Cook v. Tait 11: Who should #americansabroad be compared to for tax purposes? Even U.S. citizens are entitled to “equal protection” under the 14th amendment

I have been blogging on U.S. citizenship-based taxation since 2011. In February of 2012, I wrote the “Prologue” for this series of posts:

Citizenship renunciations soaring under Obama – Renunciation as an Act of Self Defense

That post included the following poll. The results are shocking!

In January of 2013 I began a series of posts to explore the rationale (if there is one) for  “citizenship-based taxation”. I simply cannot understand how the United States of America, a country that once was a leader in human rights, can treat it’s citizens (not to mention Green Card holders) so badly. I assume that Congress has simply not considered this issue.

This series of posts (including the Prologue are):

Cook v. Tait Prologue: Citizenship renunciations soaring under Obama – Renunciation as an Act of Self Defense

Cook v. Tait 1: Does Cook v. Tait really mean that citizenship-based taxation is constitutional in all cases?

Cook v. Tait 2: The presumption of government benefit

Cook v. Tait 3: Legal Scholar agrees justification in Cook v. Tait, but offers new justification for citizenship-based taxation

Cook v. Tait 4: Taxation of #Americansabroad based on US culture 150 years ago! Time warp or what!

Cook v. Tait 5: Citizenship-based taxation was never justified – League of Nations reports!

Cook v. Tait 6: Taxation of Green Card holders who reside outside the U.S.

Cook v. Tait 7: Equality: Law prohibits both rich and poor from sleeping on the park bench

Cook v. Tait 8: Does citizenship-based taxation cross the boundaries of tax justice?

Cook v. Tait 9:  US may have to stop citizenship-based taxation to get #FATCA IGAs

Cook v. Tait 10: Those born outside the U.S. to U.S. citizens, may not be U.S. citizens

Cook v. Tait 11: Who should #Americansabroad be compared to for tax purposes? Even U.S. citizens are entitle to “equal protection” under the 14th amendment

This post discusses citizenship in the context of the equal protection clause of the 14th amendment of the constitution. I will argue that the equal protection prohibits discrimination against U.S. citizens abroad based on their citizenship.

The idea for this particular post came from the following comment at the Isaac Brock Society.

What follows is a quote from Bernard Schneider’s submission to the Ways and Means Committee:

“Generally, U.S. expatriates are treated like U.S. residents and taxed on their worldwide income. However, U.S. expatriates should be compared not to U.S. residents but to nonresident aliens. But for their citizenship or immigration status, U.S. persons abroad would be treated like nonresident aliens, i.e. generally taxed at a flat rate of thirty percent on U.S. source income that is not effectively connected with a U.S. trade or business and at the regular graduated rates on income that is effectively connected with a U.S. trade or business, including on gain from the sale of real property interests in the United States. In addition, net capital gains would not be taxable unless they are fixed or determinable annual periodic income. Needless to say, the foreign source income of nonresident aliens is not taxed by the United States. In most cases expatriates could engage in the same economic activities in the United States as nonresidents without paying the higher taxes for which residents are liable. The difference between the tax imposed on nonresidents and that imposed on expatriates constitutes part of the “citizenship penalty” paid by U.S. persons abroad.”

Note particularly the last sentence that reads:

“The difference between the tax imposed on nonresidents and that imposed on expatriates constitutes part of the “citizenship penalty” paid by U.S. persons abroad.”

I don’t think I have seen this expressed as clearly as in that sentence.

The  “Citizenship Penalty”, the 14th Amendment  and “Equal Protection”

The 14th amendment of the U.S. constitution reads as follows:

All persons born or naturalized in the United States, and subject to the jurisdiction thereof, are citizens of the United States and of the State wherein they reside. No State shall make or enforce any law which shall abridge the privileges or immunities of citizens of the United States; nor shall any State deprive any person of life, liberty, or property, without due process of law; nor deny to any person within its jurisdiction the equal protection of the laws.

The “citizenship penalty” deserves consideration.  Both US citizens abroad and non-resident aliens are non-residents of the U.S.  The fact that the U.S. citizen pays higher taxes, because of U.S. citizenship,  is arguably a violation of the “equal protection” clause of the 14th amendment. Furthermore, the U.S. Supreme Court has ruled that “citizenship classifications” are “suspect classifications” and that they can be upheld only if the government can demonstrate a compelling state interest. Why should US citizens abroad pay a penalty because of their citizenship?

But, let’s back up.

