US Expat Taxes: Foreign Earned Income Exclusion for Part-Year Residents

US citizens must report and pay taxes on all of their income to the US government on their annual US expat taxes.  That being said, US citizens who live abroad are eligible to exclude a portion of their income by qualifying for the Foreign Earned Income Exclusion (FEIE).  For 2011, this exclusion is capped at $92,900.

To qualify, a US taxpayer must meet one of two tests.  They must meet either the  Bona Fide Residence Test or the Physical Presence Test.  When you first move abroad, taxpayers will generally qualify under the Physical Presence Test.  To qualify for this test, you must live abroad for at least 330 days out of a 365 day period.  This 365 day period does not need to be the calendar year in which you moved abroad.  The period can be any period leading up to the filing of your tax return.  In fact, US taxpayers living abroad can easily extend their tax return until October 15th to help them meet this test.

However, it is important to keep in mind that the amount of foreign income a taxpayer is eligible to exclude will be prorated.  This is calculated based on the number of days in the calendar year that he or she was physically present in a foreign country.  We will explain this more in our example below.  As the name implies, the Foreign Earned Income Exclusion is only available for foreign earned income.  You cannot use the this exclusion to exclude any US sourced income.

Once you have moved abroad and established permanent residence for a full tax year, you will then qualify for the Bona Fide Resident Test.  The Bona Fide Resident Test qualifies individuals to exclude the full $92,900 exclusion.

State Tax Impact

States differ from the Federal government in that they generally only tax income that is earned in their particular state.  This means that income excluded under the Foreign Earned Income Exclusion will also be excluded from state taxes.  However, during the year of expatriation, you will likely be required to file a Nonresident or Part-Year Resident state tax return.  It is very important to use the appropriate state forms in order to report your move abroad to the state.   Please see the example below for further explanation.

US Expat Tax Mid-Year Move Example

Joe Expat, a married man with two children and a lifelong California resident, decided to fulfill his lifelong dream of moving to Germany.  By May 31, 2011, the kids were out of school and they were on the plane to Munich.  During the time prior to his move abroad, he worked for a US company and earned a monthly salary of $4,000.  After moving to Germany, it took Joe about two months to find employment.   At that time, he began earning a monthly salary equivalent to $3,000.  In summary, he earned $20,000 USD before his move abroad and $15,000 USD after his move abroad.

Because of his permanent residence abroad, Joe will now qualify for an automatic extension of his US expat taxes until June 15, 2012.  Waiting this length of time will allow him to claim a portion the Foreign Earned Income Exclusion on his 2011 US expat taxes.   The period that will allow Joe will use to qualify for the Physical Presence Test is June 1, 2011 through May 31, 2011.

Because he was only physically present in a foreign country for a portion of his 2011 tax year, the amount of foreign income excluded on his 2011 US expat taxes will be prorated.   The amount of income for which Joe is eligible to exclude on the Foreign Earned Income Exclusion will be calculated as follows:

Therefore, he will be able to exclude the entire $15,000 USD that he earned while living abroad.   He will still be required to pay Federal and Californian taxes on the $20,000 he earned while still living in the US.

In 2010, Joe fulfilled his US taxes by filing Form 1040 and California Form 540 (for his Californian return).  When he files his 2011 US expat taxes, he will continue to file Form 1040.  However, because he only lived in California for part of the year, he will now file Form 540NR for his non-resident California return.  Because he sold his property and severed all ties to California when he moved in 2011, he will not need to file in California when filing his 2012 US expat taxes.

Extension to Claim Foreign Earned Income Exclusion

As mentioned above, the IRS automatically gives expats a two-month extension to file their taxes.  If even more time is needed, US taxpayers living abroad can file Form 4868 to request an additional extension to file their US expat taxes until October 15^th.   This extension is automatically granted unless otherwise told by the IRS.  If you find that you need additional time beyond October 15^th to meet the Physical Presence Test, you can request an additional two-months extension by writing a letter to the IRS explaining why you need additional time.

It is important to remember that the extension on the date to file is not an extension of the date you will need to pay.  All of the required US expat tax payments are still due to the IRS by the original due date.  If you extend your tax return due date, you will need to estimate your tax liability to ensure you have fully paid by the original tax due date in each year.  Contact Greenback Tax Services for help in preparing an accurate estimate.

If you were too busy worrying about your overseas tax return and the rest of your life, you may want to take note that the time to vote is coming just around the corner!  Primary elections are being held around the country for a Republican candidate to challenge President Obama for his position as President of the United States.  The Overseas Vote Foundation does not want anyone to miss their chance to cast their ballot and is currently reminding New York residents that they need to get prepared for their 2012 presidential preference election which is happening April 24th, 2012.

While you don’t have to register to file an overseas tax return, you do need to register to vote overseas.

The Overseas Vote Foundation is dedicated to providing individuals with the information they need in order to take part in the entire voting process while living and working abroad.  This is just the case with the NY presidential preference election.  The foundation has sent out reminders to their database of New York residents and reminds visitors to their website to check in on when their forms need to be submitted.

