The 1996 Act extended the alternative tax regime to apply not only to U.S. citizens who lose their citizenship but also to certain long-term residents of the United States whose U.S. residency is terminated. Second, the 1996 Act provided special rules for purposes of determining whether a former citizen or former long-term resident relinquished citizenship or terminated residency with a principal purpose of tax avoidance. Under these rules, an individual is deemed to have relinquished citizenship or terminated residency with a principal purpose of tax avoidance if (1) the individual's average annual U.S. Federal income tax liability for the five taxable years prior to citizenship relinquishment or residency termination exceeds $100,000, or (2) the individual's net worth on the date of citizenship relinquishment or residency termination is $500,000 or more, as adjusted for inflation. Certain categories of individuals can avoid being deemed to have a principal purpose of tax avoidance for expatriating or terminating residency under these special rules if such individuals submit a ruling request to the IRS regarding whether they relinquished citizenship or terminated residency principally for tax reasons. Third, the 1996 Act expanded the categories of income and gains that are treated as U.S.source (and, therefore, subject to U.S. income tax under section 877) if earned by an individual who is subject to the alternative tax regime, and included certain provisions to eliminate the ability to engage in certain transactions that under prior law (i.e., the law in effect before the 1996 changes) partially or completely circumvented the 10-year reach of section 877. These included transactions in which income is derived through controlled foreign corporations, certain foreign property is acquired in nonrecognition transactions, and U.S. property is contributed to foreign corporations. Fourth, the 1996 Act provided relief from double taxation in circumstances in which another country imposes tax on items that would be subject to U.S. tax under the alternative tax regime. This change addressed the concern that amounts taxed under the alternative tax regime could be subject to double taxation. For example, under pre-1996 law, items could be taxed by both the United States and the country of residence of a former citizen. Fifth, the 1996 Act contained provisions to enhance compliance with the alternative tax regime, and to assist the IRS in identifying former citizens and former long-term residents who are subject to the alternative tax regime. The 1996 Act imposed information reporting obligations on U.S. citizens who lose their citizenship and long-term residents whose U.S. residency is terminated at the time of citizenship relinquishment or residency termination, and required the Department of State and other governmental agencies to share certain information with the IRS with respect to such individuals. The 1996 legislative changes to the alternative tax regime were effective for any individual who lost U.S. citizenship, and any long-term resident whose U.S. residency was terminated, on or after February 5, 1995. A special transition rule applied to individuals who committed an expatriating act within one year prior to February 6, 1995, but had not applied for should not allow individuals who renounce citizenship for tax purposes the continued enjoyment of some of the privileges of residency in the United States. See Part V.D.1, above. a CLN as of such date. Such an individual was subject to the alternative tax regime, as modified in 1996, as of the date of application for the CLN, but was not retroactively liable for U.S. income taxes on his or her worldwide income. In the case of any former citizen, a request for a ruling that such individual did not have tax avoidance as a principal purpose for the individual's citizenship relinquishment was due not earlier than 90 days after August 21, 1996 (the date of enactment of the 1996 Act). 321 320 The 1996 Act also directed the Department of Treasury to undertake a study on the tax compliance of U.S. citizens and green-card holders residing outside the United States and to make recommendations regarding the improvement of such compliance. The findings of such study and recommendations were required to be reported to the House Committee on Ways and Means and the Senate Committee on Finance within 90 days after August 21, 1996 (the date of enactment of the 1996 Act). In May 1998, the Department of Treasury issued its study on the income tax compliance by U.S. citizens and U.S. lawful permanent residents residing outside the United States." The Department of Treasury noted that compliance and enforcement may be extremely difficult with respect to individuals whose connection with the United States was or will be minimal. For example, if an individual no longer has investments in the United States, the IRS may not receive information from third party payers with respect to that individual. Thus, the IRS may not be able to determine whether such individual should have filed a U.S. income tax return. The report also noted that information from the Department of State and the INS often lack the former citizen's or former permanent resident's social security number. Since IRS systems are based on such numbers, the report noted that the IRS has difficulty matching the information it receives from these agencies with other IRS data. In addition, the report pointed out that the date a CLN is issued does not correspond with the date of the expatriating act. The report noted that the 10-year period under section 877 potentially could expire between the date of the expatriating act and the issuance of the CLN by the Department of State. Finally, the Department of Treasury noted that the information provided by the INS with respect to former green card holders was not sufficient to identify which green card holders were former long-term residents for purposes of the alternative tax regime (i.e., a resident for eight out of the last 15 years). 