An email from John Strohmeyer this morning made me laugh:

Important part

At a news conference this morning, Sens. Schumer and Bob Casey, D-Pa., will unveil the “Ex-PATRIOT” – “Expatriation Prevention by Abolishing Tax-Related Incentives for Offshore Tenancy” – Act to respond directly to Saverin’s move, which they dub a “scheme” that would “help him duck up to $67 million in taxes.”

Full article

http://abcnews.go.com/blogs/politics/2012/05/senators-to-unveil-the-ex-patriot-act-to-respond-to-facebooks-saverins-tax-scheme/

Thoughts

• - I’m surprised it took them this long to introduce this.

• - Once we’ve managed to insulate ourselves from the rest of the world and its capital, THEN our economy will take off!

• - Perhaps if our system wasn’t such a nightmare, people wouldn’t want to leave.

Yes, John. It is a full-blown Moronathon on Capitol Hill.  (PS:  Senator Schumer is also a “D”.  Not to say that the “R” people are sane.  Not at all.  I just need to point out that Sen. Schumer is a “D”.  Also from New York.  Wasn’t that the site of a world-famous stock market once upon a time?)

The United States has not had capital controls (i.e., restrictions on the ability to move money out of the country) for a long time.  Here is an article about what it’s like in Iceland where such restrictions exist.

By curious coincidence, the last few years of tax law and tax enforcement are propelling the United States to a position where currency restrictions will be easy to implement.

If you can’t send your money abroad, at least you can jump on a plane and leave the country, right?  Well, funny you should mention that.  

OK.  Time to take off the tin foil hat, Phil.  Red pill or blue pill?

U.S. citizen who is a resident of another country must nevertheless pay income tax to the United States.  And, of course, the country where the citizen lives will also want to collect income tax.

This is called citizenship-based taxation.  The power to tax you is based on your citizenship, rather than your residence.

This blog is all about dispelling hand-wavy knowledge and replacing it with stone-cold fact. It is time to do this with citizenship-based taxation, at least partially.

The hand-wavy answer to the question “Which countries impose income tax on their citizens living abroad?” is usually “The United States, the Philippines, and Eritrea.”  That is wrong.

Philippines

The Philippines taxes its citizens living abroad only on Philippines-sourced income.  National Internal Revenue Code Section 23(B) says:

A nonresident citizen is taxable only on income derived from sources within the Philippines[.]

Eritrea

Eritrea is mentioned as a country that taxes its citizens abroad.  The tax rate is 2%.  In fact, this appears to be an thinly-disguised method of extortion.

I am unable to get any first-hand information from the Ministry of Finance, so you may feel free to treat my conclusion here as entirely hand-wavy.  Or, tell me what you know so we can all get smarter.

United States

That leaves the United States, in all of its glory, as the only country that taxes its citizens no matter where they live.

Somewhere in the Far East or Pacific?

An email from a CPA in New York this morning (I won’t tell you her name but her initials are Susan Brown Otto) triggered this blog post.  She mentioned she had heard that there is an island nation in the Far East or the Pacific that also imposes citizenship-based taxation.  She was unsure of this.  I don’t know of any such country.

Again, if anyone out there can bring us from darkness into light, it would be much appreciated.

Last week I flew into Dulles. As I was standing around waiting for the shuttle I looked and who should I see but Will Maguire, an L.A. trademark lawyer and long-time Roxbury friend. He took a picture to prove it really happened. Here I am on the sidewalk outside the terminal at Dulles.

You’ve seen the articles.  Heard the rants on TV.  Seen my prior blog post.

Now here is the economic reason he gave up his U.S. citizenship last September, pre-IPO.

How he was taxed when he gave up citizenship

When you give up your citizenship, the IRS pretends that you sold everything the day before.  Let’s pretend Eduardo Saverin cancelled his citizenship on September 30, 2011.  That means the IRS pretended he sold everything he had on September 29, 2011.

Among other things he owned was a giant stack of Facebook stock.  Eduardo’s tax lawyer (if smart) went and bought a really expensive valuation opinion on what the stock was worth on that date.  Eduardo acquired the stock at as close to zero as you can be.  So the entire amount was capital gain.

Example.  Eduardo owned 100 shares of Facebook stock that he bought for $100 at founding.  On the day before he expatriated his stock was worth $1,000.  He has a really well-documented valuation opinion to prove it.  (Remember, at this point Facebook is pre-IPO.  There was a secondary market for this stuff so it’s reasonably easy to get reasonably close to what the stock was worth).

Eduardo has capital gain of $900.  He happily pays tax to the U.S. government on that $900 capital gain.

How he’s taxed after he gives up citizenship

Now Facebook goes all IPO ‘n stuff.  His 100 shares are suddenly worth $2,000.  Remember.  Eduardo is a nonresident alien — a noncitizen of the United States who also happens to not be living in the United States.  He sells the stock for $2,000.  He pays U.S. capital gain tax of ZERO.

Whaaaaaa?

Or as Reddit would say, ffffffffuuuuuuuuuuuuu!

Yep.  True story.  Zero tax in the USA.

A nonresident alien does not pay capital gain tax on stock sales of U.S. companies.  Not just Facebook.  It could be Google, Apple, anything.  Nonresident investors do not pay capital gain tax on their stock sales.  (Usual disclaimer – exceptions to the rule exist everywhere but for the well advised investor this is the result).

Example:  Eduardo owned 100 shares of Facebook stock that he bought for $100 at founding.  He cancels his citizenship and pays his $900 tax as described above.  The company goes IPO.  Now the stock is worth $500 per share.  His holdings are worth $50,000.  He sells.  Pays no capital gain tax.

This means that the total capital gain tax that he paid, as a founder of Facebook, was $900.

And if the price per share goes to $1,000, he has $100,000 in his pocket, on which he paid $900 of tax.

Etc.

I don’t know the true numbers

I don’t know the true numbers that apply to him.  But that’s the tax game he played.  He only gets taxed on the capital gain up to the value of the stock on the day before he expatriated.  All future appreciation in value is forever tax-free to him.

I approve.

EDIT:  I’m quoted in an article on abc.com about this situation.