“New York overseas civilian and military voters who wish to participate must submit an absentee voter registration by 30 March 2012. Already registered voters must submit a ballot request form by 30 March 2012.

You must submit your voter registration form by regular mail. If you send a voter registration by fax or email, the local board will send you a printed form for completion and return.”

Once you have registered to vote with New York or your respective state, you are on your way to being able to take part in the elections year round.

 For those not from New York…

The Overseas Vote Foundation is happy to provide a selection of online tools and important deadlines for those who file overseas tax returns and thus should easily be able to take part in elections taking place in the United States.

“The OVF Election Official Directory and State-specific Voter Information Directory provides complete contact information for local election offices, state-by-state filing deadlines, options for sending and receiving voting material and state-level contact information.”

 

The foundation is also quick to point out that expats should plan ahead for the 2012 November election and have their ballots postmarked by the day before the November 6th, 2012 election.  Just as you do with your overseas tax return, you should be aware of where your ballot needs to be sent and when it needs to be delivered in order to be considered valid and on time.

More information about the Overseas Vote Foundation

• Review the online voting tools provided by the Overseas Vote Foundation.
• Register to vote directions from the Overseas Vote Foundation
• Remember your other obligation as a US person, your overseas tax return.

US Tax Abroad Deadline: April 17^th, 2012 

If you are an expat who is used to filing from within the United States, April 15^th is most likely always going to be the day you think of first when someone says “tax day”.  Why, then, is it different for the 2011 tax year?  If April 15^th falls on a weekend or holiday (as it does this year), the US federal tax return deadline is moved to the following Monday. Taxpayers can thank the weekend and Emancipation Day, a legal holiday in Washington DC, for the extra two days to compete, file and pay their US tax abroad this year.

Automatic Extensions for US Tax Abroad!

If you are an Expat and you live abroad full time, you are lucky enough to be granted an automatic 2- month extension to June 15^th 2012. The reason for this extension is to allow extra time to receive foreign tax documents, which vary as to when they are delivered and could very well be different than the United States (such as the UK or Australia). It is important to take note that even if you file your taxes on June 15^th, your US tax abroad payment is still due on April 17^th, 2012.  Failure to pay these taxes on time will result in interest and penalties for underpayment.  Many ask “How am I supposed to know what to pay?” and we honestly do not have an answer for you.  For that reason, it may be best to simply have your US tax abroad filed and paid by this year’s April 17^th, 2012 deadline.

US Expats Can Apply for an Additional Extension to October 15^th.

Things come up – be it a lack of tax documents, inability to find income statements, or a need to meet the Physical Presence Test – and you may need additional time to file your US tax abroad return.

The IRS does allow for extensions if individuals file Form 4868, which can be done via any expat CPA.  If you do not have an accountant, you can also opt to go to www.officialpayments.com, click on “Federal IRS Payments”, then choose “Personal” and “Form 4868”.  This makes it easy for anyone to file for an extension for your US tax abroad at the reasonable rate of roughly $5.00.

FBAR Deadline: June 30^th, 2012

If you have bank accounts overseas that total more than $10,000, you are going to be required to file the FBAR (Foreign Bank Account Report) with the U.S. Department of the Treasury.  The Treasury does not allow extensions on this deadline, and unlike the IRS, the Treasury only considers the FBAR forms filed if they have been delivered to the U.S. Department of the Treasury. For 2012, taxpayers have the first opportunity to meet this deadline using the FBAR E-filing system.

The FBAR is completed via Form TD F 90-22.1 and is an essential apart to filing US tax abroad. Note that foreign account can be used very liberally.  If you have a foreign brokerage account, mutual funds, or a foreign trust, you will need to report each of them as part of filing US tax abroad.  It also includes any joint accounts you have even if the other member is a non-citizen.  Be sure to report any income earned from interest on these accounts when you file your US tax abroad.

DEADLINES FOR YOUR 2011 US TAX ABROAD:

• April 17, 2012 – US tax filing deadline and due date for all taxes owed
• June 15, 2012 – US tax abroad deadline for expats
• June 30, 2012 – Foreign Bank Account Form is due (aka FBAR or Form 90-22-1)
• October 15, 2012 – Final tax deadline for US tax abroad IF you have already applied for an extension

Big Changes that Affect Expats Filing Overseas Tax Returns

While some of the changes for the 2011 tax year are going to be important for certain tax payers, others are going to change the tax return filing process for individuals around the globe.  These changes include the deadline to file, an increase in the standard deduction, the introduction of the new filing requirements (mainly Form 8938) and a change as to where paper returns should be mailed.

 

Due date of return. File your federal tax return by April 17, 2012. The due date is April 17, instead of April 15, because April 15 is a Sunday and April 16 is the Emancipation Day holiday in the District of Columbia.

 

Standard deduction and exemptions increased.

