If you're an immigrant, we've got a very unusual way of welcoming you.
When immigration reform comes up in the House of Representatives -- Sen. Charles Schumer (D- NY) told MSNBC April 7 it stands a good chance of gaining traction this summer -- Congress should fix an abuse that's affecting many new American citizens: they're being "robbed" of up to half their money by the government when they arrive.
Why is the Internal Revenue Service reaching into the pocket of our newest citizens and resident aliens the moment they reach American soil? The reason: the aliens are being caught in a net designed to catch significant tax abuse by U.S. citizens sheltering money in overseas bank accounts. The aggressive programs put in place to ferret out these hidden accounts have been generating billions of dollars for the Treasury Department, so there's been little incentive to tinker with them.
A July 2012 report from the Tax Justice Network estimated there's $21-$31 trillion secreted in offshore tax havens, but that's just a guess. So far, the IRS has collected about $6.5 billion of this stash (in the form of back taxes, interest and penalties) from the 43,000 folks who have participated in its Offshore Voluntary Disclosure Program (OVDP), IRS Commissioner John A. Koskinen told the Senate Appropriations Committee last month.
Nobody knows how much of the uncollected portion of the cash cow is from innocent new citizens who were not aware of their tax liabilities. But if left unchecked, the little-known practice of going after the assets that they have built up over a lifetime of living outside the U.S. could cause a brain drain of some of the most talented people who are helping to fuel our economy.
In fact, right now, our newest Americans can be fined up to 50% of the money they have overseas, if, after becoming U.S. resident taxpayers, they fail to file the right form. Worse still, neither they nor many of their accountants seem to know they need to submit a declaration of their foreign assets to the IRS.
The required document is called a Foreign Bank Account Report (FBAR). If you're a new citizen (or, of course, a native-born American) and you willfully fail to file the required FBAR, you can be fined up to $250,000 and/or sentenced to up to five years in jail. Even the civil penalties can run up to $100,000 or 50% of the amount in your foreign account, whichever is higher, for each year you should have filed an FBAR and didn't.
Imagine super scientist Albert Einstein, who emigrated in 1933 at the age of 54, or Beatles musician John Lennon, who got a green card to live here in 1976, moving to the United States and being thrown in jail or forced to give the U.S. government up to half of their overseas money because they failed to file the right paperwork.
There are several reasons why the current system, as applied to foreign born U.S. residents, is unjust.
* First of all, unlike some American-born citizens who are routinely accused by the IRS of hiding their assets in tax havens overseas, many of the arriving new citizens really did legitimately make their money outside of the U.S.
* Secondly, unlike the U.S., their own countries usually don't tax the income their own citizens make in other lands. As a result, it may not occur to new American citizens or resident aliens that they have the U.S. imposes such an obligation.
* Thirdly, they see it as a form of double jeopardy. If they do consult a tax specialist and learn about the FBAR requirement and the taxes they must pay here, their reaction often goes like this: "But I earned the money in Italy. I wasn't an American citizen then."
To be fair, the U.S. doesn’t tax the money earned elsewhere prior to a taxpayer’s arrival---just the income made on that money since the person became an American. That’s because Americans are taxed on worldwide income and, the thinking goes, new citizens should not be given any special break. Although this is true in concept, if New Americans fail to file FBARs disclosing their offshore accounts, they face penalties of up to 50% of their legitimately earned overseas assets and that’s wrong. If they come in voluntarily under the OVDPto admit they failed to file FBARs after becoming a U.S. taxpayer, the penalty will be anywhere from 5% to 27.5% of the maximum they had in the undisclosed account for the years when they should have reported it. Calling this a penalty instead of a tax doesn't make it any easier to take. (Remember, that FBAR penalty is in addition to back taxes, penalties and interest on any income from the account that they should have reported on their 1040s. Plus, a taxpayer who is already being audited you’re not eligible to participate in the OVDP.)
Not only is it unfair for us to subject foreigners to a practice that does not happen elsewhere, but the situation is getting worse. Five years ago, court cases involving IRS seizures of the foreign assets of new citizens were practically unknown. Now, it's emerged as a new area of the law.
Moreover, before they apply for citizenship here, these new, legal immigrants are not being told that their assets in their previous home countries will be subject to taxation or seizure. Since ignorance is not an excuse under our laws, why shouldn't everyone be informed about their responsibilities?
If fairness isn't enough of a reason to correct the situation, then what about doing so to help shore up our recovering economy by keeping hundreds of thousands of highly skilled and educated workers who have entered the U.S. under the H1B temporary worker visa program from deciding to leave?
In 2013, all of the top 10 H1B visa sponsors were technology, infotech, or accounting companies, with #6 Microsoft offering these workers an average salary of $110,000, #5 Deloitte Consulting paying them a wage of about $98,000, and #4 IBM tapping them for $93,000, according to a report on top H1B users at www.myvisajobs.com. Each such worker who passes what's called a "substantial presence test" must pay taxes on not only his or her new U.S. income but also the worldwide income they left behind in their former countries that they had spent a lifetime earning. The number of these "smart" H1B visa holders has been rising rapidly, reaching 820,431 in 2012 from 671,837 in 2011 and 499,218 in 2010. Do we want to risk reversing their flow?
Already, some overtaxed H1B workers have turned around and left. And some foreigners who become U.S. citizen later renounce their new U.S. citizenship and head home. Although no one can say for sure how much of this is tax related, it's notable that the number of individuals renouncing American citizenship almost doubled between 2011 and 2013.
How can we remedy this situation?
We need to overhaul the penalties for failure to file the FBAR. Assets earned prior to arrival should be exempt from seizure. Only the income generated by those assets—not the balance in those accounts---should be subject to the 50% penalty for failing to file an FBAR.
In her 2013 Annual Report to Congress, U.S. Taxpayer Advocate Nina Olson found that taxpayers who made mistakes that were not willful on their overseas tax reporting were being harshly treated, with average size account balances being hit with median penalties equal to 381% of the additional tax owed, while those with the smallest account balances, averaging $44,855, were being hit with penalties equal to 580% of the tax they hadn’t paid.
We should also stop blindsiding our new citizens. They should not be taxed on overseas earnings until they are informed that they will be responsible for paying taxes on new income that is being made outside of the U.S. There should be a legal disclosure document that every new citizen or new resident alien must sign that specifically instructs them (in their native language) that they must disclose all of their assets as part of their admission, and informs them that they must pay tax on their global income, not just what's earned in the U.S..
Indeed, Olson's office recently recommended that the IRS consider working with the State Department and Homeland Security Department to "educate persons likely to have foreign accounts," including "recent immigrants," when they apply, for example, for visas. So far, the request has fallen on deaf ears.
The Immigration & Naturalization Service should establish a series of seminars to inform new citizens that, effective after the workshops, they will liable for taxes on income, no matter where it is made. A question about tax liability should also be added to the ten-question test that the INS has been asking incoming citizens since 2006. And finally, let's give our new citizens and resident aliens a break by declaring a complete amnesty on paying back taxes on income earned outside the U.S. retroactive to the time they are informed of their tax rights and responsibilities.
Until Congress mandates a true amnesty program, without penalties or the threat of criminal charges, for people who earned money internationally before becoming resident aliens or U.S. citizens, many talented people will continue to return to their countries of origin rather than risk losing their life savings to FBAR penalties.
Philip Panitz is a tax attorney and certified tax specialist at Panitz & Kossoff, LLP . He has litigated over 300 cases in the United States Tax Court and in 1995 won a landmark Supreme Court case, Williams v. United States, which changed the way the IRS can seize properties from third parties.
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