Is a new wave of U.S. expatriate income tax refund applications on the table? The answer to this question hangs in the balance as we await an appeal on the question of whether or not specific Foreign Tax Credits can be applied to offset the Net Investment Income Tax (NIIT).
On December 18, 2023, the IRS (The United States, in this case) filed an appeal of a decision by the U.S. Court of Federal Claims in the case of Christensen v. United States. In general, the Court, in this case, determined that U.S. expatriates who live in France are legally entitled to claim the Foreign Tax Credit (FTC) to offset Net Investment Income Tax (NIIT) liabilities, based on the specific language [Article 24(2)(b)] of the income tax treaty between the United States and France.
The appeal presently resides in the U.S. Court of Appeals.
Previously, the IRS held a foreign tax credit against NIIT was limited to the scope of Chapter 1 of the Internal Revenue Code (IRC). The Christensen’s argument, generally speaking, is that the language of income tax treaties between the United States and other sovereign nations can and should apply to the tax obligations of U.S. expatriates when they prepare and file their tax returns under their continuing obligations to report worldwide income and pay appropriate taxes as citizens of the United States.
The Christensen’s position was based on Paragraphs 2(a) and 2(b) of Article 24 of a 1994 treaty between the U.S. and France (Convention between the Government of the United States of America and the Government of the French Republic for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income and Capital).
Section (2)(a) applies to a “citizen or resident of the United States” and contains crucial language prohibiting a credit against U.S. income tax “in accordance with the provision and subject to the limitations of the law of the United States.” [It is important to note that this important language is not found in Section (2)(b)]. Based upon this language, the Court of Federal Claims held that Section (2)(a) does not allow a foreign tax credit against NIIT for French taxes owed by U.S. taxpayers.
Section (2)(b) generally applies to “an individual who is both a resident of France and a citizen of the United States.” The Court, however, noted the absence of the above language “…in accordance with the provision and subject to the limitations…” and found Section (2)(b) does allow a foreign tax credit against NIIT due to the absence of this specific language. In essence, the Court applied the principle of the original intent of the treaty to prevent instances of double taxation and that a “treaty-based Foreign Tax Credit was not subject to limitations of the IRC.” Therefore, when determining the order of priority in which Foreign Tax Credits are applied according to the “three bites” rule, the Christensens were correct in applying these Foreign Tax Credits to offset their NIIT liabilities.
Is this going to lead to a new wave of U.S. expatriate income tax refund applications over the coming months and years? While this decision is based upon a specific treaty with France, the U.S. Court of Federal Claims appears to have opened the door to substantial potential refunds for many U.S. expatriates based on the perceived ability to apply Foreign Tax Credits to offset NIIT. Usually, a U.S. taxpayer has three years to claim an income tax refund. However, income tax refunds based upon FTCs could be claimed for up to ten years.
Let’s be clear: the IRS is not about to start issuing refunds while an appeal is in progress, but the case is interesting and holds our interests as we work to protect the interests of our U.S. expatriate clients. However, this may yet lead to a new wave of U.S. expatriate income tax refund applications and Allen Barron, Inc. is prepared to support our international and U.S. expatriate taxpayers based upon future developments. Stay tuned!
Are you a U.S. expatriate with questions regarding transactional planning, international tax planning, the preparation and filing of an FBAR and/or U.S. tax returns? We invite you to learn more about the integrated tax, legal, accounting and business consulting services of Allen Barron and contact us or call today to schedule a free consultation at 866-631-3470.