14th Amendment – The meaning of Equal Protection of the Laws

The 14th amendment of the U.S. constitution requires “equal protection of the laws“. What does this mean? Although “equal protection” is conceptually difficult, it does require that people who are similar in terms of the purpose of a law should be treated in similar ways. The seminal article in this area was “Equal Protection of the Laws” by Tussbrook and Tenroek. The idea is that laws must not discriminate against those who who are “similarly situated with respect to the purpose of the law”.  This is easier said than done.

Laws by their very nature impose obligations or give benefits to different groups.  In some cases it makes sense to treat different groups differently. In some cases it makes sense to treat different groups the same. When is it permissible to treat groups differently?

Let’s imagine two groups.

Group 1: Residents of New York State

Group 2: Non-residents of New York State

Example of Treating Different Groups Differently: For example, for the purposes of receiving benefits from the State of New York, it is reasonable to treat residents of New York as being different from non-residents of New York. Why? Presumably New York benefits are paid from taxes collected by residents of New York state. Hence, for the purposes of the “law of receiving New York benefits”, it makes sense to treat New York residents and non-residents differently. In this case residency is relevant to the purpose of giving benefits.

Example of Treating Different Groups The Same: It doesn’t follow that New York residents and non-residents should always be treated differently. For example a law that imposes a speed limit of 60 mph in New York State should apply equally to anybody who is driving on the road. In this case, the fact of New York residency is irrelevant. Both residents and non-residents are the same in terms of the purpose of the law (traffic safety).

The question is: to whom should U.S. citizens abroad be compared to for the purposes of possible taxation?  The Schneider comment identifies at least two possibilities. Each possibility results in discrimination against U.S. citizens abroad.

Possibility 1- Comparison to U.S. Residents – When compared to U.S. residents U.S. citizens abroad are discriminated against because of their residency. Why should only U.S. citizens abroad be subject to so much reporting and paper work?

Possibility 2 – Comparison to non-resident aliens – When compared to non-U.S. residents aliens, U.S. citizens abroad are discriminated against because of their citizenship. Why should U.S. citizens have to pay higher taxes simply because they are citizens?

Which is the better and more rational comparison? Should U.S. citizens abroad be compared to “Homelanders” or to “Non-resident aliens”?

(Note that U.S. citizens abroad are discriminated against under either scenario. It’s just that in the first case (compared to Homelanders) they are discriminated against based on residence. In the second case they are discriminated against based on citizenship.

The “proper comparison”  depends on the purpose of the law. There are two government objectives in imposing taxes.

First Objective – To inflict punishment and to deter behavior. In this case the purpose is to inflict harm. Presumably the intended benefit is that the government will have less of the objectionable behavior. A surprisingly large number of U.S. INCOME tax laws and regulations exist only to inflict pain, punish and  deter behavior. In fact,  some provisions of the Internal Revenue Code are so punitive that they cease to be “taxation” and become “confiscation”. The PFIC rules would be an example of this principle. Similarly, the fines levied for failing to report information are clearly not taxes but are a form of confiscation.

Examples where tax laws are used to deter or to confiscate:

– The Estate Tax ( the only purpose of the Estate Tax is to prevent large amounts of money from being handed to the next generation. This is pure confiscation for the sake of confiscation);

– PFICs (these rules exist only to punish investing in entities outside the U.S. Some may attempt to argue that the rules exist only to ensure that interest is paid on deferred gains. The fact that, what would be capital gains, are taxed at the highest marginal rate is proof of the ridiculousness of this argument. PFIC taxes can can close to 100% of the gain. Hence, PFIC taxes are a form of “confiscation”);

– Subpart F Income (again the fact that this is taxed as ordinary income, regardless of its true nature is proof that it is a punishment tax).

The amount of revenue raised from any of these examples is insignificant. Interestingly the PFIC “fine” and Subpart F “fine” apply disproportionately to U.S. citizens abroad. Is that discrimination?  The PFIC and Subpart F fines apply to both Homelanders and to U.S. citizens abroad. How could a law that applies to everybody be discriminatory? The answer is that: The law in its majesty prohibits both the rich and the poor from sleeping on the part bench.

Second Objective – Taxation exists to finance government services. In this case the beneficiaries are the recipients of those services. The income tax generally applied (for example to employment income) and sales tax generally applied are the obvious examples. The U.S. government generates most the money to pay for services from the income tax generally applied.

What is the purpose of taxing the foreign income of U.S. persons who reside in other countries? – What is the purpose of the law?

