With the recent debt crises in the United States postponed for the next 18 months and no new taxes as a result of this legislation the question remains as to how the United States will pay off its debt without raising taxes.Treasury DebtThe Treasury currently owes $10 trillion. Each month the US government spends about $330 billion while incoming revenues are about $190 billion. In the next 10 to 20 years some 300 million Americans will be collecting Social Security, Medicare and Medicaid at a projected current cost of $66 trillion dollars. Where will this money come from?Bush Tax CutsThe so called Bush tax cuts that were due to expire on December 31, 2010 were extended last year to December 31, 2012. Hence, they will expire after the November 2012 Presidential election and with a “lame duck” Congress in session. Thus, the new/old President can raise income taxes by doing nothing on to December 31, 2012.Spending CutsWill cutting expenses help? Yes, but very little. The recently passed legislation is projected to cut the current deficit by 0.5 percent.Crystal BallWhat we are likely to see in the next year or two is a re-hash of a 2010 proposal by a bi-partisan committee. There would be three tax brackets with the lowest to be about 10 percent, the middle at about 18 percent and the highest at 26 percent. To reduce the tax rate and simultaneously increase taxes you need to do away with itemised deductions and tax credits.It is likely that the alternative minimum tax will be repealed as well as the earned income credit and the child credit. The amount of mortgage interest allowable would be reduced by limiting the amount of principal on which income is deductible.Under current law an individual can deduct interest on the first $1 million of acquisition indebtedness and on the first $100,000 of home equity debt. The $1 million would be reduced to somewhere between $250,000 and $500,000. Home equity debt and interest on mortgages for vacation homes would be eliminated. The amount of charitable contributions allowable would also likely be reduced.Deductions for contributions to retirement plans such as 401(k) plans and Individual Retirement Accounts would likely be eliminated.Internal Revenue ServiceThe Internal Revenue Service is stepping up their audits of Americans living abroad and is using agents from their Washington DC office to do so. An IRS agent from Washington DC recently spent two days in our office and when I inquired as to why the IRS office some 10 miles away did not conduct the audit I was told that the IRS wanted an agent specialising in international tax to conduct the audit.Every international audit that we have had in the past year has required the taxpayer to verify every single item on the tax return including providing the IRS with copies of birth certificates, passports and visas for the husband, wife and children as well as school records for each child. It went so far as looking at receipts for all rental expenses of the primary residence in the US even though the rental loss was not allowed on the current return.An area of interest to the IRS is enforcement of a law passed in 1986, and mostly ignored in the past 25 years, wherein the US Immigration Service is not supposed to issue a new passport without first checking with the Internal Revenue Service to ascertain if the individual has been filing US income tax returns over the prior 10 years. The IRS will now look to require the US Immigration Service to enforce the law.Another area in which they are checking is tax return filed by Americans living abroad that show significant income, but no tax as a result of the foreign earned income and housing exclusions, the foreign tax credit and itemised deductions.For example, suppose that you file a tax return showing $200,000 in income and that you claim $90,000 for foreign housing expenses, $20,000 for charitable contributions and a credit of $60,000 for foreign income tax paid. So your US tax is zero.From a cash flow viewpoint you ostensibly only have $30,000 to live on for a year in a foreign country. The IRS will likely “red flag” this type of return for audit.Pursuant to the requirements relating to practice before the Internal Revenue Service, any tax advice in this communication is not intended to be used, and cannot be used, for the purpose of (i) avoiding penalties imposed under the United States Internal Revenue Code, or (ii) promoting, marketing or recommending to another person any tax related manner.The tax advice given by this column is, by necessity, general in nature. You should, of course, check with your own US tax consultant as to how specific transactions affect you since tax advice varies with individual circumstances.James Paul Sabo, CPA, is the president of ETS Ltd, PO Box HM 1574, Hamilton HM GX, Bermuda. Questions should be sent to: jsabo[AT]expatriatetaxservices.com