Congress passed the Hiring Incentives to Restore Employment Act (HIRE Act) in 2010 -- H.R. 2847 -- to encourage businesses to put people on the payroll and boost purchasing power in the U.S. economy. (The legislation included a number of tax breaks.)
This law also called for greater scrutiny of foreign accounts that U.S. citizens hold in an effort to improve tax compliance, thereby bringing in more tax revenue and helping to offset the tax breaks of the HIRE Act -- this portion of the law is called the Foreign Account Tax Compliance Act (FATCA).
So far, so good. The tax breaks went into effect quickly. Were more people hired because of them? Who knows.
The greater scrutiny of foreign accounts took more time to implement, and has yet to go into effect. It is slated to begin July 1. The reason for the long lead time was the complexity of the process…
The U.S. has essentially mandated that every foreign financial firm report back to the IRS on accounts that U.S. citizens hold. The scope of this can't be overstated.
The idea that a government would demand foreign companies proactively report on account holders is a huge change. Typically, governments require reporting from their citizens, not the institutions their citizens work with.
That's because a government has some sway over its citizens. It can impose fines and even send them to jail. But the U.S. government has some leverage over foreign financial firms that other governments don't have.
U.S. Economy and Trade Currency
Since the U.S. dollar is the currency of reserve, acting as the basis of so much trade, our government can penalize foreign firms who don't comply with the new tax law.
In essence, if the IRS determines a foreign bank hasn't complied, it can withhold a portion of any proceeds, due to the foreign bank, that travel through the U.S.
To avoid this, the foreign bank -- or pension fund, or trust company, or whatever -- must complete IRS documents about their account holders, regardless of whether or not their American clients want their information released.
As a result, FATCA is causing shockwaves around the world. Some of them were expected, as people holding foreign accounts and evading taxes realize they have fewer places to hide, which was the point of the law.
Some shockwaves are a surprise. Many U.S. nationals that are legally living and working abroad are being told by the banks to "shove off."
It appears that many foreign financial institutions would rather close all of their U.S. national client accounts than deal with not only the headache of complying with the law, but also the possible ramifications of withholding if they accidentally run afoul of the law. This is leaving law-abiding Americans, who are simply going about their lives, in a state of chaos.
So while FATCA is probably snaring some of the tax cheats, as it was intended to do, it is also upending the lives of many people who are simply innocent bystanders.
What FATCA is not doing, and won't do, is cause the collapse of the U.S. dollar by driving foreign financial firms completely away from their dollar dealings. The reason this is true is because it hasn't happened yet, and prior to July 1, we'll see most of the shakeout from this law that will occur.
Remember that FATCA was part of HIRE, so it was passed in 2010. For the past four years, foreign financial firms have been working with the IRS to determine if they want to muddle through compliance or simply kick out all of their American account holders. In other words, the fallout from the law is happening, or has happened, ahead of implementation and no foreign companies or even entire countries have turned their backs on the U.S. dollar because of FATCA.
This doesn't mean that companies and countries aren't constantly rallying against the dollar. The recent energy deal between Russia and China, which I wrote to you about on Tuesday, highlights the fact that there are some concrete moves being made to lessen the reliance on the U.S. dollar in international trade. But these moves are small in comparison to the overall market.
For better or worse, the dollar is still the dominant trade currency. At the moment, it would be foolish for any other government to want its currency to replace the dollar, as it would drive the new currency up, making that country's exports more expensive to the world. At a time when global growth is in question, this would be a very poor economic choice.
I see FATCA as extremely heavy-handed, and I've no interest in the government causing undue hardship for Americans that are simply living, working, banking, and investing overseas. But I don't see it causing a global rift between the U.S. dollar and the rest of the world.
Our view remains that the dollar should be your go-to place in this current environment.
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.