• The standard deduction increased for some taxpayers who do not itemize deductions on IRS Schedule A (Form 1040). The amount depends on your filing status.
• The amount you can deduct for each exemption has increased $50 to $3,700 for 2011.

 

New forms. In most cases, you must report your capital gains and losses on the new Form 8949, Sales and Other Dispositions of Capital Assets. Then, you report certain totals from that form on Schedule D (Form 1040). If you had foreign financial assets in 2011, you may have to file the new Form 8938, Statement of Foreign Financial Assets, with your return.

 

Mailing a return. The IRS changed the filing location for several areas. If you’re mailing a paper return, see the Form 1040 instructions for the correct address.

Those filing an overseas tax return should specifically take note of the change in the due date and the introduction of the new Form 8938.

Even though expats automatically are given an extension to June 15th, payment of any taxes owed is still required on the April due date.

For expatiates with significant funds in foreign bank accounts, Form 8938 is going to cause an additional filing requirement on your overseas tax return this year.  The thresholds are higher than the thresholds associated with the FBAR, but many individuals will still find that they need to file Form 8938 in order to stay compliant with the IRS.

Other Important 2011 Tax Law Changes

While the above changes may be more prevalent to those filing overseas tax returns, other changes are going to be important for taxpayers in specific situations. These situations include those who qualify for the Alternative Minimum Tax, those who are self-employed, and those who may be buying a home for the first time.

 

Self-employed health insurance deduction. This deduction is no longer allowed on Schedule SE (Form 1040), but you can still take it on Form 1040, line 29.

 

Alternative minimum tax (AMT) exemption amount increased. The AMT exemption amount has increased to $48,450 ($74,450 if married filing jointly or a qualifying widow(er); $37,225 if married filing separately).

 

First-time homebuyer credit. The credit expired for most taxpayers for 2011. Some military personnel and members of the intelligence community can still claim the credit in 2011 for qualified purchases.

There are numerous changes to the 2011 tax law that you may also need to be aware of for your specific situation.  See the resources below in order to learn about other changes that may be relevant on your specific overseas tax return.

More Information About the IRS’s 2011 Tax Law Changes

• Read the entire IRS release “Tax Law Changes for 2011 Federal Tax Returns“.
• Read more about preparing to file an overseas tax return.

Foreign Earned Income Exclusion

A US domestic employer should educate their employee(s) regarding all of the tax implications of their move abroad prior to the employee’s acceptance of the foreign assignment.  The employer will likely want to arrange the foreign assignment in such a manner as to ensure the employee’s qualification of the foreign earned income exclusion (FEIE).  To do this, they need to ensure that the employee’s foreign assignment places them in a “tax home” abroad for a period greater than one year.  This will allow the employee to exclude up to $92,900 (in 2011) of their income from their US expat taxes.

In addition, the employee must meet one of the following two tests:

• Physical Presence Test: The employee’s foreign assignment must put them abroad for at least 330 days in a 365 day period.  The 365 day period can be any period prior to the filing date of the employee’s US expat taxes.  See our blog for more information on meeting the requirements of the physical presence test in our US Expat Taxes Explained Series.
• Bona Fide Residence Test: When an employee moves abroad on foreign assignment for an indefinite period that includes at least a full calendar year, they will qualify for the FEIE under the bona fide residence test.  See our blog for more information on the bona fide residence test in our US Expat Taxes Explained Series.

Despite the employee’s qualification for the FEIE, it can only be claimed by completing Form 2555 and attaching it to their US expat taxes.  Most employees of US businesses will qualify for the FEIE using the physical presence test.

Payroll Taxes

As a domestic US business, you will be required to withhold taxes for your US employees, even if they are working abroad.  However, if the employee’s federal withholding is eliminated because of their qualification of the FEIE, they can request an exemption from federal withholding by completing Form 673 and submitting to their employer.

Foreign Housing Exclusion and Deduction

When an employee meet the tests to qualify for FEIE, they will also become eligible to claim an exclusion or deduction for foreign housing expenses.  Foreign employees whose housing was paid using employer-provided dollars will be claimed on Form 2555 as a housing exclusion.  Foreign housing expenses paid with self-employment earnings (independent contractors) will be taken as a deduction directly on Form 1040.  The amount excludable varies by location.  The appropriate deduction limitation eligible on US expat taxes for each location can be found in the Instructions for Form 2555.  Expenses eligible for the exclusion or deduction include rent, repairs, utilities (not telephone), property insurance, furniture rental and residential parking expenses.

In some instances, a US based employer will reimburse an employee for his/her foreign living expenses.  While these reimbursements are included as taxable income to the employee, the foreign housing exclusion or deduction will be taken on the employee’s US expat taxes.  Any amount reimbursed to the employee in excess of the host country’s allowable limitation will increase the employee’s US expat taxes.  However, because a deduction cannot be taken for foreign housing expenses not actually paid, the opposite is not true.

