The Taxation (or Non-Taxation) of Citizenss Foreign Income: Distilling the Competing Normative Arguments

Abstract

Modern developments raise significant questions about the future importance (or non-importance) of formal citizenship status. For example, while many have interpreted the European Union project, with its emphasis on the free movement of individuals, as portending the decreasing relevance of nationality, recent developments, such as the “Brexit” vote, suggest that national identity remains an important factor for many individuals. While much of the public debate over citizenship focuses on areas, such as immigration, that are more obviously tied to formal citizenship status, this debate also impacts cross-border tax policy. Over the past decade, several scholars have addressed the use of citizenship status as a jurisdictional basis upon which to tax the foreign-source income of individuals who live outside of their country of citizenship. Some writers have defended the United States’ use of this citizenship-based taxation (“CBT”) to tax the foreign income of citizens living abroad, while a more significant number of scholars have rejected it and proposed that the United States tax the foreign income of U.S. citizens only if they reside in the United States (residence-based taxation, or “RBT”). This Article considers the competing normative arguments surrounding the use of citizenship as a jurisdictional basis to tax, and distills the strengths and weaknesses of each. In so doing, it highlights the most salient factors upon which the debate hinges, and illustrates the importance of difficult-to-measure predictions of how both individuals and society will react to different regimes. The Article ultimately concludes that the debate between CBT and RBT often overemphasizes the subjective circumstances of particular individuals, and underemphasizes the broader impact of the alternative regimes on social cohesion within the United States. When coupled with the significant residence neutrality concerns that may arise under an RBT regime and the resulting potential to create a permanent class of wealthy U.S. citizens living abroad who would not be subject to taxation, these social cohesion concerns suggest that the United States should continue to exercise citizenship-based taxing jurisdiction. However, the Article acknowledges that such a CBT regime can only be defended in practice if the IRS and Congress are willing to address the significant practical compliance concerns faced by many citizens living abroad.