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No Taxation Without Expatriation

Meet Fabien Lehagre. He moved from California to France at the age of two when his French father and American mother divorced. Now, in his thirties, Lehagre works as a salesman for an oil company in Littany, France. Recently, his bank requested his social security number and asked him to fill out forms for the US Internal Revenue Service (IRS). He was dumbfounded: He had not lived in the US since he was a toddler, he had not renewed his US passport since then, and he did not even speak English! Why would he owe taxes to the United States?

Lehagre’s story is not unusual. Many countries tax the foreign income of resident citizens. However, only the US taxes the foreign income of nonresident citizens at the same rate as resident citizens. An American working abroad permanently must still file taxes to the IRS every year. Furthermore, under the Foreign Account Tax Compliance Act (FATCA) and Bank Secrecy Act (BSA), US citizens are required to report accounts that contain foreign deposits worth more than $10,000, and foreign banks must report the account information of Americans to the IRS. In essence, American expatriates are often paying taxes to a government from which they receive no direct benefits, unless there is a specific bilateral tax treaty between the US and the country of residence. This situation raises an important question: Why does the US tax the foreign income of nonresidents in the first place?

To answer this question, we need to first examine the philosophy of taxation itself. In The Wealth of Nations, Adam Smith posits the following as his first maxim of taxation: “The subjects of every state ought to contribute towards the support of the government, as nearly as possible, in proportion to their respective abilities; that is,in proportion to the revenue which they respectively enjoyunder the protection of the state.

Indeed, US citizens living abroad do receive consular assistance from their local embassies in emergencies and benefit from visa-free access to many countries granted by a US passport. However, aside from this, they do not receive much protection—or much in other services—from the US government at all. In fact, most countries offer similar small benefits to their citizens living abroad while not taxing foreign income at all or only taxing the foreign income of residents.

One might argue that nonresident citizens do receive some protection from the state, since the US military maintains bases across the globe. However, what then would prevent US military protection from justifying the taxation of every citizen of a country with an American military base? Another major benefit of being a US citizen is having the right to vote in American elections. However, the benefits that nonresident citizens gain by participating in American democracy are minimal at best, as very few of the policies enacted by elected representatives apply to them.

Thus, it doesn’t make sense to tolerate the absurdity of taxing nonresident citizens, especially when the protection they enjoy from the American government is only marginally higher than that of any non US citizen. Even if we consider other potential justifications of taxation, such as the redistribution of income and the reduction of wealth inequality, the US government has neither the mandate nor the authority to tax the income of people who do not live under the direct protection of the American state.

Let’s be clear: The US would not lose a huge revenue stream if it were to abolish taxation of foreign income. IRS statistics show that in fiscal year 2011, $1,091 trillion was raised in individual nonresident income taxes. Only $5 billion was from foreign earned income, which includes both resident and nonresident income. That is only 0.5 percent of the individual income tax collected, not to mention the other types of taxes levied by the US such as corporate taxes and customs duties. To put this in perspective, the US spent $691 billion on the Department of Defense alone that year.

Abolishing the foreign income taxation of nonresidents might seem like a giveaway to the rich. After all, there are exemptions such as the foreign earned income exclusion, which allows a taxpayer to deduct $100,000 from their earned income every year. Additionally, the foreign tax credit applies to any taxes paid by nonresident US citizens to foreign governments and can eliminate all payments owed to the IRS for citizens living in countries with higher tax rates. Since only affluent nonresidents in countries with low taxation have to pay US taxes after these exemptions, doing away with foreign income taxation might seem to favor wealthy taxpayers residing in tax havens, and it is undeniable that such individuals would indeed benefit from such a change. However, we need to pay more attention to the unjust exploitation of the American tax system at home than to income fairly earned abroad. The revenue derived from taxing affluent nonresident citizens amounts to a minuscule portion of total government revenue.

A record number of US citizens have been renouncing their US citizenship because of the tax burden imposed on them, and many banks do not want to take Americans as customers because of the reporting responsibility imposed on them under FATCA. The foreign tax regulation is essentially making US citizenship a burden, rather than a blessing, for expatriates. Why should the young English teacher in China be forced to pay hundreds of dollars to an accountant just so that they can satisfy the IRS? Why should the small business owner in Canada be forced to pay large amounts of their profits in taxes to the US government? Why should the budding entrepreneur in Poland be denied a bank account just because they have an American parent? The US is performing a disservice to Americans abroad by imposing upon them an unnecessary and unjust taxation regime. It is time for us to repeal it.

Photo: “Tax forms