Expat Tax Planning 101

Perhaps you’ve been offered a fantastic new position overseas. Maybe you’ve decided to move abroad to form an exciting new start-up? Or, you might be off to retire to your dream location in an exotic or historic place. Whatever the reason, it’s important to know that the US still taxes you on your worldwide income, and in many cases, also requires you to disclose certain foreign financial accounts and other assets.

While being a US expatriate can create a myriad of unique tax situations and corresponding unique sets of questions for those situations, nearly all expats will find themselves affected by the following:

  • Foreign Earned Income Exclusion (sometimes referred to as the FEIE) and Foreign Housing Exclusion
  • Foreign Tax Credits (or FTCs)
  • Tax Treaties
  • Social Security Contributions
  • Foreign Bank Account Reporting (encompassing both the FBAR and Form 8938)

What is the Foreign Earned Income Exclusion and how does it help me?

Simply put, the Foreign Earned Income Exclusion is a tax benefit which allows US citizens and residents working abroad to exclude up to $103,900 (for 2018) from their US taxable income. The foreign earned income exclusion is available to exclude income from salary, wages, and other types of employer-paid compensation. It’s important to note that Social Security, pension or annuity income, interest, dividends, or other unearned income is generally not available for the FEIE (there are some foreign tax credits available in some situations – keep reading for more on that.)

The Foreign Housing Exclusion (or in some cases, Foreign Housing Deduction) is in addition to the foreign earned income exclusion. It is a way to help offset the costs of living overseas, where the cost of living can often be higher. You can claim the exclusion or deduction from your gross income, but you must first qualify to and elect to utilize the foreign earned income exclusion. Your housing must also be paid with employer-provided funds.

What are Foreign Tax Credits, and how do they help me?

US expats living abroad who receive earned income, interest, dividends, capital gains, or rental income from a source outside of the United States may also be obligated to pay income tax to the foreign country from which the income originated. Since the US also taxes these expatriates on their worldwide income, it can create a situation where the same income is subject to taxes in two or more countries.  Fortunately, Foreign Tax Credits are available which ensure that the taxpayer is not actually paying taxes imposed on the same income by the United States and the foreign country. Even if the expat doesn’t qualify or elect to utilize the foreign earned income credit, all US taxpayers are eligible to claim Foreign Tax Credits (there are various credits for the various types of income, such as general and passive, for example) if taxes have been imposed on income abroad.

Note: In some cases, expats can qualify to use both the Foreign Earned Income Exclusion and Foreign Tax Credit(s) on the same tax returns, presuming both aren’t used on the same income.

I’ve heard the US has tax treaties with various countries. What does that mean for me?

The United States has income tax treaties with nearly 70 foreign countries. Under these treaties, residents (not necessarily citizens) of foreign countries may be eligible to be taxed at a reduced rate or exempt from US income taxes on certain items of income they receive from sources within the United States. These reduced rates and exemptions vary among countries and specific items of income.

In a nutshell, tax treaties generally reduce the US taxes of residents of foreign countries as determined under the applicable treaties. In addition, treaty provisions are generally reciprocal (apply to both treaty countries). Therefore, a US citizen or US treaty resident who receives income from a treaty country and who is subject to taxes imposed by foreign countries may be entitled to certain credits, deductions, exemptions, and reductions in the rate of taxes of those foreign countries. US citizens residing in a foreign country may also be entitled to benefits under that country’s tax treaties with third countries.

In most cases, you must attach a treaty-based position on your US tax return to invoke the tax treaty.

How are Social Security contributions impacted by moves abroad?

Social Security is a vital part of financial planning for Americans. We accumulate credits as we work in the US. Many other countries also have such arrangements for their citizens and/or residents as well. To help coordinate social security taxation between the US and the other countries, the US has social security totalization agreements in place with several countries. Without these agreements, a US citizen working abroad in one of these countries could face dual taxation for Social Security contributions.

Self-employed Americans are also required to pay into the Social Security system and do so via the self-employment tax. The self-employment tax rate is currently 15.3% of the net income from the business. For those expatriates who are self-employed and living abroad, they are usually required to pay into the social security system of their host country. Self-employed American expats residing in countries which share a social security totalization agreement with the United States will be exempt from US self-employment tax.

In both situations, either as employee or self-employed individual, a document, known as a Certificate of Coverage, will likely be required as proof that the expat has contributed to another Social Security plan.

It is important to note that in some cases if you’re an expat working in a country which does not have a totalization agreement with the US, you may be required to pay social security taxes to both countries.

I’ve heard that I am required to report my foreign bank accounts to the IRS, is this true?

If you have a financial interest in or signature authority over a foreign financial account, including a bank account, brokerage account, mutual fund, trust, or other type of foreign financial account, exceeding certain thresholds (an aggregate of $10,000), the Bank Secrecy Act may require you to report the account yearly to the Department of Treasury by electronically filing a Financial Crimes Enforcement Network (FinCEN) 114, Report of Foreign Bank and Financial Accounts (FBAR).

In addition to the FBAR filing requirement, in some cases, if your foreign assets reach higher thresholds, you may also be required to file Form 8938 Statement of Specified Foreign Financial Assets, with your tax return.

While neither the FBAR or Form 8938 result in any taxes themselves, failing to file either can result in severe monetary penalties.

What can I do if I’m an expatriate now (or will be in the future)?

If you have questions about US taxes, credits, and filing requirements, contact Greenback and we’ll help you to get all the information you need so you can get back to enjoying your adventure abroad!