Should you tell Uncle Sam you’re an American?
There are good reasons not to.
A coffee shop acquaintance recently asked me what I was working on, so I told him about my newsletter on American expat banking and tax woes. He thought it might interest his father, who has US citizenship.
“Are you a US citizen?” I asked. “No” was the answer. He was born and raised in Canada. Even so, I explained, he might be a US citizen. It would depend on the details of his birth and facts about his parents. He was intrigued, so I offered to check his particulars against the rules and let him know what I learned.
I added, with some emphasis, that there are important reasons for not announcing one’s unrecognized US citizenship to Uncle Sam. Why? That’s what this post is about.
Many seek American citizenship
The US has long been a magnet for immigrants. It’s been viewed as a country of economic opportunity and porous class boundaries. For these reasons individuals go to extreme lengths to enter the US, even illegally. The goal for most is to find a better life and eventually obtain citizenship.
The risks of illegal immigration are many on the southern US border with Mexico. It happens on the northern border as well. Last winter a family of four froze to death while trying to cross illegally into the US from Canada at night in frigid temperatures without inadequate clothing.
Of course, legal immigration is the preferred option, which returns me to my cappuccino friend, who was intrigued by the possibility that he might be an unrecognized US citizen. Dual Canadian-US citizenship would give him more choice as to where to live and work.
Why would I caution him about claiming a previously unrecognized American citizenship?
Because living outside the US as an American citizen leads to surprising, persisting, and major banking, taxation, and privacy problems. These problems arise from a ubiquitous belief that Americans have about their country.
Exceptionalism
America sees itself as a special country, the shining city on the hill. The bumper sticker translation of this phrase is, We’re better than other countries.
Ongoing immigration demand is viewed as confirmation of that exceptionality. Indeed, it’s an unwritten article of American faith that Everyone wants to come here.
Leaving the US to live elsewhere, in contrast, is viewed with a skepticism seasoned with suspicion. Why would someone choose to leave this great place?
My reason for leaving the US as a young man was an attractive job offer from a university in Canada. I liked the job and my adopted community, and for several years I expected to move back. However, marriage, family, and community life intervened. Canada became my psychological home and, though I visit the States often, I’ve remained in the land of maple leaves and hockey. My birth family could never quite grasp why.
Beliefs lead to policies
Exceptionalist assumptions have led Uncle Sam to create policies that make the financial lives of American expatriates difficult.
The first assumption is that Uncle Sam is owed income accounting and possible tax payment by every American citizen regardless of where in the world they live. This citizenship-based taxation policy is almost unique in the world. Other countries base taxation on residency, not citizenship. Under a residency taxation system, you pay taxes in the country where you live regardless of your citizenship.
The second exceptionalist assumption is that foreign banking systems aren’t as good as the American system. The assumed weaknesses in foreign banking rigor, it is thought, tempt and enable Americans to hide their money from Uncle Sam in foreign financial accounts.
The preceding assumptions have influenced the policies of the US Treasury Department. One of its departments, the Internal Revenue Service, collects income taxes from Americans living abroad. Another department, the Financial Crimes Enforcement Network, looks for money hidden by Americans in foreign financial accounts.
Both departments implement Treasury policies that lead to taxation and privacy burdens for Americans living outside the US.
The expat’s tax burden
No American likes filing and paying income taxes, but expat Americans face an extra burden. In addition to paying taxes in their country of residence, they must also file a US tax return annually -- even if they have no income from US sources. In contrast, for example, a Canadian living in the US with no Canadian income would only have to file a US return.
Serving two income tax masters is the lot of American expats. They must follow two sets of sometimes contradictory taxation rules. Tax compliance becomes much more complicated, frustrating, and usually requires expensive accounting help. Such help can cost thousands every year.
This is a unique problem for Americans. Canadians who leave Canada won’t have to continue to file Canadian tax returns. Brits abroad don’t have to file UK tax returns. Ditto for Australians, etc. US citizenship truly is exceptional when it comes to income tax.
Furthermore, US income tax filing is a life sentence. So, if my cappuccino friend qualifies for US citizenship, he needs to answer the following question before claiming his American status from Uncle Sam:
Is US citizenship worth having to file US tax returns for the rest of your life?
The expat’s privacy burden
Imagine a politician who proposes that an American with more than $10,000 in all their financial accounts must complete a yearly report about every account. Details about each account’s location, identifiers, and maximum balance would be required.
That politician would have a short political career. Most Americans would not tolerate that level of government intrusion into their personal finances.
Surprise! This intrusion already exists for Americans with foreign bank accounts. It’s called the Foreign Bank Account Report (FBAR). It’s largely unknown because most Americans don’t hold foreign financial accounts. Many American expats who have foreign accounts don’t even know about it.
Those American expats need local (foreign) banking accounts to live, so FBAR’s are an unavoidable burden and privacy intrusion for them. Because FBAR’s are informational only, no money is owed upon filing. However, the penalties for non-compliance are severe, though infrequently enforced.
FBAR filing, like US income tax filing, is a life sentence. A second important question to be asked by someone thinking of announcing their US status to Uncle Sam is this:
Is US citizenship worth having to file an FBAR annually for the rest of your life?
Can you change your mind?
If my coffee-shop buddy obtained certification of his possible US citizenship, could he later change his mind to avoid the taxation and privacy burdens? He could, but not easily or cheaply.
I know of four ways an American expat can legally escape the tax and privacy burdens of paying US income tax and completing annual FBARs.
Die. Self-explanatory.
Renounce. Uncle Sam frowns on those who choose to renounce their US citizenship. The process will take many months, require an interview at a US embassy or consulate, cost at least $3,000, and possibly lead to an exorbitant exit tax on your net worth if you’re quite wealthy. Uncle Sam will also dox you by listing your full name on a quarterly US Government website list of recent expatriates.
Move to USA. Establish your permanent residence in the US and close all your foreign financial accounts.
Live low. Always have less than $10K in all your financial accounts combined and never have an annual income greater than the US income tax filing threshold (~$13K for a single person).
It’s fair to say that none of the above exits from US citizenship are particularly attractive.
Implications
If you claim your US citizenship, dual citizenship offers easy access to the US and its large job market. If you then move to the US permanently, the expat burdens described above would not apply to you.
On the other hand, if you claim your US citizenship and continue to live outside the US, those previously hidden expat tax and privacy burdens will be yours for a long time.
Learning that you’re an unrecognized American citizen presents a choice with a superficially compelling answer: Present your evidence of citizenship and gain the benefits of dual citizenship.
However, there are serious long-term negative consequences of that choice. Consider carefully thosed drawbacks before you “come out” as an American to Uncle Sam.