more likely to subject a “long term, middle-class American abroad” to tax consequences that are horrific and unjust in the extreme.
How this works – the S. 877A “Exit Tax” rules in action  …
In order to see the graphic and brutal confiscatory effects of the U.S. Exit Tax in action I asked a licensed U.S. CPA who specializes in International Tax to consider the following factual scenario:

Relinquishment date: A person who renounced U.S. citizenship on November 1, 2014.
Profile: He was a “middle class” person who was completely tax compliant in Canada – his country of residence. He was a saver and investor. He had worked hard for this money.
The CPA was asked to calculate the Exit Tax based on the following “Financial Facts”. Note that the persons assets do exceed the $2,000,000 dollar U.S. threshold. Notice also that this example is representative of a typical “middle class” person.
Financial Facts – All amounts were in Canadian dollars.

– pension income from Canadian sources of $50,000
– principal residence bought in 1985 for $100,000 with a fair market value on November 1, 2014 of $1,200,000. The CPA calculated the taxes under the assumption that the relinquisher WOULD be entitled to the $250,000 capital gains deduction that would  normally be available under S. 121 of the Internal Revenue Code. It is NOT clear that he would be entitled to this deduction under the S. 877A rules. Note that if the S. 121 deduction does NOT apply the taxes owing will be significantly higher.
– pension from the University of Toronto with a present value of $900,000
– RRSP with a value of $500,000
– 500 shares of Telus common shares with a deemed sale on November 1, 2014 and a cost basis of half that. In other words the shares doubled.

Note that this person clearly exceeds the $2,000,000 U.S. threshold and is therefore subject to the Exit Tax. Yet he is a person with a “middle class” life style. The CPA graciously calculated the amounts to go on the Form 8854 (mandatory asset disclosure form) and calculated the Exit Tax (amount payable to the IRS to no longer be a U.S. citizen).
Our CPA calculated the “Exit Tax” based on the following five different fact patterns.
1. U.S. citizen only at birth – living in Canada – Canadian source INELIGIBLE (meaning Canadian source) pension
Exit Tax payable: $363,954 USD
2. Dual U.S./Canada citizen from birth – living in Canada
Exit Tax payable: $00.00 USD
3. Dual U.S./Canada citizen from birth living in U.K. – Canadian source INELIGIBLE (Canadian source) pension
Exit Tax payable: $363,954 USD
4. U.S.  citizen only at birth – living in Canada – U.S. source ELIGIBLE (U.S. source) pension
Exit Tax payable: $69,926 USD
5. U.S. citizen only at birth – billionaire – living in Cayman Islands – relinquishes before the age of 18 1/2
Exit Tax payable: $00.00 USD
A picture is worth a thousand words:
Exit tax chart_final
And more …
exit-tax
 
It’s because of the exacerbating factor of “citizenship (place of birth) taxation”
Notice that the most brutal and confiscatory effects of the U.S. Exit Tax are born by Americans abroad who have built their careers abroad and acquired their assets abroad. It is because of “citizenship taxation” that the U.S. is able to lay claim to income and assets earned in other countries. This results in (governments take note) U.S. confiscation taxation of capital earned in other countries.
As Ronald Reagan, remembering the wisdom of John Adams, used to say:

“Facts are stubborn things.”

The perverse application of the U.S. S. 877A “Exit Tax” is a graphic example of the immorality of a tax system that taxes people based on “place of birth”.

On April 2, 2015, in Part 2 of this series I will explore:

““How could this possibly happen? “Exit Taxes” in a system of residence based taxation vs. Exit Taxes in a system of “citizenship (place of birth) taxation”

Renouncing US citizenship? How the S. 877A "Exit Tax" may apply to your Canadian assets – 25 Parts

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Introduction:

usexittax

There is much discussion of the U.S. rules which operate to impose taxation on the residents of other countries and income earned in those other countries. You will hear references to “citizenship taxation”, “FATCA Canada“, PFIC, etc. It is becoming more common for people to wish to relinquish their U.S. citizenship. The most common form of “relinquishment is renunciation”. The U.S. tax rules, found in the Internal Revenue Code, impose taxes on everything. There is even a tax on “renouncing U.S. citizenship”. I don’t mean the $2350 USD administrative fee which everybody has to pay. (Isn’t that really a tax?). I mean a tax on your assets. To be clear:

You must pay a price to NOT be a U.S. citizen.

