Allowing Americans abroad to pay income taxes based on residence rather than citizenship would be better for the U.S. and the world.
Americans who live and work around the world face crushing burdens from U.S. tax laws. Liberating them in the next round of tax reform can increase prosperity at home and expand American influence abroad.
The December 2017 Tax Cuts and Jobs Act replaced an anti-competitive global system with pro-growth territorial taxation for businesses. Companies now pay income taxes where they produce, not where they’re based. This smart move leveled the playing field between U.S.-headquartered firms and their foreign competitors.
Individual Americans should also pay taxes based on residence, rather than citizenship.
Under current law, the first $102,100 earned by an overseas American each year is taxed under the laws of the country in which he resides, and is exempt from U.S. income taxes under the foreign-earned-income exclusion, as are certain housing costs. Additional income faces taxation in both countries.
Income tax is hardly the worst aspect of America’s extraterritorial tax system, either.
The Foreign Account Tax Compliance Act (FATCA), an incredibly cumbersome offset to the 2010 stimulus bill, mandates that both Americans abroad and any foreign financial institutions they use must report detailed information to the Internal Revenue Service. Many foreign banks refuse to serve Americans to avoid the compliance costs, and thousands of Americans each year are driven to renounce U.S. citizenship so they can have a normal life abroad, not to mention the countless others who are discouraged from living abroad in the first place.
Who are these people? They are a broad cross-section of our fellow citizens. Some are teachers or medical researchers. Some are missionaries or humanitarian workers. Others conduct diverse business activities, from software development to manufacturing to resource production to sales to shipping and logistics.
In many ways, they are better ambassadors than our diplomatic corps. They are more likely to interact with regular people in the countries where they live. Sometimes they marry or adopt locals, putting down roots in their communities. Their objective is almost always peaceful, and they cost taxpayers nothing.
Americans bring new ideas. Our tradition of ordered liberty based on constitutionally limited government, equality under the law, free markets, inclusive institutions, and individual dignity remains a shining example for many around the world. As we share that heritage abroad, more opportunities for political and economic progress as well as cultural enrichment are created.
Economic development is also crucial. Beyond fostering institutional reform, direct commercial ties can help generate prosperity at home and abroad. Foreign inputs can strengthen production in America. Foreign goods and services can provide better and cheaper consumption options. Foreigners with greater incomes and friendlier attitudes toward America are potential customers for American workers’ products.
U.S. expatriates aren’t just good for spreading American values and building commercial relationships abroad, however. Many also have friends and family back here in the U.S. Their stories and experiences enrich us, too. They share new ideas, perspectives, and ways of living that improve our lives.
All in all, Americans abroad promote mutual understanding, economic development, and peaceful relations with their host countries. Many of our government programs actively promote such international exchanges. Yet our tax code discourages them.
This is easy to fix. About 9 million Americans live abroad. Many have annual earnings below the $102,100 threshold. FATCA does far more harm than good, and legislation has been offered to repeal it. Even if more Americans were to seek their livelihoods abroad, the increased economic activity would more than offset any lost revenue. In fact, American Citizens Abroad’s “residency-based tax” concept can be revenue neutral even without these additional considerations. Of course, the main idea is to remove foolish barriers to flourishing, not to fixate on filling government coffers.
Americans abroad help advance peace and prosperity. They also reduce armed conflict and humanitarian crises. Some seek these outcomes explicitly. Others, by making a living as they provide what other people want, will be (per Adam Smith) “led by an invisible hand to promote an end which was no part of his intention,” such as more robust, resilient, and self-sustaining societies.
Adopting territorial taxation for individual Americans is good policy. It would bring U.S. tax laws in line with global standards. It would simplify legal compliance for overseas Americans and reduce obstacles to their aspirations to serve others. And most importantly, it would enhance U.S. influence and prosperity while enriching Americans wherever they live.
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