In 1861 the American Civil War broke out; a source of bloodshed that would last for almost 4 full years. It has been suggested that in that 48 months of battle, over 1.2 million Americans lost their lives. What seems rather odd for such an unfortunate episode of history is that its effects are still being felt today.
In order to penalize any potential American soldier who avoided the draft by moving overseas, taxes for American expats were introduced. To this day these rules still remain.
It is when you compare how American expats are taxed with those from other countries that the situation becomes rather distasteful. Most countries – such as the UK for example – simply stop taxing their nationals who move abroad, except on income earned within the British Isles, such as from property investments. Instead, the hosting country is free to collect taxes on expats who have relocated there.
Generally speaking this is considered the most ethical way of taxing expats; after all, how can one validate taxing expats that no longer live in their mother country? After all, by their very definition, expats cannot make use of the services like hospitals, schools and roads that are in a different country to the one in which they live.
America, however, is different. It is one of only two countries in the world which taxes its citizens living abroad. The other is lawless, war-torn Eritrea in north-eastern Africa. Hardly the sort of country that the “land of the free” wants to be mimicking one would think. And yet still the double-taxation continues.
So how does this double taxation work in practice? One perfect example of the process are overseas pension payments. Most governments allow for tax-free payments to be made into pension funds. Not the US government, however. When calculating the taxes owed to the IRS any pension funds are taken into account – meaning that Americans are unlucky to be taxed on the money they have carefully stashed away for their retirement.
There’s more. The IRS is so concerned that they receive appropriate tax-returns from Americans living overseas that they frequently “strong-arm” foreign banks and other financial institutions into revealing details about US client’s financial situation. This creates such a burden of paperwork that many overseas banks actually refuse to do business with US expats.
This is one reason why so many US expats are giving up their American citizenship in favour of countries with fairer tax regulations. A cynic might argue that the way in which the US government has significantly increased the costs of renouncing US citizenship is a last desperate attempt to stop these “money cows” leaving the financial fold once and for all.