Foreign Tax Credit

An employee’s residence in a foreign country will likely subject them to taxation in their host country.  A US taxpayer who is required to pay taxes to a foreign country will be eligible to use those taxes to calculate a foreign tax credit on their US expat taxes.  This credit will reduce the employee’s US expat taxes dollar for dollar.  An employee cannot claim a foreign tax credit on income that has already been excluded by the FEIE or foreign housing exclusion.

Equalization Package

For employers whose advance planning shows them that the foreign assignment would prove to be excessively costly for their employee, they might consider offering a tax equalization package to the employee.  A tax equalization program is a voluntary benefit that ensures an employee’s out-of-pocket tax expense is no more or less than if they would’ve stayed stateside.  The equalization program includes consideration for any foreign employer-benefits (housing, cost of living adjustments, or school tuition), foreign taxes, and any other taxable factors associated with their foreign assignment.  Under an equalization program, the employer will reimburse the employee for any additional burden on their US expat taxes associated with their foreign assignment.

Employer Provided Benefits

Any reimbursement by the US based employer to the employee for personal expenses will generate additional taxable income to the employee.  These reimbursements include:

• Relocation costs
• Education Expenses
• Spousal allowance
• Automobile allowance
• Home leave

However, any expenses reimbursed to the employee for direct business expenses or deductible moving expenses will not increase taxable income.  Moving expenses are deductible if the meet the following three criteria are met:

1. The move must be related to the start of work at a new job location.
2. The new job location must be greater than 50 miles from your previous location.
3. The employee must remain employed full-time for at least 39 weeks following the move.

These expenses will only consist of the actual expenses to move household goods from the old location to the new, including temporary storage if necessary and travel expenses.  Temporary living expenses, meals, and travel associated with house-hunting are not deductible.  Thus, any reimbursements for these expenses made by the employer become taxable to the employee.  In addition, any amount paid to the employee as reimbursement for the loss on the sale of their home is a taxable event to the employee.  These additional taxable reimbursements should be included on the employee’s W-2 and reported on their US expat taxes.

Other Considerations

US domestic companies sending employees abroad should enlist the help of an experienced expat tax professional who is familiar with the regulations of the host country.  Each host country has its own laws, tax rates, and treaties; each has an impact on the resulting US expat taxes.  For the US company, simply having employees establish a permanent location abroad could create corporate tax responsibilities in the host country.

There are many aspects about an overseas assessment that must be reviewed prior to accepting an assessment, both by the employee and the employer.  It is advisable that you speak with a tax professional both in the host country and a firm that has experience with US expat taxes, such as Greenback Expat Tax Services.

What is the Offshore Voluntary Disclosure Program?

The Offshore Voluntary Disclosure Program allows individuals who come forward with delinquent FBAR reports and US expat tax returns to face reduced penalties and avoid criminal persecution.

The Offshore Voluntary Disclosure Initiative from 2011 offered US citizens and US expats the ability to file their delinquent US taxes and FBAR forms with reduced penalties and no criminal prosecution. If you came forward and submitted your documents voluntarily then you were able to avoid criminal prosecution and receive more lenient (and fixed) penalties from the IRS. The new program offers a similar reduction in penalties and avoidance of criminal prosecution, albeit with slightly higher maximum penalties.

Unlike previous disclosure programs the IRS has offered, the 2012 Offshore Voluntary Disclosure Program does not currently have a due date.  That being said, the IRS does reserve the right to introduce a due date at any point it seems fit.

What to Do to Get Caught Up on US Expat Taxes

Getting caught up can be a daunting task, but this programs offers a great opportunity for individuals to come forward, save money and stay legal with the IRS.  Greenback Expat Tax Service’s President David McKeegan explained how this opportunity can and should be taken advantage of by US expats.

This is great news for US expats who are behind on their taxes and/or FBAR filings. And it really should motivate any late filers to come forward and get caught up before things change. This is an opportunity not to be missed by any US expat who is behind on his/her taxes…

…If you owe money on your taxes, you will likely need to pay the failure to file and failure to pay penalties, but between the Foreign Tax Credit and the Foreign Earned Income Exclusion, individuals need to be making a significant income before this becomes a risk. For most US expats who are behind on their taxes it is as simple as filing your US expat taxes, your FBAR forms and writing a letter explaining why you have fallen behind. You just need to make sure your taxes are prepared correctly.

More Information About the Offshore Voluntary Disclosure Program

• Read the entire Yahoo! News article “Greenback Expat Tax Services Tells US Expats: Another Opportunity to Come Clean With the IRS”.
• Read more from the IRS about the Offshore Voluntary Disclosure Program.
• Talk to an expert about your late US Expat Taxes.
• Watch a video about delinquent US expat taxes.

There are thousands of American expatriates living in Germany, but how does living there affect their US expat taxes? Germany has long been seen as a business country, with several international headquarters located in the country.  When you include the large military presence, you have thousands of American expatriates living in Munich, Berlin, Essen and other Germany cities.

