New tax to fund Obamacare could leave American expats in Canada owing Uncle Sam

Doug Luzader reports from Washington, D.C.

What is the most feared government agency in the United States? The FBI, the DEA, the CIA, deadly special-ops soldiers like Seal Team Six?

No, it's the U.S. Internal Revenue Service (IRS), whose long arms stretch around the world and deep into the pockets of Americans living abroad.

Now a new law gives expats a fresh reason to hate the Yankee revenuers.

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In recent years the IRS has been cracking down on its expatriate citizens, ferreting out unpaid taxes for the cash-strapped U.S. treasury. But they're not just targeting your stereotypical Mr. Moneybags lolling in some Caribbean tax haven.

Anyone holding U.S. citizenship, including dual citizens, is required to file an annual tax return and report all their income, even if they haven't lived at home in years and pay taxes where they reside.

Most end up owing nothing if they've paid tax where they live under international agreements that eliminate double taxation. But as CBC News noted in a story last spring, Americans must report income from foreign bank accounts over a certain amount, and a 2010 law requires foreign financial institutions to report information on American-owned accounts.

The tough IRS stance has created anxiety among many of the one million Americans living in Canada, some who haven't bothered filing U.S. tax returns for years.

[Related: U.S. expats in Canada cower as American tax collectors chase evaders ]

An amnesty program launched last year aimed at those who may owe only small amounts to the IRS has helped ease that fear but things suddenly have become complicated again. The Globe and Mail reports wealthier Americans will be subject to a new 3.8 per cent tax on investment income that kicks in this year to help pay for the government's new healthcare program, known as Obamacare.

Lawyer Kevyn Nightingale, a Toronto-based U.S. tax expert, estimated tens of thousands of Americans living in Canada could be affected by the new tax and find themselves owing money for the first time.

The problem, the Globe said, is that unlike rules that allow expats to claim credits for taxes they've paid in the countries where they live, they can't offset this new tax.

According to the Globe, the new tax affects high-income singles pulling down US$200,000 a year or married couples filing jointly who have income of US$250,000 a year or more. It would also be applied to capital gains of more than US$250,000 (US$500,000 for couples) on transactions such as home sales.

Nightingale said the new tax could be problematic for those who haven't filed with the IRS for many years.

“Remember all these people who haven’t filed?," he said. "They didn’t owe any tax before. Now they’re probably going to be in a position where they owe tax.”

It also complicates things for expats contemplating use of the IRS amnesty program, which allows then to get up to date by filing only three years of back taxes as long as they owe less than $1,500 in each year.

But tax expert Ian Macdonald of PricewaterhouceCoopers told the Globe the new tax may put some over that threshold, making them ineligible for the program for this tax year and going forward.

"People may not be able to use it,” he said. “I would hope that most people would [choose to] get through this streamlined process now.”

The deal between the Obama administration and Congress to avert the so-called "fiscal cliff" also means higher income tax rates kick in this year, which could also leave expats owing for the first time.

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“There really is a perfect storm gathering for Americans living outside the U.S.,” said Peter Megoudis, a partner with Deloitte & Touche in Toronto.

There's no easy answer to the problem. Even dual citizens who renounce their American citizenship have to prove they're square with the IRS and wealthier citizens are subject to a hefty "exit tax."