Prologue

In February of 2022, I began a series of posts discussing the problem of U.S. citizenship taxation. That post – The Road To Tax Reform For Americans Abroad: Part 1 – The Problem Is The System And Not The Party – concluded with:

As long as citizenship-based taxation continues and tax laws continue to evolve, whatever political party is in power will – by changing tax laws – continue to damage the lives and finances of Americans abroad.

Individual American Abroad Must Unite To Get This System Of Law Changed

https://t.co/Fcv7TCLs9x

— John Richardson – Counsellor for US persons abroad (@ExpatriationLaw) February 19, 2022

Conclusion for today: The problem is the system! It’s not the political parties.

You have the right to vote. The question is not which party to vote for. The question is how can you most effectively use your vote to end US citizenship-based taxation and encourage FATCA repeal.

Who does citizenship taxation really impact? How does it impact people? What does it actually mean?

The term “citizenship tax” is abstract and meaningless without context. What does it really mean? In this short post I attempt to describe the defining aspect of US tax residency in simple terms.

Bottom line:

The ONLY contextual meaning of taxing based on citizenship is that it allows the US to impose tax on income earned outside the United States by people who live outside the United States.

Here is why …

What exactly is “citizenship taxation”? How/why does citizenship matter? It’s not what the “treaty partner” countries think!

1. Like all countries the United States imposes worldwide taxation on its residents. Individuals living in the United States will meet the “substantial presence” requirements and are therefore taxable on their worldwide income. Citizenship is irrelevant.

2. Like all countries the United States imposes taxation on income sourced in the United States. Generally the United States will have the first right of taxation and has the ability to withhold tax. Citizenship is irrelevant.

3. Like no other country (OK, sort of Eritrea) the United States imposes taxation on the non-US source income of people who do not live in the United States and do live in other countries. The US usually claims this right because those people were “Born In The USA” (making them US citizens). Therefore, the US imposes worldwide taxation on people who live in other countries. Citizenship is relevant because it is why the US claims the right to tax people who don’t live in the US and are residents of other countries.

4. Therefore, the practical meaning of “citizenship taxation” is the United States imposing taxation on the non-US source income earned by people who live in other countries. To be clear: citizenship taxation means that the United States is claiming the residents of OTHER countries as US residents for tax purposes!

5. This means that: Every country in the world who signs a tax treaty with the United States that includes a “saving clause” is agreeing that the United States has the right to tax income earned in the treaty partner country by residents of the treaty partner country. It is obvious that countries signing these treaties have no idea what they are signing. The problem has been further illuminated by the recent US Croatia tax treaty that allows the United States to imposes taxation on Croation residents who ARE and WERE US citizens.

Citizenship taxation is mostly taxation based on the circumstances of birth rather than the circumstances of life!

Citizenship is largely conferred by birth. Sometimes citizenship is conferred because of birth in a country (those born in the USA). Sometimes citizenship is conferred because of the citizenship of your parents (those born abroad to U.S. citizen parents). But, unless you are a naturalized citizen your citizenship is largely determined by the circumstances of your birth. Let’s consider this in the context of U.S. citizenship taxation:

1. Some (but not all) countries (like the USA) confer citizenship based on birth in the country.

2. There are ONLY two countries that make citizens (regardless of their residence) tax residents.

The United States is the ONLY country that does both!!

What is the definition of U.S. citizenship taxation?

US citizenship taxation means that the US can tax the non-US source income of residents of other countries! – because and ONLY because the person was born in the USA or born outside the U.S. to a U.S. citizen parent! You would be surprised how many people fit that definition.

(By the way, this is discrimination based on citizenship resulting from the “circumstances of birth”.)

For Americans abroad to every be free, U.S. citizenship can no longer be relevant to tax residency. The ONLY way that “citizenship taxation” can end is when citizenship is completely severed from tax residency! This means that citizenship is no longer relevant in deciding whether an individual is subject to income taxation.

John Richardson – Follow me on Twitter @Expatriationlaw