Alternatives to Citizenship-Based Taxation for US Citizens Living Abroad

US citizens who live outside the US, as well as US citizens who hold dual citizenship are still responsible for paying US taxes. In fact, the IRS (Internal Revenue Service) requires all US citizens, regardless of where they live, to disclose foreign financial accounts and to pay taxes on any income they earn – anywhere in the world. This rule affects US-Canadian dual citizenship holders and US citizens living abroad rather hard. The IRS also has a challenging time ensuring that US citizens aboard declare their income and foreign financial accounts for tax purposes.

As a result, American Citizens Abroad (ACA), an organization that represents US citizens living outside the US has proposed some tax changes. ACA would like to see taxes based on residence rather than citizenship as well as a number of other reforms. So far, the ACA has met with staff from the Joint Committee on Taxation and the House and Senate to discuss their proposals. However, it is not quite known how much support the ACA will get for their reforms.

Currently, the US is the only developed nation that has citizenship-based rather than residence-based tax rules. Ostensibly, the rule is in place to prevent citizens from taking advantage of offshore tax amnesties. However, there have been a number of criticisms about the system. In many cases, US citizens living abroad face two taxes – the local tax and the US tax – which has a very negative financial impact. Many US citizens abroad also question the taxes imposed on them by their government, noting that since they live outside the US they take advantage of very few or none of the tax benefits offered to US residents.

Enforcing the US citizenship-based tax rule also has caused headaches. It has led to the passage of FATCA (the Foreign Account Tax Compliance Act), which places requirements on international banks to report information. Some US citizens living outside the country are facing problems as a result of FATCA, as some banks would rather close accounts than go through the work of complying with reporting requirements.