Wherever you live in Germany, it is important to understand your German tax obligations, while not forgetting your US expat taxes – and how the German tax system will affect them.

US Taxation of Expatriate Americans

If you are a citizen or permanent resident of the United States then you are obligated to file a tax return with the federal government each year regardless of where you live.  In addition to the regular income tax return, you could also be required to file an informational return on your assets held in foreign bank accounts.  While the US is one of the few governments that tax the international income of its citizens and permanent residents, it does have special provisions to help protect us from double taxation including:

• The foreign earned income exclusion allows you to decrease your taxable income by the first $91,500 earned as a result of your labors while a resident of a foreign country,
• A foreign tax credit that could allow lower your tax bill on your remaining income by certain amounts paid to a foreign government, and
•  A foreign housing exclusion that allows an additional exclusion of income for certain amounts paid for household expenses that occur as a consequence of living abroad.

With proper planning and quality tax preparation you should be able to take advantage of these and other strategies to minimize or even eliminate your tax bill.  Please do note that even if you do not believe that you owe any US income taxes you will, most likely, still be required to file a return.  For more information, see US Expat Taxes Explained: An Overview of Our New Series.

Who is a German Resident?

Individuals are considered residents of Germany if they arrive with the intention of staying for a period longer than six months. Residency can be proven by establishing a residence within the country, or having a presence in the country that indicates that you will be staying for a long term.

Likewise, departure from Germany without any ties (a primary residence, financial or other connections) is enough to cease tax resident status. Even German nationality is not enough to establish tax residency – if you leave the country, you are not a resident for tax purposes.

Germany Income Tax Rates

Germany has a relatively high tax rate when compared with the tax rates applied on US expat taxes.  While you pay more to German tax authorities up front, the benefit is savings on your US expat taxes when it comes time to file with the IRS.

The taxable income in Germany is employment income, after the allowable and standard have been taken.  The threshold for taxation is current EUR8 8,004 for a single individual; in the event that an individual is married, the joint filing threshold is EUR 16,008. The tax rate is progressive based on income, while reaching the first cap of 42% at EUR 52,881.  This rate will then be applied until the second threshold, EUR 250,731 is reached.  Income surpassing 250,730 is taxed at 47.5%.

Tax rates from The German Finance Ministry are as follows:

Deductions from your income will include a standard deduction of EUR 920.  If you have unreimbursed business expenses (which need to be proven with receipts), you can itemize the deductions from your income. There are personal deductions (obligatory future care) that cap at EUR 6,591. There are monthly deductions for allowances paid to children, which start at EUR 184 per child (two children) and cap at EUR 215 (four or more children).  There is also a basic child deduction of EUR 2,184 per dependent child for a single parent.  That is doubled to EUR 4,368 if a married couple is filing jointly.

There are no regional taxes, but there is a church tax applied to registered members of an official church.  The church tax varies, but is typically 8-9% of the individual’s income tax.

Taxpayers are also subject to a solidarity surcharge of 5.5% of taxes paid, making the actual highest rate of income tax 47.5%.

Germany Tax Due Date

Germany’s tax year is the same as the United States – January 1^st through the 31^st of December.  This will be more convenient for administrative reasons when it comes time to file both your German and US expat tax returns.

You will be required to file an unrestricted tax return if you have a residence or abode in Germany.  Otherwise, you will need to file a restricted tax return if your employer had no obligation to withhold your German taxes.

Taxes are to be filed by May 31^st of the year following the tax year. There is an automatic extension to December 31^st if the return is prepared by a tax professional. There is an additional extension that can be filed for February 28^th of the subsequent year, but it does require a written application.

Payment will be due one month after the German Ministry of Finance has issued the German income tax assessment notice. Penalties for filing late are limited to 10% of the assessed German taxes, but cannot exceed EUR 25,000. There is a late fee of 1% of the taxes due for each moth the taxes have an outstanding balance. In addition to the late filing penalty, interest is assessed on the taxes due at the rate of .5% each month.

US-Germany Social Security Agreement

An individual is automatically entered into the German social security program as soon as employment begins in Germany.  This does not apply for those who are working in Germany for a company located outside of Germany.

The US-Germany Social Security Agreement describes which country social security is payable to when an individual is working in Germany.  If you are assigned, by a US company, to work in Germany for five years or less, you will pay into US Social Security.  If the assignment is for more than five years, you pay into German Social Security. If you are working for a non-US employer in Germany, you will pay into the German Social Security system.

Is foreign income taxed in Germany?

For all individuals who are considered tax residents of Germany, worldwide income is considered taxable. Germany does have tax treaties with a number of countries which determine where taxes are to be paid.  If you are earning income outside of the Germany in a third foreign country, you will need to review the tax treaty between Germany and the third country, or talk to a tax expert.

