Full Text: Unofficial Transcript Of March 21 Finance Hearing.

A proposal that would require wealthy Americans who relinquish their citizenship to pay tax on their gains could conflict with international human rights tenets and be bad tax policy, according to some witnesses who testified at a March 21 hearing held by the Senate Finance Taxation and IRS Oversight Subcommittee.

At the hearing -- scheduled after the measure had been approved by the full committee -- the subcommittee heard the Clinton administration reaffirm its commitment to the proposal, according to the unofficial transcript of the hearing.

The measure, as approved in a bill extending the health insurance deduction for the self-employed (H.R. 831), would treat the act of expatriation as a taxable event. Property held by the taxpayer would be treated as sold at fair market value immediately before the expatriation occurred.

The bill would exclude the first $600,000 in gains, and U.S. real estate and some retirement plans would not be treated as sold. It would apply to those who renounce their citizenship after February 6, 1995. According to Treasury, a taxpayer could defer the tax for up to 10 years with IRS approval.

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THE ADMINISTRATION'S PROPOSAL TO IMPOSE A TAX ON

U.S. Senate,

The hearing was convened, pursuant to notice, at 10:33 a.m., in room SD-215, Dirksen Senate Office Building, Hon. Orrin G. Hatch (chairman of the subcommittee) presiding.

Also present: Senators Grassley, D'Amato, Moynihan, Bradley and Graham.

OPENING STATEMENT OF THE HON. ORRIN G. HATCH, A U.S. SENATOR FROM

Senator Hatch. We are happy to call this to order. A good morning to my colleagues and our witnesses this morning. This morning's hearing is on the Clinton Administration's revenue proposal to assess a capital gains tax on the unrealized gain of the property of U.S. citizens who renounce their citizenship.

The Treasury Department first announced the details of this proposal on February 6, 1995 as part of the administration's revenue proposals for the budget for fiscal year 1996.

Treasury has estimated that the proposal would result in $6.9 billion in additional revenue between 1995 and the year 2005. Apparently the provision would affect no more than a handful of very wealthy taxpayers.

The issue became more prominent last Wednesday when the Finance Committee adopted a modified version of the proposal on the bill to extend the health insurance deduction for self-employed taxpayers, H.R. 831.

The idea that super-rich Americans would, in effect, "sell" their citizenship by expatriating away from the long arm of the Internal Revenue Service is reprehensible to most of us. That is why this proposal has strong appeal, at least at first glance. However, there are usually more considerations to issues than first meet the eye, and I think that that is the case here.

There have been a number of concerns raised about this proposal on constitutional grounds, on human rights grounds, and on tax policy grounds. Because of the urgency of bringing H.R. 831 to the Senate floor in time to pass the Health Insurance Deduction Measure as soon as possible before the final due date for 1994 tax returns on April 17th, we announced this hearing on very short notice.

So, I sincerely apologize that we had to do that on such short notice and I sincerely appreciate that our witnesses had to put their testimonies together over the weekend. I want to thank them, on behalf of our committee, for being willing to be with us today. We want to especially thank those witnesses who had to travel to be here.

As we hear testimony from the two panels of witnesses, I hope that at least three general issues are addressed. First, does this proposal impinge on the fundamental human right to emigrate? Second, will the enactment of this provision have a detrimental effect on the attractiveness of this country to foreign investment? And, finally--I know my colleagues are just as interested in finding ways to shut down tax avoidance schemes as I am--is there another and better way to achieve this goal than through this provision?

So we look forward to the comments of our witnesses this morning, and we will turn now to our Ranking Member on the committee.

OPENING STATEMENT OF THE HON. DANIEL PATRICK MOYNIHAN, A U.S. SENATOR

Senator Moynihan. Mr. Chairman, I just very much would associate myself with your comments. We are looking forward to Secretary Samuels, Ms. Borek, and the other panelists. There are legitimate questions and they will need to be answered. I will see how they do.

Senator Hatch. Well, thank you, Senator Moynihan.

We will now turn to our first panel, which consists of Ms. Jamison Borek, who is Deputy Legal Advisor at the State Department. We are happy to have you with us.

And Mr. Leslie Samuels, Assistant Treasury Secretary for Tax Policy, and we are real happy to have you with us as well. We welcome the both of you and we would just turn to you at this time.

STATEMENT OF LESLIE B. SAMUELS, ASSISTANT SECRETARY FOR TAX POLICY,

Secretary Samuels. Mr. Chairman, I would ask that our written statement be placed in the record, and I would like to briefly summarize it for you this morning.

Senator Hatch. Without objection.

[The prepared statement of Secretary Samuels appears in the appendix.]

Secretary Samuels. I appreciate the opportunity to testify in support of the administration's and the Finance Committee's modified proposal designed to prevent a relatively few very wealthy Americans from avoiding U.S. tax on millions of dollars of gains by renouncing their United States citizenship.

Next month, millions of Americans will settle up with their government and finalize their tax obligations. Recent reports in Forbes Magazine and other media have described how a very small number of Americans avoid their U.S. tax obligations by giving up their U.S. citizenship.

We believe that when a U.S. citizen who is subject to tax on his worldwide income changes his status to that of an alien who is exempt from most U.S. tax, it is appropriate and fair to tax him on those gains on which tax has not previously been paid.

These expatriots should not obtain an unfair advantage over those U.S. citizens who continue to meet their tax obligations to our government. Other countries, such as Canada, Australia, and Germany, impose similar taxes. Each country crafts its proposal to deal with its own basic tax structure and other fiscal considerations.

Opponents of this proposal infer that this tax is designed to prevent free emigration or deny other important human rights. The proposal approved by this committee does not in any way--does not in any way--restrict Americans from leaving or entering this country. As a matter of fact, many expatriating former Americans choose to spend a significant amount of time in the United States, often with family members who have not renounced their citizenship.

My views are strongly buttressed by others much more learned in this field than I. First, the Deputy Legal Advisor of the State Department will address this issue when I complete my statement.

Also, I would like to place in the record a letter I received yesterday from a distinguished international lawyer and Treasury consultant on Eastern European tax programs, Professor Paul B. Steffon, III, of the University of Virginia, as well as a letter from the Acting Legal Advisor of the State Department.

Senator Hatch. Without objection, they will be placed in the record.

[The letters appear in the appendix.]

Secretary Samuels. An argument has also been made that the provision is somehow unconstitutional on the grounds that no taxable gain has been realized by the former American.

This argument is, in our view, completely without merit. There are similar taxing regimes already in the Internal Revenue Code whose constitutionality has been upheld against similar challenges.

For example, the Foreign Personal Holding Company Rules, applicable to both corporate and individual stockholders, and the Controlled Foreign Corporation Regime that also applies to corporate and individual shareholders, have both been upheld by the courts against challenges that it was unconstitutional to tax unrealized income.

Finally, we must remember that we are not writing here on a clean slate. The proposal is an amplification, an improvement, of Section 877 of the Internal Revenue Code, which was enacted almost 30 years ago.

Unfortunately, Section 877 has proven ineffective in addressing the abuses at which it was targeted. Old Section 877 taxed expatriating Americans for 10 years, but only on certain gains and in a manner that raised administrative and extraterritoriality problems.

Section 5 of H.R. 841 is designed to avoid the problems of existing law. With its exemption of up to $1.2 million of gain for a married couple, the provision eliminates from its coverage all but the wealthiest.

Although the taxes imposed on gains at the time the American renounces citizenship, there are provisions permitting deferral of payment of the tax for 10 years if adequate security is provided.

U.S. pension plan benefits are excluded from coverage, as well as up to $500,000 of foreign pension benefits. U.S. real estate is exempt from this proposal.

Finally, citizenship will be deemed lost on the date of renunciation before a U.S. Government official, or on the happening of certain other events, whichever occurs first.

Enactment of this legislation will help assure continued respect for the fairness and equity of our voluntary income tax system. With the revenue held in trust for deficit reduction, Section 5 of H.R. 841 sends an important signal of our continuing intent to reduce our fiscal deficit.

