Why Classic Tax Planning Strategies No Longer Work for Dual Citizens?
The obligation to file US tax returns has existed since 1913, but the reality of dual citizens has changed dramatically over the past decade. Tax planning strategies that worked in the past no longer deliver the desired results, and sometimes even create unexpected additional tax liabilities.
In tax year 2025 alone, more than 9 million Americans living abroad are required to file a tax return, with approximately 300,000 of them residing in Israel. The growing complexity of international financial laws has created a situation where traditional tax planning strategies become a source of problems instead of solutions.
The Dramatic Shift in International Tax Landscape
Beginning in 2010, with the enactment of the Foreign Account Tax Compliance Act (FATCA), the regulatory landscape fundamentally changed for American citizens abroad. The requirement to file Form 8938 for foreign financial assets exceeding $200,000 (for single filers) or $400,000 (for married filers) created an additional reporting layer that did not exist previously.
Additionally, the Foreign Bank Account Report (FBAR) filing requirement under 31 CFR 1010.350 remains in effect for an aggregate maximum balance of $10,000 during the year. The penalty for non-willful non-compliance can reach $12,921 per violation in 2026, and up to 50 percent of the account balance in cases of willful violation.
Why the “Non-Reporting” Strategy No Longer Works
Until 2008, many dual citizens relied on the fact that US tax authorities would not discover their financial activities abroad. This strategy was based on the IRS’s lack of international enforcement capability. However, with the implementation of automatic information exchange agreements (CRS – Common Reporting Standard) beginning in 2017, the situation changed completely.
Today, Israeli banks automatically report to US tax authorities on accounts held by American citizens. The information includes account balances, interest income, dividends, and sales of financial assets. This means that any attempt to hide income or assets is virtually impossible.
The Failure of Traditional Foreign Tax Credit Strategy
One of the most common strategies among dual citizens was reliance on the Foreign Tax Credit through Form 1116. The idea was simple: offset taxes paid in Israel against US tax liability.
In practice, this strategy fails in many cases because of credit limitations. Section 904 of the Internal Revenue Code provides that the foreign tax credit is limited to the actual US tax liability on that same category of income. When the Israeli tax rate exceeds the US rate, the excess portion cannot be credited and is lost permanently.
| Income Type | Israeli Tax Rate | US Tax Rate | Maximum Credit |
|---|---|---|---|
| Employment Income | 47% | 37% | 37% |
| Capital Gains | 25% | 20% | 20% |
| Dividends | 25% | 20% | 20% |
The Trap of Foreign Earned Income Exclusion (FEIE)
Another previously popular strategy is the use of Foreign Earned Income Exclusion under Section 911 of the Internal Revenue Code. In tax year 2025, you can exclude up to $126,500 from active work income, provided you meet either the Physical Presence Test or the Bona Fide Residence Test.
The trap lies in the fact that choosing the exclusion prevents the use of the foreign tax credit on that same income. In many cases, the foreign tax credit provides a better result, especially when the Israeli tax rate is high. Additionally, the exclusion applies only to active work income and not to passive income such as interest, dividends, or rental income.
New Complications in Real Estate Tax Planning
Real estate presents special challenges for dual citizens. US taxation of real estate transactions is subject to complex rules that are not always understood by dual citizens.
The long-term holding strategy, which was popular in the past, now encounters ongoing reporting issues. Ownership of real estate in Israel through an Israeli company creates a Form 5471 reporting requirement (Information Return of U.S. Persons With Respect to Certain Foreign Corporations), with penalties of up to $60,000 for non-compliance.
Additionally, the sale of real estate in Israel may be subject to US capital gains tax even if the property is exempt from tax in Israel (for example, due to status as a primary residence). This creates a situation of double taxation in practice that is difficult to avoid.
The Problem with Traditional Investment Strategies
Investments in Israeli mutual funds, which were once considered a safe strategy, have become a source of significant problems. Most Israeli funds are classified as Passive Foreign Investment Companies (PFIC) in the eyes of the IRS, creating punitive taxation.
PFIC taxation includes a tax rate of up to 37 percent plus interest on “excess distributions,” even if the fund did not actually distribute dividends. Additionally, detailed reporting on Form 8621 is required for each fund separately, with penalties of up to $10,000 for non-compliance.
The Failure of Tax Avoidance Strategies Through Legal Structures
Attempts to establish complex legal structures such as foreign trusts or foreign-owned corporations to avoid US taxation have become ineffective and dangerous. The Tax Cuts and Jobs Act (TCJA) of 2017 added new anti-avoidance rules designed to prevent such strategies.
Ownership of more than 10 percent in a foreign corporation creates a Form 5471 reporting requirement, with detailed information about the corporation’s activities, profits, and distributions. The penalty for non-compliance starts at $10,000 and can reach $60,000. Additionally, the corporation’s income may be treated as Subpart F income and subject to immediate US taxation.
The Challenge of Online Business Income
The rise of online businesses has created new challenges in tax planning for dual citizens. Income from Amazon, Etsy, and other digital platforms is subject to immediate reporting to US tax authorities, regardless of where you reside.
Old strategies of “deferring income” or “spreading income over multiple years” are no longer relevant when platforms automatically report every payment over $600 through Form 1099-K. This creates a situation where all income is immediately exposed, with no opportunity to hide or defer reporting.
The New Solutions Required
Instead of relying on outdated tax planning strategies, dual citizens need to adopt a new approach based on complete transparency and active tax planning. This includes proper use of the US-Israel tax treaty to prevent double taxation, strategic timing of asset sales, and careful selection between the foreign tax credit and foreign earned income exclusion.
Modern tax planning strategies focus on optimizing total taxation (both Israeli and American combined) rather than attempting to avoid taxes entirely. This includes planning investments using financial tools recognized by both countries, timing asset sales according to different tax rates, and using the provisions of the US-Israel tax treaty.
Bottom Line
Tax planning strategies for dual citizens that were effective in the past have become a source of problems and sometimes even criminal risk. The dramatic changes in US legislation and international law, combined with automatic information exchange between countries, have created a new reality that requires a completely different approach.
Success in tax planning today requires deep understanding of the laws in both countries, advance planning of financial transactions, and complete transparency with tax authorities. The 2025 tax filing season presents new challenges that require guidance from specialized professionals.
My professional recommendation is to abandon “shortcut” strategies and invest in long-term professional tax planning. The cost of professional consultation is far less than the penalties and problems that can result from relying on outdated strategies that no longer work.