The purpose of levying tax on the foreign income of U.S. citizens who do not reside in the U.S. is unclear. The fact that it inflicts severe punishment on U.S. citizens abroad is very clear. The pain and punishment of U.S. extra-territorial taxation has been well documented in submissions to the Ways and Means Committee. Furthermore, if the results of the following poll are any indication, many believe that the purpose of taxing U.S. citizens abroad is to inflict punish!

Purpose 1 – Extra-territorial taxation as punishment

Could it be really be that Congress has decided to punish U.S. citizens who decide to live outside the United States? Although this is possible it does require one to accept “the unthinkable”. It also requires one to accept that Congress wants to punish U.S. citizens abroad, so much, that they are willing to inflict severe economic consequences on the United States itself. Is this really possible? U.S. citizens abroad are:

– not all the same

– not tax evaders

– generally patriotic

What is it about living outside the United States that would make them so despicable? What is it that makes them so deserving of harsh treatment? Why is the United States so cruel to its citizens abroad? Are U.S. citizens abroad the property of the United States? Property they can do what they want with? Previous posts have demonstrated that the U.S. government does NOT by its very nature benefit U.S. citizens abroad. In fact as the huge rise in renunciations of U.S. citizenship indicate, people are renouncing to protect themselves from the U.S. government. Furthermore, the “tribute” paid to the U.S. by U.S. citizens abroad, is at the expense of the country where they reside. Hence, U.S. extra-territorial taxation directly harms the economies of other nations.

The harm resulting to other countries may mean that, citizenship-based taxation may be in violation of international law.

That said: if the purpose of citizenship-based taxation is to inflict punishment on U.S. citizens abroad, then the U.S. citizens abroad should be compare to “Homelanders”. It’s the U.S. citizens abroad who should be punished for leaving the Homeland.  Presumably a law with a discriminatory purpose would violate “equal protection”. 

Purpose 2 – Raising Revenue – The Need For All To Pay Their “Fair Share”

“Fair share” for what. Presumably “fair share” for the expenses of government. “Fair share” for the services that are used. Does Mitt Romney pay his “fair share?” Certainly Barack Obama doesn’t pay his “fair share”. If this is the purpose of taxing U.S. citizens abroad then we are left with the question:

Should U.S. citizens abroad be compared to Homelanders or to other non-residents who are required to pay tax to the U.S. based on U.S. income or property.

The simple fact is that U.S. citizens abroad do NOT use U.S. government services. Furthermore, the idea that the U.S. government inherently benefits U.S. citizens abroad is ridiculous. In fact the U.S. government is very harmful to U.S. citizens abroad.

U.S. citizens abroad  are  like  other non-U.S. residents who do NOT use government services.

Therefore, with respect to the purpose of raising funds for government services, the correct comparison should be to compare U.S. citizens abroad to non-resident aliens. This is the position taken by Bernard Schneider.

The Tax and Benefit Analysis – Who pays and who receives?

When we consider the circumstances of citizenship and residence we have  four possibilities.

Citizen         Resident      Taxable in U.S.   Beneficiary of Services

Yes              Yes               Yes                     Yes

No               Yes               Yes                     Yes

Yes               No               Yes                     No

No                No               Maybe*              No

*If holds Green Card – this is absolutely incredible. It means that the U.S. believes it has the right to tax a non-U.S. citizen who does NOT even reside in the U.S.  There is certainly NO constitutional justification for this. Not even Cook v. Tait (as bad as the decision is could possibly justify this.)

What does this mean in terms of “equal protection”?

I don’t actually believe that Congress is intentionally trying to inflict pain on U.S. citizens abroad. I believe that the law of citizenship-based taxation is the result of layer upon layer of laws with unintended consequences. The laws have not been changed because Congress responds only to voters who matter. No Congressman will be elected or defeated because of votes from abroad.

Hence, Congressmen don’t care about U.S. citizens abroad. No other governments care about U.S. citizens abroad. (In fact, nobody in the world cares about them.) Furthermore, U.S. citizens are disliked all over the world. It is impossible for them to negate the ubiquitous hostility and hatred for the United States.

Therefore, assuming that citizenship-based taxation would be justified as a revenue raising measure, the ASSUMPTION (because Congress has not considered the question) is that all U.S. citizens benefit from government services. Non-U.S. residents do NOT benefit from U.S. government services.

As Bernard Schneider notes:

“The difference between the tax imposed on nonresidents and that imposed on expatriates constitutes part of the “citizenship penalty” paid by U.S. persons abroad.”

Why should U.S. citizens abroad be compared to “Homelanders” instead of non-resident aliens? Shouldn’t this trigger 14th amendment scrutiny?

