Repeal FATCA

The number of Americans renouncing their citizenship while residing overseas has increased dramatically in the past few years, according to the Department of the Treasury. The source is the Federal Register, which reports quarterly on expatriations as required by law. From an average of less than 1,000 per year the rate of expatriation has tripled to over 3,000 per year since 2013, which is the first year the new Foreign Accounts Tax Compliance Act (FATCA) went fully into operation.

The data source is of questionable integrity and has numerous problems associated with it that could lead to a large variance in the results. Most importantly, the Federal Register gets its information from the IRS, who gets it from the State Department, and the State Department only reports the names of those US citizens who actually took the step of going before a consular officer, filling in the required forms and formally renouncing their allegiance. It is a safe bet that most expatriates simply don’t bother with this step, so there is an undercounting problem of unknown magnitude.

There are other problems in the data set. Because the collection effort is so roundabout, errors and duplications creep in. The State Department doesn’t collect the Social Security number of the expatriate, so the list passed to IRS includes only the person’s name as an identifier. The potential for misspelling, erroneous matching and duplication is large with such a poor identifier. There is little or no reconciliation effort by the IRS before they pass the list of names to the Federal Register, and there is little effort to do so in a consistently timely manner.

Despite its many drawbacks, the Register’s quarterly report is the only source of data publicly available. We can still use the report to judge the overall trend in expatriations, if we assume that the different errors should tend to cancel each other out and to be consistent over time.

How can I be sure that the increase in citizenship renunciations is related to FATCA? There are many reasons why Americans might renounce their citizenship that are unrelated to the new tax law. One important source of names are those foreign nationals who give up their permanent residence in the US. Could an increase in the number of permanent foreign resident workers have led to an uptick in the number of renunciations as well? It seems unlikely; data from the Migration Policy Institute indicates that the number of new greencard holders has been falling over the period that renunciations have increased.

This is hardly incontrovertible proof, and it is still possible that the increase in citizenship renunciations is entirely due to permanent residents returning to their countries of origin at higher rates than in previous year, but the timing of the spike and the application of the onerous new reporting requirements and fines defined by FATCA is probably not coincidental.

Supporters of the law argue that it is a necessary means of going after wealthy tax avoiders who attempt to hide their wealth in overseas assets. Given large fiscal deficits and declining tax revenues, this argument seems persuasive, and the appeal to “fair play” and everyone paying their fair share of taxes resonates with the American public. Unfortunately, the way FATCA is written and implemented is akin to swatting a mosquito with a bazooka. It imposes large and costly new burdens on both citizens and financial institutions, who face unbelievably onerous penalties for even “innocent non-compliance” (i.e. without malicious or criminal intent), without the slightest pretext of justifying those costs by an analysis of increased tax revenue. They are merely passed on to foreign financial institutions, who then pass them on to American citizens through account closures and denials of service.

The law’s multitudinous flaws make it a poor instrument of fiscal policy:

· It imposes a burden across a very large sector of the population — the estimated 7 million Americans living abroad — while its intended target constitutes only a miniscule fraction of this number;

· It creates a new category called a “US person” which is so ill-defined as to possibly be interpreted to mean anyone with a substantial economic or financial interest in the United States, not just citizens and permanent residents;

· It establishes exceedingly low reporting thresholds for accounts, equal to USD 50,000 at any time during the fiscal year, meaning that the law is targeting a broad section of the middle class, not just wealthy “tax evaders” as originally argued;

· It establishes exceedingly high penalties for non-compliance: 40% of the value of the assets for individuals and up to 33% of the value of their US operations for foreign financial institutions. Even “innocent non-compliance” is penalized — in other words, ignorance of this radical and intrusive law is not a consideration when it comes time to levy fines;

· The FATCA reporting requirements on tax filers isn’t even coordinated with the additional pre-existing requirements from the Treasury Department known as FBAR (Foreign Bank and Financial Account Form). The two reports have completely different reporting requirements (FBAR sets the limit at USD 10,000 at any time in an account or asset) and even different filing times, which may even be a deliberate attempt to trip up filers — at this point, I’m ready to believe the worst…

· Both FATCA and FBAR are hugely discriminatory: there is no general requirement for US citizens or foreign residents living within the United States to report their bank account balances. But US citizens and foreign residents who are outside of the continental US are required to do so and heavily penalized if they fail in this obligation;

· There isn’t even any estimation of the magnitude of the problem which Congress has attempted to correct in the most onerous fashion possible. A study by Texas A&M estimates that the additional revenue generated by FATCA is far smaller than initial estimates (approximately USD 250 million vs. USD 792 million per year) and that it is dwarfed by the additional costs imposed on American financial institutions (approximately USD 770 million per year). This study ignores the much larger costs on foreign financial institutions and the burden on American citizens living abroad.

The worst flaw in FATCA (and FBAR) is that they completely and utterly fail to do away with the real tax evaders, who are not going to stupidly fly to Britain to hide their millions by opening a savings account in the Royal Bank of Scotland. Those with assets enough worth hiding are going to find cleverer means of hiding them, as the Panama Papers have revealed in great detail. Why, you don’t even have to go outside of the United States: Delaware and Nevada make the creation of shell-corporations an easy matter and there is has been no effort to increase transparency in that area.

FATCA and FBAR are themselves punitive and ineffective tools for combating tax evasion, but they are built upon a foundation that is injurious to begin with. The United States is one of the few nations on earth that does not use residency-based taxation. In other words, Americans are liable to Uncle Sam wherever they go: even Apollo 13 astronaut Jack Swigert got a visit from the taxman for failing to file an extension on his way to the moon[1]. These global — even interplanetary — tax collection efforts pose substantial problems of extraterritoriality, impose additional burdens on Americans abroad, create a risk of double taxation and simply make no sense. After all, we pay taxes to fund the government and infrastructure of the places we live in — it is not logical to charge people for the privilege of simply being born American. Which is why so many Americans are now fed up an renouncing their citizenship. That is just plain wrong: no tax law should be so onerous as to force a citizen to renounce their allegiance.

FATCA should be repealed; it has not been proven to accomplish any of its aims except to punish Americans by converting them into financial pariahs. And while the Congress is at it, they ought to implement the recommendations of the OECD and of tax advocacy groups across the country, who have repeatedly called for an end the global taxation regime and a harmonization of US tax law with that of other advanced nations on a residency basis. That would be the Common Sense approach.

Sources and Notes

[1] Swigert was a last minute replacement for Ken Mattingly, who was suspected of possibly having measles and grounded; thus he hadn’t filled out the requisite paperwork before the mission was flown.