Germany – US Tax Treaty

The US-Germany Tax Treaty is helpful in situations where it is unclear to which country taxes should be paid. Generally speaking, most tax matters are resolved based on the resident status of the individual – are they resident in the US or Germany? Where are they working? Where was the income paid? Which country is the employer from? All of these factors will go into consideration when deciding where taxes should be paid.

Taxes in Germany

Germany does have an investment and capital gains tax, which is a flat rate of 25%. Losses on investments and sale of assets can be deducted from the income earned on other investments or assets. The system is set up so that the taxation is deducted at the source.  For example, if you have a German savings account, the German bank will deduct the taxes payable from the income you have earned on your investment account. If the income is coming from outside of Germany, it will not automatically be deducted, but taxes are still due to the German tax authorities.

There is an inheritance tax of 25%, but no wealth tax.

Capital gains taxes on real estate are levied only if it was not self-occupied and held for less than 10 years. In Germany, rental income is to be taxed by the country in which the rental income is located.

Saving on US Expat Taxes

With Germany being a region with a relatively high tax rate, it is important to be aware of the filing requirements, obligations, and taxation levels in order to plan appropriately.  This will also allow you to better prepare for your US expat taxes when it comes time to pay up to your home country.

If you need any assistance with planning for your US expat taxes, please do not hesitate to contact our expat tax experts.

Why E-File an American Expatriate Tax Return?

If you were not sure of the benefits of filing your American expatriate tax return online, the IRS is more than happy to remind you by going over the highlights of e-filing.

1. Safety and security.  E-file providers must meet strict guidelines and provide the best in encryption technology. You receive an acknowledgement within 48 hours that the IRS received your return. If the IRS rejects the return, the receipt will explain why so you can quickly correct and resubmit.

2. Faster refunds. An e-filed tax return normally means a fast refund. If you combine e-file and direct deposit the IRS can typically issue your refund in as few as 10 days. About three of four taxpayers receive a refund and last year the average refund was approximately $2,900.

3. More payment options. If you e-file you can file early and set an automatic payment withdrawal date for any date on or before the April due date. You may also pay by paper check or even by credit card.

4. It’s easy. You can e-file through your tax preparer, use commercial tax preparation software or through Free File, the free tax preparation and e-filing service available exclusively at www.irs.gov.

American Expatriate Tax Preparation Must Also E-File

The IRS also announced that any tax return preparer, both at home or abroad, must now e-file their clients’ returns if the preparer or firm anticipates 11 or more Form 1040′s or Form 1041′s.  So, if you have not e-filed in the past, you should maybe get used to filing online or expect that your tax preparer will do it for you!

More Information About IRS E-Filing

• Read more from the IRS about e-filing.
• Get information about American expatriate tax returns.
• Seek help preparing and e-filing an American expatriate tax return.

US Expat Taxes in Mexico

If you are a citizen or permanent resident of the United States then you are obligated to file US expat taxes with the US federal government each year no matter the country in which you reside.  In addition to the regular income tax return, you could also be required to file an informational return on your assets held in foreign bank accounts with form TD 90.22.1.

While the US is one of the few governments that tax the international income of their citizens and permanent residents who reside overseas, it does have special provisions to help protect them from double taxation including:

• The foreign earned income exclusion allows you to decrease your taxable income by the first $91,500 earned as a result of your labors while a resident of a foreign country,
• A foreign tax credit that could allow lower your tax bill on your remaining income by certain amounts paid to a foreign government, and
•  a foreign housing exclusion that allows an additional exclusion from income for certain amounts paid for household expenses that occur as a consequence of living abroad.

With proper planning and quality tax preparation you should be able to take advantage of these and other strategies to minimize or even eliminate your tax bill.  Please do note that even if you do not believe that you owe any US income taxes you will, most likely, still be required to file a return.  For more information, see US Expat Taxes Explained: An Overview of Our New Series

Mexico Income Tax Rates

For the 2011-2012 tax year, the national income rates for expats from Servicio de Administración Tributaria are as follows:

Note that expatriates are also going to be responsible for local taxes to each state.  These rates are different in each state and generally range from 1% to 3%.

Who is a Mexico Resident?

In Mexico, you are considered a Mexican resident if you have a permanent home.  In the case of an expat who has a permanent residence in another country, your residence status is determined by the location of your “center of vital interests”.  The “center of vital interests” is considered to be in Mexico when the following is true:

• More than 50% of worldwide income throughout the calendar year is earned in Mexico
• When the core of an individual’s professional activities are located in Mexico

Due to the US – Mexico Tax Treaty, it is important to read through the details to determine where taxes should be paid.  Also take note that there is a 183 day exemption period (consecutive or non-consecutive) within a consecutive 12 months before you become responsible for income taxes in Mexico as an expat.

US – Mexico Tax Treaty

The US-Mexico Tax Treaty is useful for defining the terms for situations when it is unclear to which country taxes should be paid.  The country that receives the tax payment is usually determined by the taxpayer’s resident status for each country.  It is in place to help relieve double taxation of dual citizens while also being available to explain any tax matters that may be unclear.

