My friend pays US taxes despite residing in Canada for many years. She doesn't earn any money within the US. Why does she have to pay the Americans taxes?
She is far from alone as there are estimated 8 million US Persons (citizens or Green Card holders) who reside outside of the US. The vast majority are not wealthy individuals.She may not distinguish between the obligation to FILE and being assessed a TAX BILL; the first is unavoidable, the second may often not exist.You friend is obliged to FILE reports to two different agencies a) US Federal Income tax to the IRS AND b) Foreign Accounts reporting to FinCEN every year.In most cases, the tax bill to the IRS is zero due to tax treaties to avoid double taxation.However, US taxation is very complex and on a schedule that is usually not in sync with foreign taxation so complying, under threat of severe penalty, is very onerous to the ordinary expatriate.FILING OBLIGATIONS TO IRS AND TO FinCEN (paperwork)Regardless of location of residency, Americans have worldwide lifelong obligation to officially provide worldwide financial information to two separate US Federal entities:to FILE US income tax to the IRS every year (even if your US tax would be zero) andto REPORT on any non-US bank accounts to FinCen if, at any point, your total non-US holdings reached $10k or more. (FATCA)US FEDERAL TAX OFTEN ZERO DUE TO FOREIGN INCOME TREATMENT (rarely, a tax bill)However, the tax due to the IRS may be reduced (even to nil) if you are an official resident of another country and are eligible to either one of two tax regimes:Either Foreign Earned Income Exclusion. You choose not the be subject to US taxes for income under a threshold, prorated for any period physically present in the US in any given year. This amount is currently around $90k maximum. Note that this is best for salaried expatriates as non-earned income (foreign fund investments, foreign capital gain on real estate, foreign pensions ARE NOT eligible for the FEIE!)Or Foreign Tax Credit. This regime allow you to apply the income tax paid to a foreign tax authority as a credit to the calculated US income tax. This is a better choice if most of your income is NOT from salary.If your foreign income tax (in a treaty-linked country) is greater than the calculated US income tax, your US tax is reduced to zero.If your foreign tax is less than the USu2019, then you have to pay the IRS the difference.Problems/Unfairness for US Expatriates and Dual NationalsUnearned foreign income from foreign investments may be taxed by both the foreign tax authority AND the IRS. Thus, foreign pensions, capital gains and investments may suffer from the cumulative taxation of two countries!Non-US investments such as in collective investment instruments are dissuasively taxed relative to mutual and stock funds in the US. Foreign capital gains are taxed at higher u201cordinary incomeu201d rates. If one wishes to invest in foreign stocks, itu2019s best to use a US-based fund investing in ADRs of foreign companies. One can also invest in individual foreign stocks but you would have to deal with the multiplicity of reporting and accounting tasks.It costs to prepare US taxes, sometimes over a thousand dollars depending upon the complexity of your US tax situation. For Americans resident overseas of limited means, the actual cost of complying may be in the hundreds to thousands of dollars - even if the net IRS tax bill is zero!In some countries, access to timely and relevant US tax information and advice is poor.Out of sight, out of mind is NOT an option as the US has forced foreign banks to comply with warrantless financial information reporting arising from FATCA!Accidental u201cUS Personsu201d are targeted, not just people with a US SS# or passport. Israelis, Indians etc. have received penalty notices only to find out that one parent may have been an American or that they had been born in the US but left as a baby.Sanctions are drastic on foreign banks who donu2019t comply with acting as screeners for the IRS in identifying US Persons. Americans and their spouses have had their foreign bank accounts blocked until they provide proof that they are not subject to US taxation or compliant with FATCA reporting requirements!Tax evasion is a Federal felony in the US versus an administrative infraction in other countries. The IRS is the best resourced fiscal agency in the world and never forgets.If an American wishes to give up US citizenship, it is not easy or free of cost or fiscally definitive:Your tax compliance status with the IRS must be complete.All your US assets would be subject to an Exit Tax, tantamount to a tax on gifting to a foreigner!If the IRS deems, unilaterally, that you will have renounced your US citizenship mainly for the purpose of avoiding US taxes, it may pursue you for up to 10 years after renunciation!10. Expatriate American taxpayers have little effective political representation. Unlike some countries that have a specific parliamentarian group for expatriate voters, Americans can ONLY vote in the most recent US local district. Thus, their concerns are usually submerged by their former local US communitiesu2024 concerns. Even though the vast majority of expatriate Americans are not wealthy, many are stressed out by the cost and complexity of filing US taxes as well as local taxes, the populist, inaccurate political propaganda that they are wealthy tax cheats. In fact, there are far higher levels of tax u201coptimizationu201d by US corporation using tax havens than by the millions of ordinary expatriates.
