Making the leap of becoming an American expat entrepreneur is a big feat – coupled with the fact that you left your comfort zone to live abroad – you’re truly a brave and driven individual! Something you may not realize about running your own business abroad is the fact that you still may have a US tax filing requirement – even if your business doesn’t have economic ties to the US! Read on for details.
Why Would I Need to File?
You may be wondering why you’d need to file a US taxes for your business if you run it from abroad. Essentially, if you own at least 10% of a foreign corporation, you will be required to file Form 5471 with your US expatriate taxes each year. Many American expat entrepreneurs may think that this form is only required for a director or officer of a foreign corporation; however, the scope of the filing requirement is actually much broader and extensive.
The Four Categories
There are actually four categories of US persons who must file Form 5471. A “US person” is considered to be: US citizens, partnerships, trusts, estates and corporations. The four categories of tax filers are:
- A US person who is an officer or director of a foreign corporation in which any US person owns or acquires 10% or more of the foreign corporation’s stock
- A person who becomes a US person while owning 10% or more of the foreign corporation’s stock
- A US person who had control of a foreign corporation for 30 days or more
- A US shareholder who owns stock in a foreign corporation that is a controlled foreign corporation for an uninterrupted amount of time totaling at least 30 days, and who owned that stock on the last day of the year
It’s important that you understand which category you fall into, as the reporting requirements differ for each type.
Determining Company Structure
Don’t assume that your foreign business isn’t a corporation even if it isn’t labeled as such in your resident country. According to the IRS, for Form 5471 purposes, a “corporation” includes international business companies and foreign limited liability companies.
You’ll also want to consider the liability of the foreign company when determining if the foreign company will be considered a corporation. If the structure is such that the owner(s) have limited or no liability, the IRS will likely consider it a corporation. Some foreign companies, though, have the option to elect “disregarded entity” status by filing Form 8832 within 75 days of the company’s creation as a way to avoid the Form 5471 requirement.
If you fall into one of the four categories above, you’ll need to include Form 5471 with your US expat tax return. For American expat entrepreneurs living abroad, June 15th is the deadline for filing US taxes and Form 5471, since the IRS grants an automatic two-month extension on taxes to those living overseas when Tax Day (April 15th) arrives. You also have the ability to request an additional extension until October 17th. It’s important to ensure you are filing by the deadline in order to prevent penalties from occurring. For each year you fail to file your Form 5471, the IRS can assess a $10,000 penalty. If the IRS makes a specific request to file the form and the taxpayer doesn’t comply, the IRS can assess an additional $10,000 per month (after the first 90 days) – up to a total of $50,000 – quite a big sum!
If you find yourself behind on taxes, be sure to check out our tax guide for Americans filing late taxes in order to get the advice you need to catch up and become compliant on your US tax obligation.
In terms of how Form 5471 will affect the tax liability of American expat entrepreneurs, it’s fairly common for US owners of foreign corporations to be taxed on their dividends in the year of receipt and to defer any unpaid earnings and profits until they’re distributed or company is liquidated.
The IRS has set many tax laws in place that prevent taxpayers from setting up offshore companies for the purpose of avoiding US taxes. You’ll want to consider the type of income that your foreign company receives, as well as the source of said income. Some types of income are labeled ‘Subpart F’ by the IRS, which would likely end up as taxable income to the US owner, even if it was not distributed as dividends. Also, foreign corporations with US-sourced income will be subject to US taxes similar to a US domestic company.
Do You Need Help With Your US Expat Taxes?
Our team of expat-expert CPAs and IRS Enrolled Agents can help American expat entrepreneurs navigate the often-complicated nature of US taxation while living abroad – contact us today to learn more!