With revenue to gain and, politically, little to lose, foreign governments may choose to tax their overseas citizens.
The good life at risk?
Foreign workers in the UAE seldom have to worry about taxes because they seldom have to pay any. That could change if their home countries begin to view expatriates as a useful source of revenue, and the chances of that may be greater than many think. The ability of expats to continue enjoying their tax-free good life may be imperilled by recent developments in two spheres: economics and politics. Leaders in the recession-plagued West, notably Barack Obama, the US president-elect, and the British prime minister, Gordon Brown, are planning massive government spending programmes to try to ignite a recovery. The tough part is paying for them; they understand that they risk pushing their economies further into the muck if they raise taxes - with one possible exception.
Citizens living abroad tend to make more money than the average taxpayer, so there is a rich seam to mine. That is particularly true for workers in Middle-Eastern countries, which generally impose little or no income tax. There could be much to gain and, politically, little to lose. The public is unlikely to take to the streets with torches and pitchforks if their peripatetic and well-to-do countrymen are asked to pay more. As for upsetting the expats themselves, well, they often don't bother to vote, so who cares what they think?
Not that they have had a lot to gripe about. Nationals of most countries on Earth escape the clutches of their home revenue authority after they take up residence elsewhere. The United States is not most countries, however. Citizens living abroad must continue to file returns and pay tax on their worldwide income, although the first US$82,400 (Dh302,655) in foreign employment or business earnings is excluded, plus a bit more, sometimes, for housing expenses.
With one hand in their wallet already, are Americans more at risk of a tax hike than other expats? Could they be asked to pay more? "It would be a fairly easy to thing to do," said Patrick Stevens, a tax partner in London for Ernst & Young. "All they would have to do is reduce or wipe out the excluded amount." He is not betting on it, but something that produced the same result occurred just two years ago. While the earned-income exclusion was raised from $80,000, tinkering in the formula for the housing allowance led to sharp increases in tax liability for some overseas Americans.
J.D. Foster, a researcher in tax and entitlement policy at the Heritage Foundation, a Washington think tank, does not expect any similar move - yet. His somewhat paradoxical reasoning is that the US treasury needs too much revenue. "I don't think it's all that probable simply because deficits will be so large for the next couple of years and the amounts raised would be so small that it's not worth it," he explained. He warned, though, that it may become worth it later.
"There's a legitimate concern for two or three years from now," Mr. Foster said, "as Obama will have to demonstrate to the markets that after these unprecedented deficits he's concerned about fiscal discipline." Mr Brown may have to show the same concern, but Mr Stevens contends that the lack of a British tradition of taxing expats may limit the ability to start now. "In the U.K., it would be a trickier thing to do technically," he advised. "Don't get me wrong, it can be done. But I would be totally amazed if they tried to do it."
Peter McGahan, managing director of Worldwide Financial Planning in Wadebridge, in southern England, is able to keep his astonishment in check. Taxing British nationals working abroad "would be so simple for them to do," he said. Not only would it be legal, in his view. It would probably be popular. The British "think it's brilliant to tax the rich," Mr. McGahan remarked. "Anyone living abroad is a free and easy target. Most people would chuckle that they got them." He pointed out that there are plenty of ways that expats could be got. Earned income could be taxed, of course, as well as all sorts of investment income that now escapes tax when the recipient is living out of the country.
Certain investment products, such as insurance bonds, which are essentially mutual funds structured as life insurance policies, can be set up in offshore jurisdictions by non-resident British nationals and accumulate income and capital gains tax free. It would be easy for the authorities to amend the rules to make the earnings taxable if the money is brought back into the country, Mr. McGahan said.
If you are earning a living overseas, there are many factors to mull over when devising a strategy for coping with the prospect of higher taxes. How to structure your investments and, to the extent that it is possible, pay and benefit packages make up part of it. You also need to take into account where you live and, perhaps more important, where the country whose passport you hold thinks you live; they may not be the same. Another key decision is whether to wait until any rule changes take effect or are proposed, or else act now in a pre-emptive strike.
Whatever may happen to tax rates and regulations, financial planners encourage expats to keep all of their investments outside of their home country. This should eliminate - as things stand now - any tax liability for foreigners in the Middle East, except Americans, who will continue to be taxed wherever their investments are. One asset that expats, regardless of citizenship, might do well to dispose of when they leave home is their home itself. Revenue authorities may not seem like the clingy type, but they may not want to see taxpayers leave their jurisdiction and may consider them still to be living there if they own real estate.
The United States has clear-cut residency rules, so this should matter less for Americans. They are treated as living abroad if they have a residency visa from a foreign country or if they spend at least 330 days outside the United States in any calendar year. If only it were that simple. Benjamin Tobias, who runs the Florida firm Tobias Financial Advisors, points out that residency as far as individual states are concerned can persist even if the federal government has bid a citizen farewell. A solution is to establish residency in a state with no income tax, such as Florida or Nevada, and avoid high-tax states like California.
"If you know you're going overseas for any length of time, it's not difficult to move to a state and get residency," Mr. Tobias said. "Spend some time there. Get an address, a driver's license, register to vote." British nationals are encouraged to sell their homes because keeping them could leave them liable for tax, dead or alive. There is more subjectivity in determining UK residency, with home ownership a key factor.
Even if they leave and never come back and are deemed non-resident, Mr. McGahan warned, homeowners could still be considered domiciled in Britain, a legal term that encompasses more than just where a person hangs his hat. The estates of British expats who die abroad are assessed inheritance tax, at 40 per cent, on worldwide assets if they are considered domiciled in Britain, but for non-doms, the bill is due only on assets situated in Britain.
When it comes to determining domicile, there's no place like home. "Anyone who owns property in the UK could be considered domiciled there," Mr. McGahan explained. "You should be very careful. You could have a £100,000 house in the UK and £2 billion elsewhere and you would be domiciled in the UK." This opens the possibility of a couple of sneaky ways to increase tax revenue from expats, he said. The government could make even non-doms eligible for inheritance tax or raise tax rates on capital gains generated when non-residents sell their homes. Before any changes in tax law, expats should "break the link completely," moving all wealth offshore, in his view.
Christopher Shaw, a wealth planner at SG Hambros, a British private bank, offers similar advice, encouraging expats to close bank accounts back home and even sever ties such as club memberships. If home ownership is maintained, he suggests, there should be an open-ended, arm's-length rental agreement. When it comes to employment earnings, the advice is to keep arrangements as simple and clear as possible. Expats can get tripped up if an employer in their home country sends them abroad and keeps paying them, or else if they are sent not to work per se but to set up a branch office or for some other purpose that may not be considered conventional employment.
As Mr. Stevens, at Ernst & Young, succinctly put it, "If you live in the UAE, just make jolly sure the source of income is in the UAE." He cautioned against jumping the gun on possible changes in taxation by setting up private pensions or other complicated financial devices, which can have drawbacks, some of which are hard to foresee. Maintain vigilance, he counselled, but no more than that.
"You would not change what you're doing, but if your home country looked as if it were going to do something, be on watch and take avoiding action if need be," Mr. Stevens said. "If new law comes in, sit down and decide your tactics." Until that happens, the best course for foreign workers in the Middle East remains to ensure that residency in your home country has been given up and investments shifted overseas. Then, he said, "you take the money and you bank it." Conrad de Aenlle, based in Los Angeles, has covered business and investment topics for nearly 20 years.