Tax Obligations of “Accidental Americans”
There was a time when holding multiple passports was seen as something of a luxury, especially if one of the passports was the much coveted American passport – notoriously difficult to get a hold of and, as it turns out, perhaps even harder to get rid of.
If you hold an American passport, you may have some unwanted tax obligations that you are not fully aware of. You might not know, for instance, that America is one of two countries in the world (the other one being Eritrea) to tax on “citizenship” and not residency. For the purposes of this article we will focus more on the tax obligations of what are commonly referred to as “Accidental Americans,” those that were either:
Accidentally born in the United States; or
Born abroad, but to at least one U.S. parent.
The most well-known example of type 1 accidental American is the UK, London Mayor - Lord Mayor Boris Johnson. It turns out that Mayor Johnson was born in New York, where his father worked for the U.N. And unless Mayor Johnson has actively renounced his citizenship, which requires an appointment at a U.S. Embassy, forms and fees, he is still an American citizen.
Mayor Johnson repudiated his American citizenship in a newspaper column once, but it's far from clear that this would satisfy U.S. authorities. As an American citizen, Mayor Johnson is legally required to file his taxes and report all of his U.K. bank accounts to the U.S. Department of Treasury. The second type of accidental Americans are those that are born abroad to at least one American parent. At birth these people automatically become dual citizens: a citizen of the country in which they were born, and an American citizen by virtue of their parentage– with all that entails.
This includes the right to live, work and vote in the states, as well as the obligation to file and pay taxes to the IRS. Americans are required to file an annual tax return with the IRS when they’re abroad—even if they don’t owe any money. They’re also required to file a form called an FBAR to declare their foreign bank accounts. An undeclared account incurs a $10,000 fine.There are approximately 6 million accidental Americans living around the globe, many of whom are unaware of their tax obligations.
They face fines, penalties and interest for not complying—even if they owe no U.S. taxes, own no U.S. property, have no U.S. bank account and haven't lived there in years—if ever. This “perfect storm” scenario has intensified as of late with the recent introduction of FATCA or The Foreign Account Tax Compliance Act. This is a United States federal law that requires United States persons, including individuals who live outside the United States, to report their financial accounts held outside of the United States, and requires foreign financial institutions to report to the Internal Revenue Service.FATCA was introduced to the UK earlier this year and has caused a stir all over the world where it has similarly been introduced at varying times.
The simple fact is this - if you are an American citizen abroad, even an accidental one, your bank is required to provide the details of all accounts you hold with it to the IRS. This has led to some banks now declining to open accounts for Americans abroad in order to avoid the high cost of compliance (and hassle factor) associated with an already increased and burdensome reporting requirement regime.It seems the IRS has recognized that, in its hunt for tax evaders and money launderers, it has inadvertently “caught” thousands, maybe millions, of people who were unaware of any tax obligations they had to the U.S.
Now people who come forward under an amnesty program to disclose their foreign accounts and settle their U.S. tax bills won’t be charged any penalties and will simply owe back taxes and interest. Previously, they would have owed a penalty of 27.5% computed as a percentage of each undisclosed foreign account.For those of you who are dual citizens (be sure to check the qualifying criteria) there is also a way out: to renounce your U.S. citizenship and expatriate. This will not get you out of any tax obligations already incurred but it will get you out of having to comply with an unnecessarily burdensome tax compliance regime going forward.
For those who are an American abroad and do not have the benefit of dual citizenship, they can still renounce citizenship but at a hefty cost – that is incurring the imposition of what is called an “exit” tax calculated on the unrealized value of all assets as of the date of renunciation. Not an option for many.It is important to be aware that non-compliance is not taken lightly and can come with serious consequences that are simply not worth risking.
The best thing to do is to bite the bullet and hire an accountant specializing in this area to get the matter sorted for you. If your finances are complicated, you wish to renounce or you need further advice, costs can go up. This of course explains why the number of Americans renouncing has surged six fold and why the US has increased its costs of renunciation from $450 to $2500.
Disclaimer: All information written here is for general informational purposes only and is not intended to be a substitute for professional and/or legal services.