This years marked another record number of US expatriations. This article examines what this really means and whether the average American should be concerned that a multitude of Wealthy Americans will soon be abandoning ship?
What does ‘Wealthy’ mean?
The first step to understanding the whole situation is to get some definitions nailed. In the area of renunciation, the US government has defined ‘Wealthy’ as a person who either has $2,000,000 in wealth or has paid more than an average of $157,000 in US tax over the past five years.
These criteria are set out in IRS 8854. Individuals who trigger these tests are called ‘Covered Expatriates’ . It is only Covered Expatriates who trigger a capital gains deemed disposition. This capital gains event is the same that would occur upon sale or death, with the same rules, exemptions and rates applying. It is often referred to as an ‘Exit Tax’, which I find misleading as it sounds like a new different tax that is being applied against the taxpayer, which it is not.
Tax Expatriates LIst
There is a much publicized ‘List’ of ‘Tax Expatriates’. The List only sets out Covered Expatriates and not all people who renounce, relinquish or give up their long-term resident alien status. As has been widely reported the number of “Wealthy” Americans who have been expatriating has been steadily increasing for the past few years, as evidenced by ever increasing numbers on the List. Although it is widely reported that FATCA outing Non-Us Resident ‘Accidental Americans’ is the major reason for this increase, I would question that premise for the following reason. In my experience, most Wealthy Americans living outside the US (especially ultra-high net worth individuals) were already well aware of their US tax liability and were already US tax compliant.
FATCA mostly served to uncover those ‘US persons’ who were not US tax compliant either through ignorance or wilfulness. While the numbers of Accidental Americans in places like Canada are expatriating in very large numbers as evidenced by the long delays in renunciation appointments, I would strongly suspect that most of these were not Covered Expatriates. Rather they were lower or middle class Americans living abroad who suddenly found themselves under the IRS microscope and decided to renounce their American citizenship.
The total number of Americans who are renouncing is significantly larger than the number on the List. However, if we make the assumption (which given bureaucratic mishandling may be a big one) that the List contains ALL of the Wealthy Americans who renounce there is no doubt that this number has been steadily increasing.
What will the increase of US expatriations mean?
The Elephant in the Room is whether the numbers of Wealthy Americans who leave the US tax system will increase to the tipping point where tax revenues are fatally reduced?
To answer this question, one must first divide Wealthy Americans into one of two groups. Namely:
Group A) Those who are happy with their US tax burden; and
Group B) Those who are unhappy with their US tax burden
Then one must ‘read the tea leaves’ to see if the daily news will cause the numbers of Group A to decrease and Group B to increase. Will new ‘Tax the Rich Proposals’ spouted by 2016 POTUS hopefuls accelerate this migration? I believe that any independent observer can see that appears an increasingly number of Wealthy Americans are feeling that the US government is not spending their tax dollars well and that THEY feel that the amount of tax they contribute is increasingly ‘unfair’.
As noted economist Albert O. Hirschman so eloquently put it, members of Group B have the available responses of Exit, Voice, and Loyalty. In short, “Leave”, “Object/Lobby for change”, or “Shut up and Suck it up”. In addition, I would add that Group B also previously had the option of trying to ‘Cheat the Game’, by engaging in tax evasion through non-disclosed offshore accounts. However, while popular in the past, the combination of Whistleblowers, the Qualified Intermediary Regime, FATCA, John Doe Summons, and Tax Exchange Information Treaties have quickly eliminated this as a viable option to pursue.
The limitations of ‘Voice’
As the explosion of political donations by Wealthy Americans to candidates and SuperPacs indicates, Voice is a familiar and therefore popular response. However, Group B members are discovering that, at best, this is an indirect method of dealing with their unhappiness with their current US tax burden. To be successful, their political donation must:
- result in the election of a specific politician or group of politicians ; AND
- that politician must bring forward legislation to reduce their current US tax burden; AND
- that bill must pass three readings of an extremely partisan House and Senate; AND
- that bill must be signed into law by POTUS; AND
- future politicians must not undo that reduction of their current US tax liability. While a familiar option for Group B, its real effectiveness as a strategy is more often being drawn into question.
The option of ‘Leaving’ (i.e. renouncing) means that a member of Group B must be motivated enough to take one time action to: get another citizenship; b) overcome their current ‘life inertia’ to organize their personal and business lives elsewhere as they cannot remain physically in the US for a significant enough time to trigger the ‘substantial presence test’; and c) must be psychologically prepared to give up their US citizenship. Increasingly as discontent with the useful of the Loyalty, Cheat, and Voice options grows, the tendency towards Leaving will continue to accelerate.
This is reflected in the increasing numbers on the List.
It is worth pointing out that there is not perfect market knowledge of the Leave option. Ignorance of the option or exaggeration of the benefits of the US or the risks abroad are significant. Many native born Americans do not realize that:
- there are many first world major developed countries (e.g. Canada, Australia, New Zealand, much of Europe, Singapore, HK) where they can easily reproduce their personal and business lifestyles at a significantly lower global tax burden, through basic legal pre-immigration tax planning;
- that it is not a difficulty visiting the US in the future from 4 to 6 months depending on their tax planning; and
- that ‘dangers’ being a victim of violent crime are actually higher in the US then these destinations.
I have observed that some of this ignorance is fuelled by advisors who are either themselves ignorant or who overplay the dangers and difficulties of the leave strategy because of their own prejudice that such a move is ‘unpatriotic’ or a fear that they will lose control over their major client if they move outside of their immediate control.
So whether you think that the current numbers of Wealthy Americans who are leaving their US tax burden behind is insignificant or that they are ‘the canaries in the coal mine’, the plain fact is that the numbers are increasing quarter by quarter. As Ian Angell and I point out in our book “ Flight of the Golden Geese: How the 1% matter to the 99%” whether this trickle becomes a flood is important to those left behind because the current tax revenue model depends on these 1%er Golden Geese for over 1/3rd of the total personal tax take.