Mr. Chairman, this concludes my statement. I will be available to answer any questions that the subcommittee may have.

Senator Hatch. Thank you.

Ms. Borek, do you have a statement?

STATEMENT OF JAMISON S. BOREK, DEPUTY LEGAL ADVISOR, DEPARTMENT OF

Ms. Borek. Yes. Thank you, Mr. Chairman, members of the committee. With your permission, I also will give a brief statement and hope that you will accept the written statement for the record.

Senator Hatch. That will be fine. Without objection, we will put it in the record.

Ms. Borek. Thank you.

[The prepared statement of Ms. Borek appears in the appendix.]

Ms. Borek. I am here today to address the question of whether Section 5 of H.R. 831, as reported by the committee, raises legal questions concerning international human rights.

This proposal, as you know, would effectively require payment of taxes, taking into account gains if there are gains, upon the renunciation of citizenship by treating this as equivalent to a sale. The proposal would apply only to gains in excess of $600,000. It would not apply to U.S. real property owned directly, nor to certain pension plans.

It has been suggested by some that this proposal would violate the right to leave the territory of a State or the right to change one's citizenship, as recognized in international human rights law. In our view, however, this tax proposal does not conflict with these, or any other, international human rights.

I would note, first of all, that the Covenant on Civil and Political Rights, which has been cited, does not refer to the right to emigrate or change one's nationality, it is simply to the right to travel, the right to leave any country, including one's own.

This proposal does not in any way affect the right to travel. It is not an exit tax, it does not apply when you travel, it is wholly unrelated to travel. Rather, it applies at the time that an individual renounces citizenship.

Based on the past experience of the department, this is most likely to affect U.S. citizens who have already departed from the United States, since it is our experience that most renunciation of citizenship occurs at that time. But, in any event, whether the individual is in or out of the United States or whether they travel is not affected by this proposal.

It is, nonetheless, well-established that a State could impose certain economic controls in connection with departure as long as such controls do not result in a de facto denial of the individual's right to emigrate.

Similarly, a claim of violation of the right to renounce citizenship could only be made where the right is effectively precluded. There is no international law right to avoid taxes by changing citizenship.

Section 5 would impose taxes which are comparable to those which U.S. citizens would have to pay were they in the United States. It is a bona fide means of collecting taxes on gains which have already accrued. It is not a pretext to keep people from leaving, it is not so burdensome as to effectively preclude change of nationality or travel. It applies only to gains, and only when these gains are in excess of $600,000.

Therefore, while it may mean that there are certain consequences of change of citizenship and they may be expensive, it in no way stands in the way or makes it impossible for an individual to actually change their citizenship if they choose to do so. It does not impose a burden on anyone which they could not afford to pay and, thus, preclude the right.

In short, it is the view of the Department of State that this proposal does not raise any significant question of interference with international human rights. I hope this information is helpful to the committee. Thank you.

Senator Hatch. Thank you very much.

Mr. Samuels, as I understand it, U.S. law already includes a system that is designed to prevent U.S. citizens and residents from expatriating in order to avoid U.S. taxes. Now, is that correct?

Secretary Samuels. Mr. Chairman, that is correct. Section 877 of the Internal Revenue Code was adopted by Congress in 1966.

Senator Hatch. What, specifically, are the problems with that system?

Secretary Samuels. Mr. Chairman, we see several problems. First, Section 877 only applies to those citizens who renounce with a principal purpose of avoiding U.S. tax. It has been very difficult for the Internal Revenue Service to determine whether a person has a principal purpose of avoiding U.S. tax.

Obviously, the people who are leaving with significant wealth all claim that they do not have that purpose, so it is very difficult for us to determine those who should be subject to the section and those who are not.

Second, the provision only applies to tax U.S.-source gain realized by the expatriating person for a 10-year period after the expatriation. This provision raises two separate issues.

First, it is only U.S.-source gain, U.S. citizens, under longstanding U.S. tax principles that go back to the beginning of the income tax or tax on their worldwide income, both U.S.-source and foreign-source. This only looks at one part of their gain, not all of it. So that is an issue from a tax policy perspective that we have seen.

Second, the existing section taxes the expatriot on appreciation that occurs after the person has actually renounced his citizenship. So, if you leave with stock that is worth $100 that you bought for $50 and you sell it five years from now and are subject to this section at $150, you are taxed on the whole $100 of gain, not just the $50 of gain that accrued while you were a citizen.

We think that that raises some extraterritoriality issues and, from a policy perspective, it would be better to tax just a gain that accrued while the person was a citizen of the United States.

Third, as a practical matter, because we look to sales after someone has expatriated and the expatriates say that they did not leave for tax purposes, it is hard for the IRS to administer the provision.

So, those are the problems that we looked at when we were examining that section and led us to making the proposal in the President's budget that was adopted in modified form at the Senate Finance Committee last week.

Senator Hatch. In preparing the proposal did the administration look at the practices of other developed nations in capturing the revenues from those who seek to avoid taxation through voluntary expatriation?

Secretary Samuels. Mr. Chairman, we did. There are two types, one which is in the category that is really the one that the proposal adopts, is subjecting gain to tax when the person expatriates. In that category, in some form, everyone has a slightly different provision, Canada, Australia and Germany.

Then you have a group of other countries that follow our existing Section 877 which look to periods after expatriation and continue to tax their residents. For example, the Scandinavian countries tend to follow that practice.

I would say, in looking at this and comparing us to foreign jurisdictions, one difference is that the United States is, in some ways, quite unusual, in that we tax our citizens on the basis of citizenship, not residence.

The United States has always attached a great deal of importance to citizenship and other countries tax their citizens on the basis of residence. So, it is a kind of a different philosophy and that plays into the different systems that people have adopted.

Senator Hatch. All right.

Ms. Borek, let me just ask one question to you. Have the countries mentioned by Mr. Samuels signed on to the International Covenant on Civil and Political Rights? And, of those that have, how do they reconcile their commitment to guaranteeing the right to emigrate with their practice of capturing revenues from those who would deliberately seek to avoid taxation by surrendering their citizenships?

Ms. Borek. They do belong. As I noted previously, if you look at ----

Senator Hatch. Do all of them belong?

Ms. Borek. I would be 99 percent confident that they all belong. The Scandinavian countries, Canada, Australia, and Germany are all parties.

Senator Hatch. Now, how do they reconcile that?

Ms. Borek. Well, the covenant itself provides only a right to travel, which is not affected by this. What you would have to look to to make an argument that there is a human rights problem is customary international law, which is reflected in the practice of States.

I think it is clear from the practice of these States that there is not a prohibition on this in customary international law because it is not something which is generally recognized as a violation of human rights. The covenant itself does not pick up the provision on change of nationality, it has only the provision on travel, the right to leave.

Senator Hatch. All right. Thank you.

Senator Moynihan?

Senator Moynihan. Thank you, Mr. Chairman.

If I could address myself to Ms. Borek, I believe this is the first occasion you have testified before the Finance Committee.

Ms. Borek. Before this committee, Senator, yes.

Senator Moynihan. Welcome. I take it that the gist of the administration position is that we are treating this particular class of citizens in no way differently from citizens at large, in a sense. They are being expected to pay the same taxes that other Americans would pay, those who did not leave the country.

Ms. Borek. That is certainly part of it. Even more strongly, I think one could say there is not a prohibition in this area. You would have to have a measure which was much more burdensome so as to really make it impossible for people realistically to change their nationality to even have a question. If you had that question, then I think it would be very significant that we were treating people just as we were treating everyone else.

Senator Moynihan. Could I ask you, you speak of international human rights law. Now, what is that?

Ms. Borek. Well, in the case of travel, there is the treaty, the International Covenant on Civil and Political Rights, which we are a party to.

Senator Moynihan. Which we ratified in 1992.

Ms. Borek. Which we ratified.

Senator Moynihan. Yes. But you also spoke of customary international law. Are individuals subjects of customary international law?

Ms. Borek. We do recognize that there are some principles of customary international human rights law. The United States ----

Senator Moynihan. Customary human rights law.

Ms. Borek. Yes.

