Pepperdine University Dean of Law and well-known tax blogger Paul Caron recently posted a piece entitled: “The Number Of Americans Renouncing U.S. Citizenship Declines 62% In Trump Administration, Following 2,200% Increase In Obama Administration”. In this blog he claimed
It would seem that either FATCA has run its course of flushing expatriate US citizens out of the bushes or the election of President Trump has stemmed the tide, or a combination of the two.
Professor Caron’s post was then cited by major libertarian blogger Daniel Mitchell who continued on this theme of crediting President Trump stating
… he has moved policy in the right direction in some of those areas thanks to the 2017 tax legislation. His other achievement, which is probably even more important, is that he’s not Hillary Clinton. In other words, we’re not getting the bad tax policies that might have occurred in a Clinton Administration.
In reality, neither is correct.
What are the Real Trends in Americans renouncing U.S. Citizenship?
To understand the situation it is first necessary to see a chart of the annual totals of people on what is known as the ‘Expatriate List’:
This chart seems to show that the numbers of Americans renouncing U.S. Citizenship increased dramatically starting in 2010. Numbers peaked in 2016 and have dropped substantially since then. However, this is not the real story.
Firstly, one must understand who is actually being counted. As noted in the pre-amble to the most recent publication of this list:
This listing contains the name of each individual losing United States citizenship (within the meaning of section 877(a) or 877A) with respect to whom the Secretary received information during the quarter ending December 31, 2019. For purposes of this listing, long-term residents, as defined in section 877(e)(2), are treated as if they were citizens of the United States who lost citizenship.
In non-legalese this means “Covered Expatriates” only!
What are Covered Expatriates?
Covered Expatriates are Americans renouncing U.S. Citizenship or who relinquish long-term resident alien status within specific criteria. They must have a net worth of $2 million, or a 5-year average income tax liability exceeding $139,000, to be adjusted for inflation. They would also qualify if they have not filed an IRS Form 8854.
This means that there are many folks who are renouncing and are not on the List because they do not meet this definition of Covered Expatriates. Let me explain – starting with a few background facts.
Firstly, once an individual meets the net worth threshold, there is no further clue as to how wealthy they are. Their net worth at the time of expatriation could be $2.1 M or $2.1 BILLION.
Secondly, the 2020 Unified Credit for Gift/Estate Tax Purposes is $11.58 M ($23.06M if combined with a spouse). If expatriation were motivated by an avoidance of the estate tax, then expatriation would not start to make sense until the individual were well over the UC threshold(s).
Thirdly, it is important to remember that since the introduction of FATCA in 2010 there has also been a surge of middle class ‘Accidental Americans‘. These individuals are NOT on the List (unless they are Covered Expatriates) BUT are also renouncing US citizenship.
Finally, the uptick, flattening and subsequent drop-off of the numbers are easily understood considering the following points:
- Covered Expatriates do not have any priority in booking renunciation appointments. They are now competing for appointment slots with the substantially larger numbers of Accidental Americans; and
- There is a finite number of government resources devoted to helping Americans exercise their right to renounce US citizenship.
The reality of the ‘Expatriate List’
The reality is that an American looking to renounce must first book an appointment in a processing system that has reached capacity. This is evidenced by the significant backlogs in the granting of interview slots. In fact, the backlogs have grown so bad (up to and sometimes over a year), that most US missions no longer publish the appointment date information on-line. Indeed they haven’t done so since the system appeared to reach capacity a few years ago.
Taken all together, the peak and drop-off mean that Wealthy Americans are still leaving in record numbers. The fact is that the capacity of the processing system has reached capacity. Additionally the limited number of renunciation appointments are being predominately booked by departing Americans who are not wealthy.
If the List represents only the Wealthy, what has been the total number of Americans renouncing U.S. Citizenship over the last decade?
Damn good question! I submitted a FOIA request for the annual numbers of Certificates of Loss of Nationality (“CLN”) issued over the prior 10 years on December 5, 2017… two years ago! After various follow-ups, on October 1 2019 I was finally given an estimated date when I would receive the information… April 4, 2021.
Strange, given that more recent FOIA applications are consistently generating news coverage. Either I must be not a very good applicant or this information is being suppressed.
Rather than wait another year, an alternative way to estimate the real number of total number of annual US expatriates is as follows:
- Canvas each US mission and ask for the number of renunciation interviews they give per month. While months will vary with holidays, it probably averages out.
- If the missions have a backlog of more than a month, it is safe to assume that they are at 100% capacity. When you multiply the monthly figure by 12, you will get the number of actual CLNs originating from that mission for a year.
