Dec 7, 2023 2023’s Game-Changing U.S. Court Rulings: A Must-Know for Americans in Israel
The past year has brought a wave of fantastic court cases for American expatriates in Israel as pivotal U.S. court decisions reduced taxes and penalties while protecting many from the long reach of the IRS. In 2023, the legal tides turned favorably, offering clearer skies for U.S. citizens living in Israel.
Our summary breaks down the essence of these landmark rulings, aligning with the needs of U.S. taxpayers abroad. From nuanced interpretations of international tax law to redefined penalty structures, these cases mark a significant stride towards a long-awaited fairer treatment within the tax ecosystem.
Join us as we outline the transformative court decisions of 2023, ensuring you learn everything you need to know and bring up with your accountant.
Stay informed and empowered with our expert analysis, tailored to keep you ahead in the ever-evolving tax world.
U.S. vs. Bittner: A Landmark FBAR Decision
Background: The U.S. vs. Bittner saga began with Mr. Alexandru Bittner’s non-willful failure to file a Report of Foreign Bank and Financial Accounts (FBAR). As a Romanian-American entrepreneur, Mr. Bittner held numerous foreign accounts, which he did not report, leading to the IRS assessing staggering penalties totaling $2.72 million for 272 accounts over five years. The case presented an opportunity for the courts to address a contentious issue: whether non-willful FBAR violations should accrue penalties on a per-account or per-report basis.
The Decision: On February 28, 2023, the U.S. Supreme Court handed down a 5-4 decision in favor of Mr. Bittner, resolving a split between the Fifth and Ninth circuits. The high court ruled that the $10,000 penalty for non-willful FBAR violations should be assessed per FBAR form required to be filed, not per individual account. This was a pivotal moment for taxpayers with foreign financial assets, as it significantly limited the penalties for non-willful noncompliance.
Impact on U.S. Citizens in Israel: The decision holds particular resonance for U.S. citizens living in Israel, where many have accounts in multiple financial institutions, especially those in the hi-tech sector that jump from job to job. Before this case, if someone had 5 different pension accounts and 3 bank accounts and erroneously didn’t file an FBAR, the IRS could have issued penalties for $80,000! With this court case win, they now can assess $10,000 at most. The ruling relieves the community of the threat of disproportionate penalties that could have been debilitating to their financial well-being. It acknowledges the complexity of the expatriate’s situation and the potential for unintentional missteps in adhering to the U.S.’s intricate tax reporting requirements.
For Israelis with U.S. citizenship, the Bittner decision reduces the financial risks of managing multiple pensions and bank accounts. It’s a reminder that while the IRS maintains strict reporting requirements, the penalties for mistakes should not be unduly punitive when there’s no willful intent to deceive.
U.S. vs. Farhy: A win for those with an Israeli chevra baam or corporation
Background: U.S. vs. Farhy revolves around Alon Farhy, a taxpayer who owned various foreign corporations from 2003 through 2010. Despite his ownership, Farhy failed to file the required Form 5471, Information Return of U.S. Persons With Respect to Certain Foreign Corporations. The IRS, recognizing this failure, imposed hefty penalties under Section 6038(b), amounting to significant financial liabilities for each year of noncompliance. This case questioned the IRS’s authority to assess penalties under this specific section and was closely watched for its potential implications on taxpayers with international business interests.
The Decision: On April 3, 2023, the U.S. Tax Court delivered a crucial verdict in favor of Mr. Farhy. The court found that the IRS lacked the statutory authority to assess penalties under Section 6038(b) for the non-filing of Form 5471. This decision challenged the IRS’s longstanding practice and shifted penalty assessments for foreign information reporting. The Tax Court concluded that while penalties for such violations are permissible, they must be pursued through civil action under Title 28, not via IRS assessment.
Impact on U.S. Citizens in Israel: The Farhy decision is particularly relevant for U.S. citizens in Israel engaged in business or holding significant shares in Israeli corporations. This ruling essentially means that while noncompliance with Form 5471 filing requirements remains a violation, the method of penalization the IRS had employed is not permissible. For American expatriates, this translates to a potentially reduced risk of facing steep, automatic penalties for errors or oversights in reporting their foreign business interests.
Notably, the decision may encourage U.S. expatriates in Israel to engage more actively in business, knowing that the risk of punitive IRS penalties for non-willful errors in reporting has been moderated. It’s a step towards a more equitable treatment of taxpayers who navigate the complexities of reporting foreign business interests, offering a reprieve and a clearer understanding of the consequences of noncompliance.
However, these taxpayers must remain vigilant. The IRS may seek other avenues for enforcement, and the need for accurate and timely filing of Form 5471 remains paramount. Taxpayers should also stay informed about any legislative responses to this ruling, which could alter the current state of play. For now, U.S. vs. Farhy stands as a significant victory for taxpayers, providing relief in international tax compliance.
Christensen vs. U.S.: Foreign Tax Credits offsetting the 3.8% Obamacare tax
Background: Christensen vs. U.S. tackled an issue of paramount importance to U.S. taxpayers living abroad: the applicability of foreign tax credits (FTCs) against the U.S. Net Investment Income Tax (NIIT). The case involved two U.S. citizens residing in France who faced NIIT liabilities on their income. Traditionally, under U.S. domestic law, FTCs could not be used to offset NIIT liabilities. However, the taxpayers in this case challenged this restriction, citing the tax treaty between the U.S. and France.