Senator Moynihan. Where does one find that?

Ms. Borek. Customary law depends primarily of the practice of States to show in their practice that they believe there is a prohibition in international law, so it is more difficult to prove.

It is not as clear and it is not as large a body of law as the treaty law. For example, we have taken the view that torture is prohibited by customary international human rights law, even if you do not happen to belong to a treaty that prohibits torture.

Senator Moynihan. Yes. Are there other practices which we hold to be violations of customary international human rights law?

Ms. Borek. Well, we have recognized, as relevant to this, that there is some degree of right to change nationality, or ought to be, under customary law.

Senator Moynihan. Now, wait. Is there or is there not? Ought to be is not exactly a category.

Ms. Borek. Well, if you are going to establish customary international law you really have to show that every other country agrees with you, or most other countries agree with you.

In the area of, perhaps, change of nationality, that is less clear than in the area of torture, but I think the United States is a Nation composed of many people who have changed their nationality, and has taken a clearer view on the change of nationality.

Senator Moynihan. We do have a large interest in such a principle, the right to change nationality. But you do not feel that this tax treatment in any way impinges on a prior and higher right, which is that of changing nationality?

Ms. Borek. No. People remain entirely free to change their nationality. There is only a consequence in a case where there is an extremely high amount of capital gain that certain taxes are due, and that is not standing in the way of changing nationality.

Senator Moynihan. Thank you, Ms. Borek. Thank you, Mr. Chairman.

Senator Hatch. Thank you.

Senator D'Amato?

Senator D'Amato. I noticed that one of the witnesses in their statement seemed to raise a question as to why it is that the proposal seems to have changed as it relates to citizens only, not to long-term resident aliens. Are you aware of that?

Secretary Samuels. Senator D'Amato, Section 5 of H.R. 841 that this committee passed last week and was based on Senator Moynihan's amendment only dealt with citizens, not with long-term resident aliens who held green cards, who were part of the administration's proposal.

Senator D'Amato. Well, I want to ask, what is your feeling as it relates to the resident aliens, should they not be included in that provision? Why did the administration initially have that provision? The argument put forth, I think it is by Mr. Marshall Langer, what do think about that?

Secretary Samuels. Senator D'Amato, that was discussed at the hearing. Senator Graham actually asked me about how we felt about it, and I will be happy to repeat it here. Our original proposal was based on the concept that someone who had a green card which enables that person to have permanent residence in the United States for a significant length of time, at some point one could decide as a policy matter that that person had the benefits of the protections afforded by the government, that it would be appropriate to tax that person if that person gave up his or her green card. We picked 10 out of the last 15 years.

In the context of what the committee passed, we said we understood that that provision was not in there. It was a policy judgment we made, it was a policy judgment that we could understand how the committee might decide not to include resident aliens who were green card holders. From our point of view, we looked at that and support Section 5 of the bill as passed by the committee.

If one wanted to come back and revisit that ----

Senator D'Amato. Well, that is what I am doing.

Secretary Samuels. All right.

Senator D'Amato. So, just for point of information, as it relates to the testimony put in by Mr. Langer, if you look at it you raise that question. He raises the question, so I am raising it with you.

How much revenue would be derived, or do you have a number in terms of revenue that would be derived, if you were to use the administration's initial proposal as it relates to long-term resident aliens, do we have a number?

Secretary Samuels. Senator D'Amato, when we prepared our revenue estimate we looked at all the available information and our revenue estimate was based on estimates of revenue that would be attributable to U.S. citizens who renounced their citizenship and it is my recollection it did not include any revenue from green card holders who gave up their green cards. We did not have enough information to make that estimate, so it was not included in our revenue estimate.

Senator D'Amato. All right. Have you ever asked for that estimate or looked at what that estimate would be as it related to, if you had included long-term resident aliens? At some point in time the administration had a proposal. In that proposal it included long- term resident aliens. Is that correct?

Secretary Samuels. That is correct, Senator.

Senator D'Amato. Did you make a revenue estimate as it relates to what the revenue would be that would be produced by this tax as it relates to long-time resident aliens? I see my colleague maybe has a question, since he has pursued this before. Maybe he wants to expand on it. Senator Graham?

Senator Graham. Well, I think Mr. Samuels might want to answer the question, then I could refer to the data that we have been provided on that.

Senator D'Amato. Mr. Samuels, could you tell me?

Secretary Samuels. Senator D'Amato, when we prepared the revenue estimate for the administration's proposal, which included the proposal for long-term resident aliens, at that point we looked at that and our revenue estimators did not have data that would provide them with reasonable certainty to include the amount in the revenue estimate. So, yes, we looked at it and our revenue estimate did not include any amount for the green card holder part of the provision because we did not have the data.

Senator D'Amato. Well, let me ask you. How difficult would that be to obtain that? Do you not think that that would be something worthwhile to look at?

Secretary Samuels. Absolutely. We ask our revenue estimators on a regular basis to try to have the best available data, and they are continually trying to do that. It is just, at the time they made their estimate they did not have it.

Senator D'Amato. I do not mean to be beating a dead horse, but would it be appropriate to ask you or ask the Chair whether or not we could get some estimates? It seems to me that you could make them, for example, at a 10-year period of time, residents who have been here 10 years, or whatever period of time, and get some estimates.

I think at least that might be instructive to us. It would seem to me that possibly that amount of money may be considerably more than this legislation as it applies to citizens. I do not know, but I think at least I would like to have that, and I mention that to the Chair.

Senator Graham. Mr. Chairman.

Senator Hatch. Senator Graham.

Senator Graham. If I could just comment that the original revenue estimate from the administration on their proposal, which contained both citizens and non-citizens, was $1.7 billion over the five-year period.

The Joint Committee on Taxation, estimating for only citizens, gave a number of $1.359 billion, which would indicate that there is a $341 billion gap between those two numbers, which could be a difference in estimating technique, some other factor, or it could be in part, or substantial part, the difference between citizens and non- citizens.

Senator Moynihan. Could I say to my friend from Florida that I believe the Joint Tax Committee indicated that limiting the application to U.S. citizens would cost $137 million?

Senator Hatch. Senator Graham.

Senator Graham. Thank you, Mr. Chairman.

I would like to pursue the questions that Senator D'Amato has been pursuing. For the State Department, if the tax is only applied to citizens who are renouncing their citizenship, what affect do you think that will have on such issues as the inclination of aliens to seek citizenship as distinct from staying in a long-term alien status?

Ms. Borek. Thank you, Senator. I am not sure that I, personally, am competent to answer this question. Let me just check if someone is here from the Consular Affairs Bureau.

[Pause]

Ms. Borek. Our initial view is that it is very difficult to predict, given the number of factors that would come into play. If you would like I could try to get you the more considered view for the record.

Senator Graham. Good. Thank you.

[The information appears in the appendix.]

Senator Graham. Still, for State, what numbers do you have to estimate the number of individuals who meet the definition of a long- term resident as proposed in the administration's recommendation, that is, a lawful permanent resident for at least 10 of the last 15 years?

Ms. Borek. I think it may be that the Treasury Department has numbers on that for you. I think we could try also to get you numbers for the record. One of the questions, of course, which affected, I think, the initial estimates, is that it is much more speculative in the case of the permanent resident.

Senator Graham. I would like to move to a second area of inquiry, and that has to do with the current law and what might be done to make the current law more enforceable. The response that we have received informally to that question is, the administration's proposal of this legislation represents its best assessment of what should be done. But assume we pass the change in policy as it relates to citizens, but continued to treat the long-term non-resident aliens as today. Are there any steps that you would recommend that we could take to enhance enforcement?

Secretary Samuels. Senator Graham, if I could just repeat the question to make sure I understand, we are talking about increasing enforcement with respect to those citizens who renounce their citizenship.

Senator Graham. There are a couple of options. If we pass, as it left this committee, H.R. 831, we will have a change in policy as it relates to renouncing citizens, but we will continue to have the current policy as it relates to long-term residents. So the question is, do you have any recommendations of what we might do to increase the enforcement capabilities of the current law as it will continue to apply to long-term residents?