This tax is found in S. 877A of the U.S. Internal Revenue Code.

It’s defined as the:
“Tax responsibilities of expatriation”

Few people are aware of this tax. Fewer still understand how it works.  As FATCA operates to enforce U.S. taxation on many Canadian citizens, and increasing numbers wish to NOT be U.S. citizens, the importance of understanding the U.S. “Exit Tax” increases.

It is particularly important to understand what triggers the “Exit Tax”. You will be subject to the “Exit Tax” if you are a “covered expatriate”. You must know what that means and why, sooner or later, everybody will become a “covered expatriate”.
The “Exit Tax” is not a simple “token tax”. For Canadians, the tax can be a significant percentage of their net worth. Furthermore, the tax is payable NOT on actual gains, but on “pretend gains”. (Where would the money come from to pay the tax?)
Hang on to your seats. You will shocked, amazed and horrified by this.

Since the advent of FATCA in Canada, this issue is increasingly important.*

To be forewarned is to be forearmed!

This is a 25 part series which is designed to provide you  with some basic education on:

How the U.S. S. 877A Exit Tax rules work; and

How they particularly affect Canadians with a U.S. birthplace, who lived most of their lives in Canada.

This will be covered over a 9 day period in a “9 part” series. (It has since been expanded to 25 posts and counting.)

Although this series is beginning on “April Fools Day”, I assure that this is NOT a joke.

The 25 parts are:

Part 1 – April 1, 2015 – “Facts are stubborn things” – The results of the “Exit Tax”

Part 2 – April 2, 2015 – “How could this possibly happen? “Exit Taxes” in a system of residence based taxation vs. Exit Taxes in a system of “citizenship (place of birth) taxation”

Part 3 – April 3, 2015 – “The “Exit Tax” affects “covered expatriates” – what is a “covered expatriate“?”

Part 4 – April 4, 2015 – “You are a “covered expatriate” How is the “Exit Tax”  actually calculated”

Part 5 – April 5, 2015 – “The “Exit Tax” in action – Five actual scenarios with 5 actual completed U.S. tax returns”

Part 6 – April 6, 2015 – “Surely, expatriation is NOT worse than death! The two million asset test should be raised to the Estate Tax limitation – approximately five million dollars – It’s Time”

Part 7 – April 7, 2015 – “Why 2015 is a good year for many Americans abroad to relinquish U.S. citizenship – It’s the exchange rate”

Part 8 – April 8, 2015 – “The U.S. “Exit Tax vs. Canada’s Departure Tax – Understanding the difference between citizenship taxation and residence taxation”

Part 9 – April 9, 2015 – “For #Americansabroad: US “citizenship taxation” is “death by a thousand cuts, but the S. 877A Exit Tax is “death by the guillotine””

Part 10 – April 10, 2015 – “The S. 877A Exit Tax and possible relief under the Canada U.S. Tax Treaty”

Part 11 – April 11, 2015 – “S. 2801 of the Internal Revenue Code is NOT a S. 877A “Exit Tax”, but a punishment for the “sins of the father (relinquishment)”

Part 12 – April 12, 2015 – “The two kinds of U.S. citizenship: Citizenship for “immigration and nationality” and citizenship for  “taxation” – Are we taxed because we are citizens or are we citizens because we are taxed?”

Part 13 – April 13, 2015 – “I relinquished U.S. citizenship many years ago. Could I still have U.S. tax citizenship?”

Part 14 – April 14, 2015 – “Leaving the U.S. tax system – renounce or relinquish U.S. citizenship, What’s the difference?”

Part 15 – May 22, 2015 – “Interview with GordonTLong.com – “Citizenship taxation”, the S. 877A Exit Tax, PFICs and Americans abroad”

Attention: Parts 16 – 21 focus on the “dual citizen exemption in the context of Canada’s Citizenship laws.