- If you ask for their backlog, then you can add the monthly average times the backlog months to the figure arrived at in #2 to get the number that would be processed annually if the system was properly resourced.
- Add up all the missions actual and potential figures. You will have a more realistic target for the total number of CLNs actually issued in a year.
- Compare the numbers from the past few years of Covered Expatriates. You can then reasonably estimate the ratio of Covered Expatriates to Non-Covered Expatriates.
If any readers of this blog have the bandwidth to undertake this exercise, I would be more than happy to guide them.
Are Wealthy Americans adding the option of Expatriation to their financial planning?
Every day I am fielding questions such as:
“Who will be the Democratic POTUS candidate?”
“Will there be a Democratic ‘Grand Slam’?”
“How likely are the ‘Tax the Rich’ proposals of the Democratic Presidential candidates to become law?”
“What will be the voter reaction at the polls to the impeachment acquittal and subsequent behaviour of Donald Trump?”
“What impact would a recession caused by a pandemic or Iranian terror action have on the election outcome?”
The honest answer is that no one knows. The November election is clearly a ‘jump ball’ not only for POTUS but also the down-ticket senators, representatives and governors.
But we do know that all of the Democratic candidates have now announced their tax proposals. Therefore, we know that should the Democrats win the Presidency and both houses, at a minimum there will be a doubling of capital gains rates (Biden, Buttigeig, Bloomberg). If the progressive wing wins out, there is also the distinct possibility of a Wealth Tax (Sanders / Warren). This would mean increased estate taxes, and a major jump in the ordinary income rates.
How should Wealthy Americans react?
When faced with these questions, I ask my clients to consider how they would deal with the threat of a wildfire. Automatically their response is that they have purchased home insurance and worked out a fire escape plan. They do not do this because they think there is a more than a high PROBABILITY that they will have a fire. Rather, they understand that fire is a POSSIBILITY. If it were to occur when they do not have insurance and an escape plan, the impact would be devastating. I then tell them to apply this same logic to their family’s wealth. There are the numerous uncertainties arising from the upcoming election. I suggest that they shouldn’t let their party allegiance, candidate preference or overly optimistic predictions blind them. Logically they should plan for all possible outcomes.
Practically speaking they should:
- Have their accountant ‘Run the Numbers‘ to determine their personal tax liability in the event tax proposals become law. This ‘Damage Assessment‘ sets a benchmark for their risk;
- Have their tax and business advisors review all of the various ‘Play the Game Better’ options to deal with each of these threats; and
- Alongside the Play the Game Better strategies they should develop a Backup Plan. This will provide them and their family alternative residences (both within and outside the US) and second citizenships. This gives the family ‘Optionality‘ to deal with any events that might significantly impact their family wealth. Furthermore, with a well-conceived Backup Plan the family could relocate temporarily or permanently in times of emergency (e.g. natural disasters or pandemics) as well as open new doors to opportunity (e.g. attending university or working abroad).
In the December 2019 New York Times article “When U.S. Citizenship Starts Looking Like a Bad Deal”, I noted that the number of wealthy American families getting Backup Plans is substantially increasing. In a subsequent article in Wealth Management entitled “Expatriation: A Financial Backup Plan”, I provided a more detailed description of the elements to be considered when developing a Backup Plan.
If record numbers of wealthy Americans are preparing to swell the numbers of US expatriates, what are the consequences?
Americans are free to elect politicians who propose Tax the Rich policies such as a Wealth Tax or taxing capital gains at ordinary tax rates. Likewise, wealthy Americans have the freedom to sever their future tax obligations. The US public, however, should be aware before casting their next votes of the consequence of departures of wealthy Americans. The reality is that this will result in the US Treasury will receiving significantly less tax revenue.
If this sounds alarmist, it is not. This is exactly what happened in every country, like France, which tried to bring in Wealth Taxes or other Tax the Rich policies. Indeed, the US is even more vulnerable than most of these countries. This is because they had VAT tax revenues to reduce their over-reliance on personal tax revenues.
Therefore, the US government, politicians and voters should all be very mindful that the most relevant opinion of what is ’fair‘ is that of the person who will be asked to pay. The Democratic POTUS candidates have changed their rhetoric. It used to be “Getting money to spend on good things”, now it is “Taking money from bad people”. In turn, wealthy Americans have recognized that getting ‘insurance’ and organizing a ‘fire escape protocol’ in the form of a Backup Plan is just plain prudence.
Hope for the best but plan for the worst is the catchphrase of our uncertain time.