Secretary Samuels. Senator Graham, just for clarification, let me mention that the current law does not apply at all to long-term residents, it only applies to citizens who renounce their citizenship. So, a long-term resident who leaves the United States, gives back the green card, can exit the country and if that person has accumulated gains while that person was resident, they can leave the country and not be subject to tax with respect to those gains. So that group of individuals just are not covered under current law.

We thought about, as part of the proposal that we made, to deal with long-term resident aliens who have green cards about how that system might work, and I think that the one area which we have thought about where one could consider trying to make some changes is, right now when someone comes into the country and they have appreciated assets they are not subject to any mark to market kind of regime with respect to those assets. There has been suggestions, for example, the Canadian system has a so-called mark to market kind of approach.

Right now, as a matter of practice there is kind of a self-help mark to market regime where people, before they get here, if they know they have significant unrealized gains, will actually do something to realize them before they get here, so there is kind of a self-help system.

Actually, it works against the government because they obviously do not realize losses before they get here, they will kind of keep those ready to use if they decide to sell the property with a loss once they get here. So we think that if you want to look at green card holders, that this would be an area to explore, is how to deal with determining tax bases when someone comes into the country.

Senator Graham. I wonder, Mr. Chairman, if we might ask the Treasury to submit in writing a further proposal relative to enforcement on long-term, non-citizen residents.

Senator Hatch. That would be fine. Can Treasury do that for us? Will you be able to do that for us?

Secretary Samuels. Yes, we will.

Senator Hatch. That will be fine. If you would do that right away, because we are really pressured on this.

Secretary Samuels. Right.

[The information appears in the appendix.]

Senator Hatch. Let us go to Senator Grassley.

Senator Grassley. Yes. Mr. Samuels, notwithstanding the discussion you just had with Senator Graham about current law, how enforceable is this provision to tax expatriots, and will there have to be any new processes set up to carry it out to see that the job is done?

Secretary Samuels. Senator Grassley, I think that the proposal can be administered. Let me just, in the context of discussing that, give some background. First, we think the revenue estimate is associated with a very small number of individuals.

Part of the revenue estimate is based on individuals who will decide not to leave, they will just decide to stay here and continue to pay their taxes like you and I do, and they will not leave. That is part of the revenue estimate. They have paid their taxes, they will continue to pay their taxes.

We think people who leave and decide that it is economic for them to pay their taxes just make that decision, and we think some people will do that. We think that they will settle up when they leave.

If you look at the types of people who have engaged in this type of behavior as reported in the press, they tend to like to come back here and visit. Some of them have their businesses here, some of them maintain their homes here, some of them have their families here that they come and visit. And you can come back into the country, under current law, effectively, 120 days a year and not be subject to additional U.S. tax.

So the group is not kind of going off and we will never see them again, so we think that when you look at the types of individuals, and we expect that people will pay the taxes they owe, that, looking at the overall situation, we should not have any significant problem.

Senator Grassley. Really no problem and not a particularly overwhelming job. It is based on their willingness to be law abiding citizens; is that basically what you are saying?

Secretary Samuels. Well, that is part of it. In addition, I believe that in the future when citizens that renounce their citizenship, I think the State Department may give the Treasury Department the names of those individuals and then we can make sure that they have complied with their tax obligations.

Senator Grassley. All right. I want to turn to something now that a witness, Mr. Rosenbloom, who is on the next panel, raises. He raises the issue of denying a stepped up basis in property that is inherited from a person who has renounced citizenship. So my question is, why should this not be considered also, and has Treasury done any revenue estimates on this?

Secretary Samuels. Senator Grassley, when we looked at this proposal we made a policy judgment that this proposal should just apply to the income tax, not any transfer tax such as the gift tax or the estate tax. We thought that it was fair to ask a person to pay tax on their unrealized gains when they leave the country.

It is kind of like paying your last month's rent when you are asked to leave. In that context, we decided, as a policy matter, that that was adequate and we did not want to get into the gift and estate tax area, and we have not.

So I think that would be something we would look at, but it was an issue that we considered in designing the overall proposal, and at that time thought that it was best just to keep this targeted to the income tax.

Senator Grassley. This provision is limited just to capital assets, is that correct?

Secretary Samuels. Yes. When someone leaves, if they have income, they are supposed to pay tax on their income up to the date they leave. And with respect to gains, what this change is, we are asking them to pay tax on all their unrealized appreciation in excess of the $600,000, and without regard to U.S. real estate. So we targeted this in a way to deal with what we thought were the abusive situations.

As I said, it is a very small number of people who produce this, in our view, significant amount of money. I am sure you will recall when the committee reported this out last week, it was agreed that this was to go to deficit reduction, which we support.

Senator Grassley. Well, if it is limited to just capital assets, have you given any thought about expanding it to all assets? I am just getting at the thought process you went through. I am not questioning your judgment.

Secretary Samuels. I think that we felt that the capital assets were what was really important. I guess someone, if they had a sole proprietorship, could have inventory here, but unless they took it out of the country to sell it, because it was not a capital asset, they would normally be taxed when they sold the inventory. So we think that that is really the focus of the proposal. We would obviously consider other options. I think that when we looked at this we did not think that that was necessary.

Senator Moynihan. Urgent dispatch from rear.

Senator Grassley. Mr. Chairman, thank you.

Senator Hatch. Well, thank you. As I understand it, they are going to now have to pay income taxes for 10 years under current law after they leave. Am I wrong on that?

Secretary Samuels. Mr. Chairman, under current law, once you leave you are only required to pay tax on U.S.- source capital gains.

Senator Hatch. Right. But that is kept track of for, what, 10 years?

Secretary Samuels. For 10 years. Yes, sir.

Senator Hatch. All right. Unless there are other questions, why do we not move to our second panel. I want to thank you for appearing and we appreciate your testimony.

Now we will turn to our second panel consisting of Ellen K. Harrison, a partner of Morgan, Lewis & Bockius of Washington, DC; Marshall J. Langer, Of Counsel, Shutts & Bowen, London, England; R. David Rosenbloom, Member, Caplin & Drysdale, Chartered, here in Washington, DC; and Robert F. Turner, Charles H. Stockton Professor of International Law at the U.S. Naval War College in Newport, Rhode Island.

So Ms. Harrison, we will start with you, first. If you could keep your remarks for five minutes; we are pressed for time. If you could summarize in five minutes we would appreciate it. We will take all statements as part of the full record here.

Ms. Harrison, we will turn to you.

STATEMENT OF ELLEN K. HARRISON, PARTNER, MORGAN, LEWIS & BOCKIUS,

Ms. Harrison. Thank you, Senator Hatch. Thank you to members of the committee for inviting me to come.

I would like to begin by saying generally that I endorse the principle of preventing evasion of U.S. tax obligations through expatriation, but I do not believe that this bill should pass because I think it is seriously flawed.

I would like to go through a number of my tax policy objections to the legislation. First of all, the exit tax purports to be an income tax and dispenses with the requirement for an income realization event.

Apart from the issue of whether this is constitutionally required, I think it is bad tax policy because we have a serious measurement problem. We have heard the example of the mark to market rules, the sub-Part F rules, the Foreign Personal Holding Company Rules, and so on, but they are really inapposite because in all of those cases -- well, in the Holding Company cases income is realized, it is just realized through an entity that the taxpayer controls, so you can clearly measure the taxpayer's share of income. It is much more difficult to measure what someone's unrealized income is.

In the mark to market case, we have inventory that consists of readily tradeable securities for which market quotations are readily available, so we have a measurement problem.

We also have a liquidity problem if we do away with the realization event, and this is a very serious problem and makes this tax proposal sound like a penalty for expatriation, which I think is unattractive, to say the least.

Foreign personal residences should be exempt to prevent a forced sale of a foreign residence. Foreign pension plans should be exempt without the $500,000 cap and without implementing regulations because typically in a retirement plan a person has no right to recover those assets. More than five years should be allowed to pay a tax on closely- held business interests.

