How to advise American clients

How to advise American clients

Some UK advisers wince at the prospect of taking on American expat clients, but with the right investment manager and specialist tax partner it is possible to deliver a valuable and cost-effective service. 

There are two key challenges. The first is to deliver an investment service that does not create undue tax consequences from a US reporting perspective, which means the use of many investment funds we all take for granted may need to be avoided.

The second is to meet the demanding and distinct reporting requirements of two tax authorities – HM Revenue & Customs and the American Internal Revenue Service.

The root of the challenges lies in the fact that virtually all US citizens are legally obliged to file an annual tax return with the IRS, even if they have not earned a dime in the country.

Americans have Abraham Lincoln to thank – the 16th US president signed the antecedent laws during the Civil War as a way of disincentivising draft dodging.

Over 150 years later they are still in place, making America one of only two countries in the world to tax its expats. The other is Eritrea.

In the UK, there are estimated to be between 139,000 and 250,000 American citizens, many of whom will be obliged to comply.

But US tax law can extend even further to a group of people known as ‘accidental Americans’.

Key Points

  • The US is one of only two countries in the world that taxes its expats, which means American clients will need a specialist tax adviser
  • Advisers need to be aware the splitting of capital and income can be an issue for Americans in the UK
  • The US and UK tax years are out of sync and capital gains are taxed differently

This connection can be as tenuous as simply having been born in the country, before moving elsewhere. Some have no memories of living in the country.

Often they are not even aware of their status or have only discovered it in adulthood.

Yet they could well be legally obliged to pay American taxes, and many of the issues present for an expat will be present for them too.

It is important that advisers understand the challenges American clients face – and how it might still be possible to help them, with the right support.

Investment pitfalls

Expat Americans have to tread particularly carefully when investing.

Loopholes have been closed, which means ownership of anything considered to be a passive foreign investment company is now taxed punishingly, and the work to untangle those investments can be complex and time-consuming for the individual and their accountant.

Unfortunately, the PFIC rules cover many popular unit trusts that British investors take for granted.

The US Foreign Account Tax Compliance Act was an extension to this.

The legalisation compels all US citizens to report ownership of all non-US assets to the IRS each year and requires all non-US financial institutions to provide information on US investors.  

American expats might think the solution is to turn to US-registered funds, but these are not always a viable alternative either, as many often do not have UK reporting status and gains may therefore be subject to higher UK tax rates.