Equal Protection and the Standard of Review

Obviously Congress has the right to make laws. Obviously the Supreme Court has the right to invalidate laws that violate the constitution. The problem facing all lawyers considering an “equal protection” challenge is the question of:

“How much will the court allow congress to get away with? How much will the court defer to Congress? The problem facing any lawyer is how to get the attention of the court. How can the lawyer get the court to actually consider whether there is a violation of “equal protection”? The answer depends largely on the kind of classification involved.

When will the court intervene? At the risk of oversimplification, the court has identified the following standards of review.

– Rational Basis: “turn a blind eye” – all Congress to do what it wants

– Intermediate Scrutiny: “wink” – take a brief look, but then allow Congress to do what it wants

– Strict Scrutiny: “take a good look” – make Congress justify what it is doing

The question is: what set of facts will trigger which level of scrutiny.

Citizenship Classifications and the Equal Protection Clause of the 14th Amendment

The law of equal protection and citizenship is complicated by the facts of each case. Here is a primer on citizenship and equal protection. The vast majority (if not all) of the reported cases deal with discrimination based on citizenship where the non-U.S. citizen is claiming discrimination. That said, the cases are about discrimination based on citizenship.  When it comes to non-U.S. residents, the United States is discriminating based on citizenship: in this case against its own citizens! It seems strange that a non-citizen would get a benefit (lower taxes than a U.S. citizen). Therefore, the tax treatment of U.S. citizens abroad arguably violates the equal protection clause of the U.S. constitution.

Citizenship classifications – Standard of Review

Finally, “citizenship classifications” are regarded as particularly offensive and will be subjected to a probing level of analysis. The justification for this “probing analysis”  was given by Justice Harlan in an old Supreme Court decision of Carolene Products.

As reported by one commenter:

The idea of the “discrete and insular minority” originated in the now famous footnote four of the opinion in UNITED STATES V. CAROLENE PRODUCTS COMPANY (1938). Justice HAR- LAN F. STONE, writing for only a plurality of the Court, queried—without answering the question—“whether prejudice against discrete and insular minorities may be a special condition, which tends seriously to curtail those political processes ordinarily to be relied upon to protect minorities, and which may call for a correspondingly more searching judicial inquiry.” In the wake of the Court’s about-face in 1937, Justice Stone was serving notice that the Court might not accord the same deference to statutes directed at “discrete and insular minorities” that it would to statutes directed at ECONOMIC REGULATION.

The Court made little use of the concept until the early 1970s, when it began to delineate the class characteristics of such groups. Included were groups that had been “sad­dled with such disabilities, or subjected to such a history of purposeful unequal treatment, or relegated to such a position of political powerlessness as to command extraor­dinary protection from the majoritarian political process.” Although race, nationality, and alienage seem to have been firmly established as class characteristics of the “discrete and insular minority,” the Court has refused to extend such class status to illegitimates,

It is quite obvious that U.S. citizens abroad are in a position of “political powerless”. That they need protection from the “majoritarian political process”. (I recently suggested in a blog post that U.S. citizens abroad need a lobbyist or two in Washington.)

Why, among the group of non-U.S. residents, should U.S. citizens be singled out for punitive treatment? Of course, that assumes the purpose of the tax is to raise revenue for government services. But then again, maybe the taxation of U.S. citizens abroad is, as Roger Conklin says, a punishment for leaving the Homeland – a kind of “sin tax.”

U.S. Citizenship Abroad and the “Equal Protection”

U.S. citizens abroad compared to Homlanders:

In this case it’s clear that U.S. citizens abroad are discriminated against only they have chosen to live outside the “Homeland”. This results in discrimination only for the sake of discrimination. Surely this would violate the “equal protection clause”.

U.S. citizens abroad when compared to non-resident aliens?

This is an example of what Bernard Schneider calls the “citizenship penalty”. A penalty based on citizenship would violate the equal protection.

Conclusion:

The substance, form and administration of U.S. tax laws as applied to U.S. citizens abroad violates the 14 amendment. Whether they are compared to “Homelanders” (discrimination based on residence) or to “Non-resident aliens” (discrimination based on citizenship) they are discriminated against.  i

To repeat Bernard Schneider:

“The difference between the tax imposed on nonresidents and that imposed on expatriates constitutes part of the “citizenship penalty” paid by U.S. persons abroad.”

Discrimination based on citizenship is subject to a very high standard of scrutiny under U.S. constitutional law. It is doubtful that this kind of discrimination could pass constitutional muster.