The exit tax would apply to all property includable in a person's estate. While it is true that the estate tax applies to property that is outside the taxpayer's control, the estate tax laws, unlike the income tax laws, provide a mechanism for collection of the tax.

Section 22.7 of the Code makes the tax liability recoverable from property held in trust that is outside the taxpayer's control. We have nothing similar here. It raises a question in my mind whether this tax would be unenforceable.

We also have a very serious mismatching problem. We all know that from the beginning of the income tax we have allowed credit for taxes paid to foreign jurisdictions on the same income. We will not have that here. If the taxpayer who is expatriating pays a U.S. income tax, he is not going to get a stepped up basis for, say, U.K. tax purposes. Many years later, if he sells the same property, he will owe U.K. tax, there probably will be no credit allowed. This is inequitable.

For this reason I think that the exit tax should be postponed until a realization event occurs, which is available, by the way, to people in Australia and Canada, which purports to be the model. In those countries an election can be made to agree to pay the tax when a later realization event occurs, and if the bill is amended to so provide, I would not have an objection to it.

The most egregious aspect of all of this proposed bill is the tax on discretionary beneficial interests held through a trust. A beneficiary has no control over that asset, may never receive that asset, has no right to that asset.

There are people around who have a substantial portion of their so-called worth in these discretionary trusts and this tax would make them insolvent. They would effectively be unable to comply with the tax laws, which is obviously undesirable.

The exemptions that you provide, I think, should be extended. Just as you have exempted U.S. real property interests, I suggest you exempt other property interest held by an expatriate which continue to be subject to U.S. tax jurisdiction, such as U.S. trade or businesses.

I also suggest that you seriously consider, or reconsider, the fairness of this proposal to U.S. citizens who have lived and worked abroad for many years and who have developed their wealth in another country.

This person is in a very different position from the Mr. Greenbacks in the President's press release, who is described as growing a retail business in the United States and benefitting from U.S. labor and U.S. markets. There are long-term citizens of the United States who have lived abroad and you have developed wealth outside the United States.

The better alternative, as Senator Hatch asked, is, I think, to tighten the existing rules, 877, 2107, and 2501. I think that those rules could be made workable. Also, it is questionable whether this switch of policy to impose a capital gains tax on exit will actually raise more revenue.

If you impose tax on all of someone's unrealized gains, that is probably the last dollar the U.S. will collect. If you, instead, tighten the existing rules you may be able to continue to collect tax for many years to come.

But, if you are going to impose an exit tax, follow the Canadian and Australian examples of allowing deferral of tax, perhaps with a security mechanism, as we did in camera when the marital deduction was repealed for non-citizen surviving spouses.

We have qualified domestic trust rules that allow people to post, in effect, security through a trust mechanism for later payment of the tax when it would be due if the person were a U.S. citizen.

I think that it is also a serious change of policy to try to tax unrealized gains that may have accrued while you are a citizen versus a non-citizen. If we are going to change policy, we should allow a step-up basis for people who come into the United States and not tax their gains at all for U.S. tax purposes for consistency.

Senator Hatch. Thank you so much.

[The prepared statement of Ms. Harrison appears in the appendix.]

Senator Hatch. Mr. Langer.

STATEMENT OF MARSHALL J. LANGER, OF COUNSEL,

Mr. Langer. Thank you, Mr. Chairman.

First, I would like to second just about everything that Mrs. Harrison just said. I would agree with that as a starting point. Fewer than 1,000 Americans a year give up their citizenship. Americans do not relinquish their citizenship to escape the capital gains tax, so imposing a capital gains tax on them is not going to keep them from going.

Those who leave do so because they perceive a deteriorating quality of life in this country, coupled with an escalating tax burden, and what they sometimes consider to be a confiscatory estate tax that will deprive their children and grandchildren of most or all of what they have been able to build up during their life.

Instead of looking at the reasons why these people are going, the administration wants to lock them in by making it economically impossible for them to leave. That is exactly the opposite of what we should be doing.

Thirty years ago the Soviet Union imposed a departure tax to prevent its best-educated and brightest people from leaving. During the 1960s, practically everyone in Congress attacked the Soviet departure tax as an unjust violate of human rights.

Some within the United States applaud the administration proposal as a way of keeping the super-rich from escaping tax obligations. Outside the country, however, the proposal is having some serious repercussions. Some wealthy foreigners are considering disinvestment. They do not want to invest in a country that erects a wall around its citizens to keep them from leaving.

It does not matter whether that wall is built of bricks and mortar, like the Berlin Wall, or is an economic wall in the form of a departure tax. The proposed departure tax sends the wrong message to aliens already in the United States and to those who may be coming to the United States in the future.

It tells them to make as much money as they can here as fast as they can and to leave, but not to ever consider becoming an American citizen because then they will get trapped by this tax.

The proposal also sends the wrong message to wealthy Americans who have not yet left. It seems to tell them that if they ever plan to leave they had better go now before the cost of doing so becomes even higher.

Congress could tell all taxpayers that leaving the system will not relieve them of their obligation to pay capital gains tax when they eventually sell their assets. We do that now with respect to real estate in the United States, and we could do that by beefing up the existing law so that when someone left they would have to lock their assets into some form of a trust, like the Qualified Domestic Trust, or pay a tax now, something that Ms. Harrison has just suggested.

That is what the anti-expatriation rules are supposed to do, but probably do not. I suspect that the main reason why they do not is that in the 29 years that those anti- expatriation rules have been on the books, the IRS has never even bothered to issue regulations under them to try to enforce them, nor have they seriously come back to Congress and said, here are a couple of loopholes that need to be closed, and here is how we suggest that be done.

Mr. Chairman and members of the committee, I think that the best feature of this proposed departure tax, and its one redeeming feature, is that it has got a positive revenue estimate of about $2.2 billion over the next six years, all of which is to be paid for by people for whom the American people have very little sympathy.

Senator Long used to say, "Don't tax you, don't tax me, tax the guy behind the tree." Now, the proposed departure tax certainly meets that criteria, but it fails every other criteria of sound tax policy and, in my opinion, it should be relegated to the garbage can.

Give Americans back the quality of life they used to have and stop trying to grab the last nickel from those people who are going. If you put them into a position where they are forced to eventually pay the tax when they sell these assets, most of them will comply, as Secretary Samuels said a few minutes ago. Others will fight to stay, and thousands of others will come from all over the world to join them in this country.

Thank you, Mr. Chairman.

Senator Hatch. Thank you, Mr. Langer. I presume from listening to you that you do not like this tax.

Mr. Langer. You are right.

[The prepared statement of Mr. Langer appears in the appendix.]

Senator Hatch. Mr. Rosenbloom.

STATEMENT OF H. DAVID ROSENBLOOM, MEMBER, CAPLIN & DRYSDALE,

Mr. Rosenbloom. Mr. Chairman and members of the subcommittee, thank you for inviting me to testify in regard to the administration's proposal.

I have prepared a statement to submit and I hope the Chair will allow it to be submitted for the record. I will try to summarize it as briefly as I can. I will refer consistently to the administration's proposal, although what is, I take it, on the table is, in fact, Section 5 of H.R. 831, as reported by the Senate Committee.

I am a tax practitioner and a lecturer in taxation at Harvard Law School. I was the International Tax Counsel in the Treasury Department from 1978 to 1981. I have worked in the international tax area for more than 20 years, and I have worked specifically with Section 877 and its counterpart provisions in the estate and gift tax area.

The administration has proposed, quite simply, that property held by an individual who renounces citizenship would be mark to market upon such renunciation of citizenship.

As I read the legislative materials, that applies to all property and not simply to capital assets. That means the gain or loss would be calculated based on fair market value at the time of renunciation and recognized for income tax purposes. That would apply to all citizens, whether they are resident in the United States or abroad, and it would apply to all property, whether the property is in the United States or abroad. There are a limited number of exceptions in the provisions which I will not summarize. On the whole, I think this is a reasonable and sensible proposal. I support it, and I think you should, too.

To understand the administration's proposal you have to appreciate the context in which it is made. We, the United States, stand virtually alone in the world in imposing taxation on the basis of citizenship. We have done this since the first income tax in 1913.