Mexico Tax Due Date

The tax year in Mexico is, like the US, from January 1^st to December 31^st.   Tax returns need to be filed with the Servicio de Administración Tributaria April 30^th of the following tax year.

However, taxes are also to be reported monthly and the employers are to withhold the respective taxes that are due on a monthly basis.  These payments should be made on or before the 17^th of the following month.  For expatriates, it is recommended to pay 15 days after the receipt of income in Mexico.

In addition to the monthly reports, expatriates and Mexican national are required to file an annual tax return.

Social Security in Mexico

Mexico does have social security taxes in place, which range between .25% and 20.4%, depending on the benefits covered by the Social Security Law. Social Security taxes are paid by Mexican employers who have employees on payroll in Mexico.  The responsibility to pay these taxes falls on the employer.  If an expatriate is in Mexico with a foreign company and there is no relationship with a Mexican company, it is advised that you get in touch with a Mexico tax expert to go over the details of the arrangement and determine where social security taxes need to be paid.

Is Foreign Income Taxed Within Mexico?

If you are considered a resident in Mexico, you are going to be taxed on your worldwide income, regardless of your nationality or where the income was earned.  Non-residents, including Mexican nationals who have residency for tax purposes in a foreign country, are only taxed on their income that is Mexico-sourced.  Note that the source of the income is considered to be in Mexico when the service is provided in Mexican territory, regardless of where the agreement is negotiated or where the payment was made.

Taxes in Mexico

In addition to income tax on salaries paid, there are other forms of income that are taxed in Mexico.

Non-cash compensation is considered taxable, including benefits or taxes paid on your behalf by your employer.  There are no exceptions for foreign nationals.

Any capital gains are also going to be subject to capital gains taxes, including the selling of shares, property, securities, or other assets.  Currently, the rate is 25% on the gross amount of the transaction or 30% of the total capital gain. For expatriates, the capital gains tax will depend on the tax cost basis, the type of asset to be liquidated, the sale price, and other factors.  In the event of a large capital gain, it would be wise to talk to a Mexican tax advisor.  For real estate, you will also be required to pay 2-4% of the total transaction in local taxes.  If you are a resident, capital gains apply to worldwide income.  Otherwise, you will only be taxed on income earned from property in Mexico.

Mexico does not currently have estate or inheritance taxes in place.  There is a gift tax on real estate, which is payable by the recipient, however, if you are gifting the property to your spouse or family members, this amount is not taxable.

Saving on US Expat Taxes

With the many various forms of taxation that are applied to foreign nationals working and residing in Mexico, it is important that you apply all of the exclusions, deductions and credits to your US expat taxes.  Mexico is a relatively appealing country for expatriate taxation, but understanding when and how you will be taxed is important to staying compliant with the Mexican authorities.  If you have any questions about your US expat taxes, please contact our expat tax experts.

US Expat Taxes in the UK

If you are a citizen or permanent resident of the United States then you are obligated to file US expat taxes with the US federal government each year no matter the country in which you reside.  In addition to the regular income tax return, you could also be required to file an informational return on your assets held in foreign bank accounts with form TD 90.22.1.

While the US is one of the few governments that tax the international income of their citizens and permanent residents who reside overseas, it does have special provisions to help protect them from double taxation including:

• The foreign earned income exclusion allows you to decrease your taxable income by the first $91,500 earned as a result of your labors while a resident of a foreign country,
• A foreign tax credit that could allow lower your tax bill on your remaining income by certain amounts paid to a foreign government, and
•  a foreign housing exclusion that allows an additional exclusion from income for certain amounts paid for household expenses that occur as a consequence of living abroad.

With proper planning and quality tax preparation you should be able to take advantage of these and other strategies to minimize or even eliminate your tax bill.  Please do note that even if you do not believe that you owe any US income taxes you will, most likely, still be required to file a return.  For more information, see US Expat Taxes Explained: An Overview of Our New Series

UK Income Tax Rates

For the 2011-2012 tax year, the national income rates from Her Majesty’s Revenue & Customs (HMRC) are as follows:

*If your non-savings income is above £2,560, this rate does not apply.

You are able to exclude £7,475 of your income as a personal allowance. Note that this will be reduced by £1 for every £2 of income over £100,000, regardless of age.

Who is a UK Resident?

In the UK, defining if you are a resident of the UK is decided by the guidelines issued by HMRC.  Generally speaking, your residency is going to be determined by your long-term intentions and how many days you are physically present in the UK.  For the UK, each day is counted as being present in the UK at midnight.

• If you are in the UK and do not intend to stay for more than two years, you are a resident for the tax year if 183 or more days are spent in the UK.  If you spend less than 183 days in the UK, you will not be considered a resident for tax purposes.
• If over the last four tax years you have spent 91 days or more on average per year in the UK, you will be considered a resident for tax purposes. You would be considered a resident for tax purposes from the date of your arrival if you intended to spend more than 91 days, on average per year, in the UK.
• If you come to the UK and expect to stay for two years or more, you are considered a tax resident from the first day that you arrive.