320 See Joint Committee on Taxation, General Explanation of Tax Legislation Enacted in the 104th Congress, 387, JCS-12-96 (December 18, 1996). Similarly, the required information statements were not due earlier than 90 days after August 21, 1996. Id. Under Notice 96-60, 1996-2 C.B. 227, the IRS announced that it intended to issue detailed guidance with respect to the ruling request and information reporting rules, and stated that ruling requests and information statements are not due earlier than 60 days after the issuance of such guidance. The due dates for the information statements are described in Notice 97-19. See discussion in Part IV.B.5. above. 321 See Department of Treasury, Income Tax Compliance by U.S. Citizens and U.S. Lawful Permanent Residents Residing Outside of the United States and Related Issues, Rep. No. 3108 (May 15, 1998). D. Summary There are several potential purposes that a tax regime for former citizens and former long-term residents could serve. The design of the taxing regime and evaluation of the effectiveness of the regime depends on one's view of the appropriate purpose for the regime. Congress has indicated that the present-law alternative tax regime is intended to serve the purpose of removing the tax incentives for citizenship relinquishment or residency termination. The scope of this review, therefore, is limited to analyzing the present-law rules to determine whether they are effective in achieving that purpose. VII. ENFORCEMENT OF PRESENT-LAW TREATMENT OF A. Summary The present-law alternative tax regime and related immigration provisions are not being adequately enforced in the manner intended by Congress. The IRS has taken steps to provide detailed guidance under Notice 97-19322 and Notice 98-34323 with respect to the application of the alternative tax regime. However, the GAO stated in their 2000 report that the "IRS does not yet have a systematic compliance effort aimed at enforcing income, estate, or gift tax laws related to tax-motivated expatriation."324 Since that time, the IRS has ceased all compliance efforts directly related to the income, estate, and gift tax obligations of former citizens and former long-term residents under the alternative tax regime, other than to compile a database of such individuals and publish the names of those individuals in the Federal Register as required by section 6039G.325 While compliance investigations of former citizens or former long-term residents may occur due to other IRS compliance activities (e.g., tax shelter investigations), the IRS does not monitor the individuals identified as former citizens or former long-term residents, either through the letter ruling process or from the Department of State's provision of CLN information, for the payment of U.S. income, estate, or gift taxes that may be owed during the 10-year period following an individual's citizenship relinquishment or residency termination.326 In addition, the INS and the Department of State have not issued guidelines implementing the immigration provision applicable to former citizens with the result that the current provision has not been enforced since it was enacted in 1996. This section describes enforcement problems with the alternative tax regime at the following stages of enforcement: (1) the identification of former citizens and former long-term residents who are potentially subject to the alternative tax regime; (2) the determination of whether an individual's relinquishment of citizenship or termination of residency is taxmotivated; and (3) the monitoring, assessment, and collection of U.S. income, estate, or gift tax over the 10-year period following an individual's citizenship relinquishment or residency termination. This section also describes enforcement problems with the immigration provision relating to the denial of re-entry into the United States for U.S. citizens who relinquish citizenship for tax reasons. The Joint Committee staff requested the GAO to investigate the enforcement by the Department of Treasury, the IRS, the Department of State, and the INS of the alternative tax regime and related immigration rules. The discussion below is based primarily on the GAO's findings in 2000, which are reproduced in the Appendix (at A-219), supplemented by Joint Committee staff discussions with IRS and INS personnel since that report. The GAO's findings were based on a review of tax and immigration laws, the procedures used to enforce such laws, interviews with appropriate government personnel, and an analysis of tax and immigration information and statistical data. The Joint Committee staff understands that the IRS initiated a project in December 1999 to assess compliance with the alternative tax regime by individuals who have voluntarily supplied information concerning their net worth and their income tax liability. According to the GAO, the project was scheduled to be completed by July 2000. The IRS has indicated that some examinations of former citizens or former long-term residents were initiated as a result of this project.328 However, the Joint Committee staff was unable to obtain information on the amount of tax collected under the expatriation rules through these efforts. In addition, the IRS indicated that this program was not being renewed. The Joint Committee staff also understands that the INS is currently in the process of developing guidelines to implement the immigration provision applicable to former citizens. 329 330 327 327 328 329 Id. See A-123 (August 14, 2002, letter from the IRS). Id. For a description of the IRS's analysis of its own efforts, see the letters reproduced at A-123 and A-63. |