That means that we impose taxes on citizens who are resident in the United States and citizens who are resident in Mexico, Brazil, Australia, wherever. It also means that we impose tax on citizens, no matter where their income is earned, whether it is earned in the United States or earned in Brazil or Australia.

U.S. policy in this regard is certainly open to doubt and controversy. Many other countries regard the policy as overreaching, unadministrable, or otherwise ill-advised. But the policy is entrenched in our law and there have never been any serious efforts to abandon it.

At bottom, our insistence on taxing citizens says something about how we, Congress and the American people, view U.S. citizenship as compared with mere presence or residence in this country. Our law says, in effect, that citizenship is not only an incalculable privilege of Americans, but a source of obligations as well.

On a somewhat less abstract level it may also be observed that taxes are paid in order to fund government and that governmental responsibilities of the United States are worldwide.

The U.S. citizen in Brazil derives ample benefit from programs and policies of the U.S. Government which must, of course, be paid for. There is perfectly sound economic reason why such a person should be asked to defray, in part, the cost of these policies and programs.

About 40 years ago Congress determined that our policy of taxing on a citizenship basis holds implications for persons who renounce citizenship. In the Foreign Investor's Tax Act of 1966, Congress enacted Section 877 of the Internal Revenue Code, along with its companion provisions in the estate tax and the gift tax.

These provisions attach certain tax strings to certain expatriations for a 10-year period thereafter. Congress did this because it was concerned that individuals might seek to escape their U.S. obligations by renouncing citizenship.

Section 877 does not work. Moreover, it cannot be made to work by interpretation. I know, I was involved in trying to interpret it. As the level of tax sophistication in this country has risen in recent years, and increasingly greater intellectual resources have been trained upon the tax laws, many Code provisions have been tested.

Section 877 was one of the earliest to be found wanting; avoiding it is truly child's play. Administering it in a fair way is impossible. It cannot be save by interpretation. Thus, the administration's proposal raises a straightforward issue of tax policy. Should Congress fix a provision of law that has long been seen as having a justifiable purpose and that is irrevocably broken? I think an affirmative answer to that question is required.

In the first place, tolerating an ineffective provision like Section 877 breeds disrespect for the tax laws in general. This is not a good thing for a country that depends on a high level of tax compliance, and it will depend upon tax measures to finance its government needs for as long as we have a United States.

In the second place, the administration's proposal is a clear improvement over present law. It is simple, it is administrable, and it is fair, not only to those individuals who choose to surrender citizenship, but to those who are left behind to shoulder the burden.

Foregoing tax on expatriots by leaving present law in place or by eliminating Section 877, which is just about the same thing, really represents a tax increase on other taxpayers, other U.S. citizens, and also U.S. residents who must continue to finance government through taxes, inflation, a weaker dollar, and involuntary exactions.

The administration's proposal is fair because it would impose tax on accretions to wealth that are attributable to the period of citizenship. It would include only net gains accruing prior to the time when the taxpayer ceases to be a U.S. citizen.

Persons wishing to surrender are free to seek their fortune under other flags, and we would impose no further tax except to the extent that we would on persons who never were U.S. citizens. In this respect, the administration's proposal cuts back on the reach of Section 877, which extends the gains that accrue long after citizenship has been abandoned.

Now, in my statement I have said that this is not the only way to change present law, there may be other ways. But this is a good way, on its own merits. It makes a lot of sense, and I think the committee should support it.

Further, if the committee would wish, am prepared to address myself to the constitutional objections to this provision which I regard, like the Second Circuit, bordering on the frivolous. Thank you very much.

Senator Hatch. Thank you. We will be happy to take those written suggestions.

[The prepared statement of Mr. Rosenbloom appears in the appendix.]

[The information appears in the appendix.]

Senator Hatch. Mr. Turner, you will be our final witness here today.

STATEMENT OF ROBERT F. TURNER, CHARLES H. STOCKTON PROFESSOR OF

Mr. Turner. Thank you very much, Mr. Chairman. It is a great pleasure to be here to discuss these important issues. It is a particular pleasure to be here also in the presence of Senator Moynihan, who is such a distinguished expert on international human rights and international law. I have a prepared statement which I would submit for the record, as suggested.

Before turning to the merits of the issue, I would like to make three quick caveats. One, is I am appearing here today in my personal capacity and not on behalf of the War College or the University of Virginia, and my views are entirely my own.

Second, which may be important, I know almost nothing about tax law, and to the extent we get into the tax law issues, I am going to have to defer on those.

Finally, having been invited in the early evening last Friday and had to travel from the War College in Rhode Island to Charlottesville and research in the law library on Sunday and then was up all night Sunday night writing my testimony, I literally have not read it.

I apologize for the condition it is in. The un-nice way to characterize it is "wishy-washy." It is written by somebody who really was not quite sure what he thought about this. After about seven hours sleep last night, as I drove up here, I got my thoughts together and I am now much more troubled by this bill than my prepared testimony may indicate.

What I would like to do, and I think my primary contribution, if any, is going to be to discuss the relevant rules of international law which ought to be considered. I want to focus on two of them.

First of all, the International Covenant on Civil and Political Rights, and second, a part of American domestic law, but a part very much based upon a perception of international law, and a part which certainly goes to contribute to the development of customary international law, and that is, of course, the Jackson Vanik Amendment to the 1974 Trade Act.

On the 2nd of April of 1992, the Senate consented to the ratification of the International Covenant on Civil and Political Rights. The President ratified the covenant and, in so doing, the United States joined more than 100 other States in assuming solemn international legal obligations.

I would note that the unanimous report of the Foreign Relations Committee on this treaty categorized the rights enumerated in the covenant as being "the cornerstones of a democratic society."

Of possible relevance to the issue now before this subcommittee, Article 12 of the covenant provides, in pertinent part, "Everyone shall be free to leave any country, including his own. The above- mentioned rights shall not be subject to any restrictions except those which are provided by law and are necessary to protect national security, public order, public health or morals, or the rights and freedoms of others, and are consistent with the other rights recognized in the present convention."

As I listened to Ms. Borek this morning, who is a very distinguished lawyer, I had some doubts. I am more convinced than before that she is mistaken. As I read her testimony, it strikes me as the work of a very good lawyer trying to rationalize a policy they want to support, a policy that the administration supports. But the argument she makes, saying that this provision does not apply to the act of emigration, it only applies to renunciation of citizenship, that just does not pass the straight face test to me, honestly.

The renunciation of citizenship is a part of the act of emigration. Saying that the covenant only protects the right to travel, implicitly it does not protect the right to emigrate, I think is simply error as a matter of law.

Saying that because these people are super-rich the provision is not so burdensome as to effectively preclude change of nationality or emigration, that, too, is not the standard. The standard is, you cannot restrict that right, except for certain purposes.

Indeed, the 1972 Soviet Diploma Tax which imposed a $5- 25,000 tax on educated Soviet citizens who wished to leave and go to Israel or other countries could be justified on exactly the same grounds.

All they were doing is collecting a duty owed the State for their free education. The United States Senate unanimously said that was wrong under international law. I do not see how you can reconcile what you are doing today, or what you are considering today, with that provision.

Now, Article 12 of the covenant is a fundamental right, but not an absolute right. There are exceptions. For example, it is permissible to keep someone convicted or on trial for serious crimes from leaving, and it also is clearly permissible to require a person who wishes to expatriate themselves to pay their normal tax obligations to the State.

The issue is, can you require them to pay a tax obligation that would not be imposed upon a similarly situated American citizen who is not expatriating? And I think the answer to that has to be no.

Indeed, during the drafting of Article 12, one of the proposals that was made was to allow constraint on the act of emigration for the general welfare or economic and social well-being of the State, and those were rejected in that process.

Just turning quickly to the Jackson Vanik Amendment which was supported, in fact, by every member of this committee who is still here. It had 78 co-sponsors in the Senate, passed the Senate unanimously. The provisions of the Jackson Vanik Amendment prohibited Most Favored Nation status to non-market economy countries that "denies its citizens the right or opportunity to emigrate or, two, imposes more than a nominal tax."