There are also two types of residents: Ordinarily and not ordinarily.

• Resident and ordinarily resident – When you come to the UK and expect to stay for three years or more. This can be proven by purchasing or leasing property available for three years or more.
• Resident and not ordinarily resident – When you have been outside the UK and intend to come to the UK for at least two years, but less than three years.

What is Domicile?

For UK tax purposes, domicile is important when it comes time to factor in your worldwide income. Domicile is decided by UK law and is defined as where a person has their long-term, permanent home.  It is not the same as nationality, citizenship or a residence.

Your domicile or origin is the same domicile as your father’s domicile at the time of birth.  If your father changed domicile while you were still a dependent, your domicile will also have changed. Otherwise, you have your domicile of origin unless you acquire a different domicile.

In order to do so, you must cut links with your previous domicile, move to a new jurisdiction and have a permanent home in that jurisdiction.  It is difficult to acquire domicile of choice compared to domicile of origin, and the responsibility to prove that your domicile has changed lies on you.

Most expats in the UK are considered non-UK domiciled.  HMRC constantly makes changes to UK residence and domicile regulations and most recently made the structure more complicated in April of 2008.  It is strongly advised that you get in contact with an expert concerning your domicile status while living in the UK.

UK Tax Due Date

The tax year in the UK is different from your tax year for the US – April 6^th through April 5^th.  Tax returns need to be filed with the HMRC before October 31^st of the tax year if they are being filed by paper.  If you are e-filing, you have until January 31^st of the year following the tax year. HMRC does not offer extensions.  For payment, the UK has a withholding system (PAYE) that will go through your employer’s payroll.  For non-wage income that does not have withholding, payments are due on January 31^st of the tax year.  Payments must be completed by the 31^st of July following the tax year.

Social Security in the UK

As a general rule of thumb, expatriates are going to be required to pay into the UK’s National Insurance once you have taken up employment (or are self-employed).  This is required in order to cover the costs of health insurance, welfare, pension plans, workers compensation and unemployment insurance, as well as other social programs currently in place in the UK.  Per the US-UK Social Security Agreement, you will be required to pay Social Security to the country you are working in.  However, if your employer sends you to the UK for five years or less, you will continue to be covered by the US and exempt from coverage in the UK. If you are self-employed, you will pay to the country in which you reside.

Is Foreign Income Taxed Within the UK?

The tax paid on worldwide income will depend on your residency and domicile status in the UK.  If you are considered a resident in the UK, you are taxed on all of your investment income, no matter the location.

If you are a resident but not domiciled in the UK, you are able to file using the remittance basis for both foreign income and capital gains. If you are a resident and domiciled, but are not ordinarily resident, you can use remittance only for your foreign income – not capital gains.  Remittance basis allows you to elect to be liable to pay UK tax on investment income remitted in the UK.  Income must be remitted if it is brought to the UK or paid to you in the UK. It is good to contact a tax advisor regarding overseas bank accounts in order to avoid costly mistakes for non-UK domiciled residents.

US – UK Tax Treaty

The US-UK tax treaty is useful for defining the terms for situations when it is unclear to which country taxes should be paid.  The country that receives the tax payment is usually determined by the taxpayer’s resident status in each country.  It is in place to help relieve double taxation of dual citizens while also being available to explain any tax matters that may be unclear.

Taxes in the UK

In addition to income tax on salaries paid, there are other forms of income that are taxed in the UK.

Non-cash compensation is considered taxable.  This includes housing stipends, relocation expenses, meal and clothing allowances, commuting costs, club memberships, education reimbursement or home leave payments.  There are exceptions, but in general, expats can expect to pay taxes on non-cash compensation in the UK, including national insurance.

Any capital gains are also going to be taxed, including the sale of your only or main residence, life insurance policies, corporate bonds, motor cars, gifts of assets to charity, gains from ISA accounts, and UK government bonds.  If you are a resident or ordinarily resident and domiciled in the UK, this includes worldwide capital gains.  If you are not domiciled, it will only be on capital gains earned in the UK, allowing for election by the remittance basis for overseas gains.

For estate taxes, you can expect to pay inheritance tax to worldwide assets if you are domiciled in the UK.  HMRC deems you responsible for inheritance taxes if you have been resident in the UK for 17 or more of the last 20 years.  In the case that you are domiciled in the US, you are only responsible for inheritance on assets located inside the UK.

Saving on US Expat Taxes

With the many various forms of taxation that are applied to foreign nationals working and residing in the UK, it is important that you apply all of the exclusions, deductions and credits to your US expat taxes.  It is also important to understand the resident and domicile rules for savings on your UK Self-Assessment. Understanding your US expat taxes and your UK filing requirements while living in the UK will streamline the tax filing process and make it as hassle-free as possible.  If you have any questions about your US expat taxes or your UK Self-Assessment, please contact our expat tax experts.