The Expatriation Tax, Deferrals, Mark to Market, the Macomber Conundrum and Doubtful Constitutionality
60 Pages Posted: 14 Jul 2018 Last revised: 22 Aug 2018
Date Written: 2017
Taxpayers shift income offshore with lawful devices like operating through a foreign corporation. Taxpayers have enhanced the amount of that income lodged outside the U.S. with transfer pricing strategies. And taxpayers have evaded U.S. taxation of their worldwide income by secreting assets and income in tax haven, bank secrecy jurisdictions. Statutes, regulations and litigation seek to limit use of offshore opportunities to avoid the U.S. income tax. Penalties for taxpayers and their foreign hosts have been enacted to prevent the hiding of assets offshore. This article reviews many of those techniques and statutory or regulatory responses in the context of examining the 2008 expatriation tax. Expatriation removes taxpayers’ foreign source income from U.S. taxing jurisdiction including gain on appreciated property that changes source as the taxpayer expatriates. In response to increasing numbers of expatriating Americans, loss of potential tax revenue from those expatriates has become a growing concern. While capture of a portion of the expatriate’s wealth produced while in the U.S. seems justified and desirable, continuing U.S. taxing jurisdiction over pre-expatriation increases in wealth is difficult to enforce as the individual may be beyond the reach of U.S. authorities. Congress enacted the expatriation tax to capture those increases in wealth at the moment of expatriation while the U.S. still has jurisdiction over the taxpayer. Yet, requiring an expatriating individual to pay a tax on increases in wealth that accrued while the individual was subject to the U.S. income tax – largely unrealized appreciation in value -- is problematic in a realization-based tax system like the U.S. has. Even if taxation is permissible, taxing expatriation is a barrier to emigration and in that it treats emigrating taxpayers differently and less favorably from all other U.S. taxpayers. Expatriation is not an event of realization and longstanding U.S. Supreme Court precedent determined that absent realization, gain is not income. This article addresses that constitutional conundrum and identifies the income that the U.S. may tax without question and emphasizes the constitutional barrier to taxing the unrealized appreciation. The article anticipates litigation of the constitutional issue and recommends that if the tax withstands constitutional challenge Congress enact a comprehensive tax base reaching all unrealized appreciation for all taxpayers. That comprehensive base would both simplify the tax law and help to level the growing disparity between wealthy and poor in the U.S.
Keywords: Expatriation, Taxation, Realization, 16th Amendment, Emigration, Tax Policy
JEL Classification: D60, K34, H21, H22, H23, H24
Suggested Citation: Suggested Citation