In that regard, my quick calculations here suggest, I am told, about two dozen people are involved in this and they are expecting to bring in over $1 billion, so that would come to something like $40 million per person. Even for a rich person, that is more than a nominal constraint, I would think.

"Imposes more than a nominal tax on emigration or on the visas or other documents required for emigration for any purpose or cause whatsoever." This was said by the unanimous Senate to be a requirement of international law.

The key issue to me here, in the first place, the technical issue is, does this provision impose a significant burden on people because they wish to expatriate that they would not otherwise incur in the same circumstances?

The second issue is, even if that is true, does it comply with the Jackson Vanik Amendment that is still part of the law of the land? You can obviously overturn it, just as under our dual system you can overturn our commitment to the international covenant under domestic law. That is, if you pass a law that violates the covenant, American courts will uphold it. The question is, should you?

Senator Moynihan. The United States would be a lawbreaker.

Mr. Turner. The United States would be a lawbreaker under international law. Exactly, Senator.

I believe that would be a sad mistake, given the relatively small sum of money we are involving here. It may be that the integrity of this process and our belief in human rights is sacrificeable for hundreds of billions of dollars, but for a $1 billion it strikes me this needs to be carefully considered.

So, Mr. Chairman, that concludes my oral statement. I will be happy to take questions.

Senator Hatch. Thank you. You can submit a different statement if you care to.

Mr. Turner. I appreciate that. I would like to at clean it up some. He said he would like to revamp it a little bit, so he certainly can.

Mr. Turner. When I read it I may well want to make several changes to it.

Senator Hatch. Thank you.

We will turn to Senator Moynihan, first, here.

Senator Moynihan. Mr. Chairman ----

Senator Hatch. Go ahead.

Senator Moynihan. Then I would just say we have heard remarkably cogent testimony. It makes me glad I am not a judge. I have been persuaded by each of the witnesses in succession.

I would ask Mr. Turner, and first of all say that when you got seven hours sleep driving up from Virginia, were you driving?

[Laughter]

Mr. Turner. I apologize. What I meant to say was after seven hours' sleep I drove up early this morning.

Senator Moynihan. I see.

Mr. Turner. But I had several hours in the car. I caught the early stages of rush hour and it gave me a chance to ponder this some more.

Candidly, Senator, one of my concerns is, the most important time to protect the rights of individuals are when those individuals belong to small, unpopular groups and lack political power. Anyone who comes under this provision will have already in that process given up even their right to vote. These people are not popular with the American voters.

I was thinking about this. In some respects you can compare them to the Soviet Jews. They were a well- educated, probably wealthier- than-average group, or at least a group that did not apparently have a great deal of allegiance to the government in power, to the State at the time.

The people whose rights need to be protected are exactly the people that do not have the resources to do it themselves. I hate to say it, for years in this country we said, the poor people deserve rights as well as the rich.

Well, the converse is also true. Even if we may not like them and may not be able to identify with them, the constitution and the international constitution, such as the covenant, ought to protect the rights of all people, irrespective of their economic circumstances.

Senator Moynihan. Very forcefully stated. But could I ask you, sir, in that context, would you consider that the existing law that a U.S. citizen who relinquishes citizenship for the principal purpose to avoid federal tax may be subjected to an alternative taxing method for 10 years, would you think that object the same ----

Mr. Turner. Senator, that is an important, interesting question. I have not looked at that. As I say, I am not a tax expert at all. I could probably give you a more coherent answer if you would let me answer that one for the record. I would like to look at the actual language of the statute.

[The answer appears in the appendix.]

Mr. Turner. The key test, though, ought to be, does someone by the act of expatriation incur a substantial financial obligation that would be greater than that person would incur had they chosen not to become an expatriate? At least it strikes me that ought to be the test. I suspect that anyone here could apply that test as well as I could.

Senator Moynihan. Well, I do thank you very much. I would like to say, it is not every day that we get testimony which starts out with what it was Socrates said to Plato 2,500 years ago.

Could I ask Ms. Harrison, your remarks were circulated on the American Bar Association letterhead. Does that indicate you are representing the views of the ABA?

Ms. Harrison. I am not here representing the views of the ABA.

Senator Moynihan. You are not.

Ms. Harrison. But my name was associated with the ABA comment.

Senator Moynihan. We have a problem. Thank goodness you are the Chairman. But thank you very much all. I would like to hear your questions.

Senator Hatch. Well, thank you. We are glad to have you all here with us, and I think it has been an extremely interesting hearing. I thought it was going to be a fairly boring one when I came over, but it has been a lot more than that.

Let me go to you, Ms. Harrison. Please expand on the ways in which you think we could prevent expatriots from avoiding taxes by improving current statutes.

Ms. Harrison. Yes, I would like to address that. I think we could start by eliminating the intent test in H.R. 877 and either just eliminate it entirely or creating a strong presumption that people who expatriate do so to avoid tax. I think we could consider extending the 10-year period and making it longer.

Very important would be to amend Section 367 to prevent the use of intermediate entities, such as foreign corporations, foreign partnerships, and the like, from being used as devices to avoid the tax that is supposed to be imposed. I think we could also benefit from the IRS issuing some regulations, putting teeth into the statute.

I think if we want to pursue the idea of an exit tax we should provide an election, as Canada does, which defers the incidence of tax to the time a realization event occurs and use some kind of security mechanism to ensure the collection of that tax. That should be explored.

Senator Hatch. Thank you.

Senator Moynihan. Mr. Chairman, could I ask a question?

Senator Hatch. Sure.

Senator Moynihan. Would an exit tax not violate the covenant?

Mr. Turner. I believe it would, Senator.

Senator Hatch. A very interesting question. Let me go to you, Mr. Langer.

Mr. Turner. A serious exit tax. A nominal tax would not, but a tax, if you are talking about $40 million, certainly would.

Senator Hatch. Yes. I may have a question for you.

Mr. Langer, is this proposal going to solve the problem of wealthy individuals avoiding U.S. taxes? If not, how best can we amend current law, either in the income tax area or the estate tax area, to close this loophole?

Mr. Langer. I think one of the answers to that is what Ms. Harrison just said. She suggested something to amend Section 367. In one of my books I describe what I think is done today and I think that she has just alluded to. That is, people who leave the United States take their assets and transfer them into foreign corporations and they do so by exchanging their assets for the shares of the foreign corporation.

Now, if a citizen or resident does that he is trapped under Section 367, but a former citizen doing it who is no longer a resident is not so trapped, so he gets a tax-free exchange when he sets up that foreign corporation.

I think that the Congress tried to address that back in about 1988 when it started to block tax-free exchanges of U.S. property for foreign property, but I think it was done in a defective manner at that time because the result of the way it works when a former citizen transfers his assets into a foreign corporation in exchange for the shares of that foreign corporation is that the foreign corporation itself can then sell the property, but the corporation tat has been formed remains tainted for 10 years, but the underlying assets in the foreign corporation are not tainted at all. That is something that could be cured.

Senator Hatch. That is interesting.

Mr. Rosenbloom, you mentioned amending Section 1014. Could you elaborate on a proposal to deny a stepped-up basis in property inherited from a person who has renounced their citizenship?

Mr. Rosenbloom. Well, yes. That provision, which was advanced by the Bar of the City of New York, fits in with certain other sections of Section 1014. Normally, of course, under our tax laws there is a stepped up basis at death.

One way of escaping tax on appreciation is by dying, and then the assets go on to the next generation at the then-value, which may be considerably higher than cost and all that appreciation escapes tax. Enormous amounts escape tax.

There is nothing in our law that prevents a stepped up basis for a person who expatriates now. So, therefore, if somebody chooses to renounce citizenship, leave citizenship, they can pass on property to the next generation with the stepped-up basis and that generation, presumably, if it so chooses, can come back into the United States.

It seems to me that it is fitting and in accordance with other things that we have done in Section 1014. We do not give a step-up in basis to stock and foreign personal holding companies or in passive foreign investment companies, which are two of the exotica that inhabit the international tax world. It seems to me this fits right in there and it would be a sensible thing to do, but it is not a substitute for what the administration has proposed.