Part 16 – February 16, 2016 – “Why the S. 877A(g)(1)(B) “dual citizen exemption” encourages dual citizens from birth to remain US citizens and others (except @SenTedCruz) to renounce” – Note that this module is composed of Parts 16 – 21 – six posts.

Part 17 – February 16, 2016 – The history of Canada’s citizenship laws: Did the 1947 Canada Citizenship Act affirm citizenship or “strip” citizenship and create @LostCanadians?

Part 18 – February 16, 2016 -The S. 877A “dual citizen” exemption – I was born before the first ever Canada Citizenship Act? Could I have been “born a Canadian citizen”?

Part 19 – February 16, 2016 – The S. 877A “Dual Citizen” exemption: The 1947 Canada Citizenship Act – Am I still a Canadian or did I lose Canadian citizenship? (The “Sins Of The Father”)

Part 20 – February 16, 2016 -The S. 877A “Dual Citizen” exemption: The 1947 Canada Citizenship Act and the requirements to be “born Canadian”

Part 21 – February 16, 2016 – “The S. 877A “Dual Citizen” exemption: I was born a dual citizen! Am I still “taxed as a resident” of Canada?”

Part 22 – February 29, 2016 – “The S. 877A “Dual Citizen” exemption: MUST certify tax compliance for the five years prior to relinquishment”

More on the United States Expatriation Tax – ongoing miscellaneous:

Part 23 – “How the 1966 desire to “poach” capital from other nations led to the 2008 S. 877A Exit Tax”

Part 24 – “Clinton Treasury representative Les Samuels explains why the U.S. Exit Tax SHOULD apply to the assets of Americans abroad”

Part 25 – “Relinquishing US citizenship: South African Apartheid, the Accidental Taxpayer and the exit tax”
 
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* Why this is of increased importance: The role of FATCA and U.S. taxation in Canada

A picture/video tells a thousand words. Have a look at the “Rick Mercer FATCA video” in the following tweet:

FATCA is U.S. law which is designed to identify financial assets and people, outside the United States, that the U.S. believes are subject to its tax laws. (It makes no difference whether the person is a Canadian citizen”.) This includes people who were:

– born in the U.S.

– Green card holders

– people born to U.S. parents in Canada

– “snow birds” who spend too much time in the United States

The Government of Canada is assisting the United State to implement FATCA in Canada. To be specific:

– on February 5, 2014 the Government of Canada formally agreed to change Canadian law to identify “U.S. connected” Canadians in Canada

– in May of 2014, the Government of Canada passed Bill C 31 which contained the implementing legislation

– on July 1, 2014 FATCA became the law in Canada

– since July 1, 2014 many Canadians have received a “FATCA Letter” (can the U.S. claim you as a taxpayer?)

The Alliance For The Defence Of Canadian Sovereignty has sued the Government of Canada in Federal Court on the basis that the participation of the Canadian Government in FATCA, is in violation of the Charter Rights of Canadians. You can keep up with their progress on the Alliance blog” which is here.
FATCA is a tool to enforce “U.S. taxation in Canada”. The result is that more and more Canadian citizen/residents  will be forced to pay U.S. taxes. But, U.S. tax rules include much more than tax. They are source of comprehensive information gathering and “information returns”. Typical returns required by U.S. taxpayers in Canada include: FBAR, FATCA Form 8938, Form 5471, Form 3520, Form 3520A and many more.

In addition, U.S. tax rules are different from Canadian tax rules. The most painful example is that when:

– Canada allows a “tax free” capital gain on your principal residence
– the U.S. imposes a 23.8% tax on the sale of your principal residence (you get a $250,000 deduction)

Sound horrible?

It is, but:

It’s only Canadian citizens with a past “U.S. connection” who will be subject to these taxes. It is estimated that approximately one million Canadians may be subject (as “U.S. Subjects”) to these rules. But, Canadians with a “U.S. connection” are members of families. Therefore, U.S. taxation in Canada will impact all members of a Canadian family which has at least one “U.S. connected” member.

John Richardson Follow me on Twitter @Expatriationlaw

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