The Decision: On October 23, 2023, the U.S. Court of Federal Claims ruled in a groundbreaking decision that permitted these taxpayers to use FTCs arising from French income taxes to offset their NIIT liabilities. This was the first case to establish that while U.S. domestic law might not allow FTCs to offset NIIT, such restrictions could be overridden by specific provisions in a U.S.-France tax treaty. The court’s decision hinged on a particular treaty clause that did not echo the limitations of U.S. law, thereby allowing a broader application of FTCs for U.S. citizens residing in France.
Impact on U.S. Citizens in Israel: For American expatriates in Israel, the Christensen decision opens a potential pathway for using FTCs to mitigate NIIT liabilities. This ruling is particularly significant given the number of U.S. citizens in Israel who pay large amounts in Israeli taxes but still get hit with the 3.8% U.S. NIIT tax put in place since the Obama era. Though the ruling directly applies to the U.S.-France tax treaty, it sets a precedent that could influence interpretations of similar clauses in other U.S. tax treaties, including with Israel.
However, it’s important to note that the applicability of this ruling depends on the specific provisions of each tax treaty. U.S. citizens in Israel may need to hire a lawyer and go to court to receive this tax credit currently. Essentially, this decision enhances the tax planning toolkit available to American expatriates, underscoring the value of a nuanced understanding of international tax agreements. If confirmed, it represents a significant shift in how FTCs can be applied, potentially offering more significant tax relief for U.S. expatriates facing dual tax liabilities.
Moore vs. United States: A Pivotal Case with Far-Reaching Implications
Background; Moore vs. United States represents one of the most consequential tax cases in recent history, being heard now by the U.S. Supreme Court. At the heart of the case is a challenge to the Tax Cuts and Jobs Act (TCJA) of 2017, specifically the constitutionality of its deemed repatriation tax under Section 965. This provision mandated a one-time tax on previously deferred foreign earnings, drastically altering the landscape of international taxation for U.S. corporations and individuals with controlling interests in foreign companies. For those who were hit, you certainly remember it. Many in Israel had to pay this tax and wanted to argue that it was unconstitutional. So did the Moore’s, and the U.S. Supreme Court is ready to hear it out.
The Case’s Significance: As the Supreme Court starts to hear oral arguments in December, the potential outcomes of this case loom large, not only for U.S. citizens in Israel but also for a significant portion of the U.S. tax code. The plaintiffs argue that the tax on unrealized foreign income and its retroactive application contravene the 16th Amendment, which generally requires income to be “clearly realized” before taxation. A ruling in favor of the plaintiffs could invalidate the deemed repatriation tax and open the door to challenges against other major corporate tax provisions, including the taxes on Global Intangible Low-Taxed Income (GILTI) and Subpart F income.
Implications for U.S. Citizens in Israel: For American expatriates in Israel, many of whom maintain business interests and investments across borders, the Supreme Court’s decision could have profound implications. A ruling that strikes down the deemed repatriation tax would not only impact those directly subject to it but could also signal broader changes in how the U.S. taxes foreign income This could lead to significant shifts in international tax planning and compliance strategies for U.S. citizens abroad.
Furthermore, given the scope of the case, its outcome could potentially affect about one-third of the entire U.S. tax code, reshaping the fiscal landscape for a vast array of taxpayers using partnerships, LLCs, and S-corporations. Such a decision could trigger legislative responses and require reevaluating existing tax structures and strategies domestically and internationally.
Looking Ahead: As the Supreme Court session advances, U.S. citizens in Israel and worldwide await with keen interest. The ramifications of this decision will resonate far beyond the immediate parties involved, potentially altering the very foundations of U.S. tax law as it applies to foreign income. Taxpayers and advisors alike should prepare for a range of outcomes, ready to adapt to the changing tides of tax legislation and jurisprudence.
In Summary – Reflecting on a Transformative Year in Tax Law and Anticipating 2024
As we look back on 2023, it stands as a year of significant shifts and landmark decisions in U.S. tax law, particularly impacting American expatriates in Israel. The rulings in U.S. vs. Bittner, U.S. vs. Farhy, and Christensen vs. U.S. have already set new precedents, offering relief and clarity in areas that were once mired in ambiguity and excessive penalties. These cases have provided practical benefits for taxpayers and contributed to a deeper understanding of the complex interplay between U.S. tax law and international financial operations.
The anticipation surrounding the upcoming Moore vs. United States case adds to the enthusiasm, with potential outcomes that could reshape a significant portion of the U.S. tax code. A favorable decision in Moore could mean a monumental shift in how foreign income and corporate taxes are approached, affecting many U.S. citizens abroad, including those residing in Israel.
As we eagerly await the Supreme Court’s ruling in Moore, 2024 promises to be just as exhilarating, if not more so. The potential changes from this decision could lead to a new era of tax legislation and international compliance strategies. For U.S. citizens in Israel, this should hopefully reflect less U.S. taxes and easier living conditions.