Senator Hatch. You see it as an alternative to what they propose.

Mr. Rosenbloom. I do not see it as an alternative because it is really addressed principally to the estate and gift tax problem, although I do believe--and I think in this regard I may differ somewhat from the Treasury--that the appropriate thing for Congress to do is to fix not only Section 877, which is an income tax proposal, but also the estate and gift tax proposals.

Because on one point, and one point only, I do agree with my old friend, Mr. Langer, which is that I believe that most people, in expatriating, are looking principally to the estate tax. I think the estate tax is a bigger concern than the income tax. I am not saying the income tax is not also a big concern, but the estate tax, I do not think, can be avoided very easily.

Senator Hatch. I see.

Mr. Turner, just one last question to you. You specifically said in the 1974 Jackson Vanik Amendment is the law that embodies the fundamental right to emigrate, guaranteed by the Universal Declaration of Human Rights adopted in December of 1948.

As you know, the opponents of that provision have focused on this famous amendment, or on this provision, or the opponents of this particular approach have focused on Jackson Vanik, which, of course, declares our commitment to the right to emigrate.

Yet, as you know, there are fundamental differences in the situations which Jackson Vanik was, and is, directed and the situation we are discussing here today, specifically. Jackson Vanik refers to "non-market economies."

At the time, the Soviet Union, which had, A) a fundamentally different approach to human rights, if it can be called that, than nations of the west, and B) highly restrictive policies--some would call them extortion, or some did call them extortion at the time-- aimed at preventing the emigration of Soviet Jews. This proposal is not geared toward any such countries, but rather to citizens of our own country.

Let me just say this. Specifically, if one of the main conditions of Jackson Vanik was the imposition of more than a nominal tax, how exactly do you compare the Soviet practice with the administration's proposed rate of 35 percent? Does the problem we face in addressing this issue hang on the definition of nominal, and if so, how do we reconcile that?

Mr. Turner. Maybe several questions, Senator.

Senator Hatch. There were a lot of questions in there.

Mr. Turner. The non-market economy, it is true, was part of the Jackson Vanik Amendment, but it certainly was not part of international law. That is, international law did not require a higher standard of totalitarian states than it did of democracies. Senator Jackson put that in because he was focusing it particularly at the Soviet Union and East European states.

Indeed, one can argue that the customary international law standard of the Soviets in 1974 certainly was less than the U.S. standard today in the sense that the Soviets had abstained on voting on the universal declaration and, in fact, had opposed, I think it was Article 14, the article in the Universal Declaration that dealt with this issue.

And even after the Jackson Vanik Amendment was passed in the Helsinki process, although the Helsinki final act did incorporate, by reference, the Universal Declaration, the Soviets effectively resisted putting any specific reference to the right of emigration in the baskets to the final act of the Helsinki conference.

So all of international law, or historically almost all of international law, was based on the consent of states. We now have a concept of use cogents that says there are certain fundamental principles, preemptory norms, we call them, that all states are obligation to follow, but generally you consent to something, either by ratifying a treaty or international agreement, or by carrying out a consistent practice that you regard as a legally binding rule.

The United States, particularly through things like the Jackson Amendment, said, we view this as customary international law. That pretty much locks us in. The Soviets, on the other hand, objected as this law was being formed and a persistent objector can avoid a normal requirement of customary law.

Now, it is clear to me that the Russians today and the Soviets a few years ago were, in fact, bound. I believe this is such an important norm. I believe the Universal Declaration represented customary law. It clearly was not intended to be a legally-obligating document. The U.S. position at the time was, this is not a legal obligation, it is a political document.

Senator Moynihan. It was aspirational, I think.

Mr. Turner. It is an aspirational document. That was the word I was reaching for. And because it was unanimously approved, or it approved without negative votes by the General Assembly ----

Senator Moynihan. May I just say, it is not the word you are reaching for, it is the word in your testimony. You really were up late, were you not?

Mr. Turner. Thank you, Senator. I appreciate that.

If I understood you right, you say there is a difference in that the law applied. For the Soviets to pass a law saying that people who got a free education cannot leave the Soviet Union without paying the state back for that obligation, for that expenditure, it strikes me there is a direct parallel between our saying that people who have money, have great wealth, and wish to give up their American citizenship and flee to another country cannot do so without paying something more than a nominal tax.

Again, it is very clear. Under the covenant, under international law you can require people who wish to expatriate to pay their lawful tax obligation. The problem is when you try to impose a different and substantially more burdensome tax obligation on them when they make the decision to emigrate. Again, the State Department's effort to draw a distinction between renunciation of citizenship in the process of emigration suggests to me that somebody was really straining to try to make this thing legitimate. It does not pass the straight face, as much as I respect the State Department. I think the State Department legal staff is as good as any law firm in the country, but I think in this case they were trying to defend their client's case and not ---- I should not characterize their testimony, but let me just say I do not share that view. I really think there is a serious problem here. You tax lawyers, you experts in this, may find a way to reconcile it.

But the fact that as a non-tax lawyer I am troubled by it suggests there may be a serious perception that we are not following the Jackson Vanik principle and the rule of international law, and it not only will come back to haunt us when the Saddam Hussein's of the world respond to our criticism by saying you guys also violate the covenant, it also may come back to haunt us when we try to impose Jackson Vanik on the PRC, or what have you. I think it will weaken the moral authority of the United States Senate and the United States Government in the pursuit of human rights values, and that troubles me.

Senator Hatch. This has been an interesting hearing.

Do you have any other questions you care to ask?

Senator Moynihan. I do not, Mr. Chairman. But I wonder if we might include in the record a letter from Professor Paul Steffon to Secretary Samuels. You all travel a lot. You met each other in an airport in Pittsburgh.

Mr. Turner. I mentioned that. That is right. Did he mention that or did I mention that?

(The letter appears in the appendix.)

Senator Moynihan. He said, "I ran into my former student, Bob Turner, who informed me of his intention to testify before the Senate Finance Committee to the effect that the proposal did raise problems under international law. As I told him at the time, I found his arguments unconvincing. However, I am responsible only for Bob's education in Soviet law, not in international tax law."

Mr. Turner. Certainly, my testimony is not on tax law at all. I know nothing about international tax law, it is purely on human rights law. I did run into Paul. We sat on a plane. He was coming back from Moscow and I was coming back from the War College. He is not the only one who took that position.

I also called Professor Lou Heiken, whom I am sure you know, is at Columbia University, and a distinguished expert on human rights law and international law, and former president of the American Society of International Law. He said he saw no problem with this either, and both of their comments were among the reasons that led me to be very wishy-washy in my testimony. I wanted to support this thing.

But, as I looked at it and kept thinking about it, it sure looks to me, just as the Soviets said you have got to pay your legitimate debt for your free education before you can leave, we seem to be imposing an impediment on emigration, and that troubles me.

Senator Hatch. Well, I think you have raised some interesting human rights concerns. There are a number of us who are concerned. I do not see the constitutional concerns that some do. I think this can probably be done. The question is, should we? You raised some concerns that I think we ought to take under consideration.

I think each of you has been an excellent witness.

Senator Moynihan. Yes.

Senator Hatch. I think this has been a particularly stunning panel. So, we want to thank you for being here, we want to thank you for helping us with this. We will just have to take a real good, careful look at it and see where we come out. Thank you very much.

With that, we will recess until further notice.

[The prepared statement of Mr. Turner appears in the appendix.]

[Whereupon, at 12:03 p.m., the hearing was concluded.]

C E R T I F I C A T E

This is to certify that the foregoing proceedings of a Hearing on The Administration's Proposal to Impose a Tax on Individuals Who Renounce Their U.S. Citizenship, Subcommittee on Taxation and IRS Oversight, of the Committee on Finance, United States Senate, held on March 21, 1995, were transcribed as herein appears and that this is the original transcript thereof.

WILLIAM J. MOFFITT

My Commission expires April 14, 1999