One of the great aspirations many Americans have is to start their own business. It takes a lot of dedication, skill, and planning to do so. While the business and its operations may be the same for an expat as a US-based entrepreneur, owning a small business abroad has some unique implications for expat taxes.
How Can My Business Be Structured and Does It Affect Expat Taxes?
The first question a potential business owner is likely to ask is how the prospective business might be structured. Naturally, more than a few options are available.
- Sole Proprietorship – If you work for yourself with no formal business entity (for example, as a consultant or freelance worker), you generally file a Schedule C with your Form 1040. The Schedule C reports any profit or loss from your business, along with any deductions you may have. You’ll need to pay self-employment taxes to cover Social Security and Medicare; the current combined rate is 15.3%. If you’re overseas, it fundamentally works the same way, though you must be mindful that the foreign country may also tax the same income for their Social Security programs (see Totalization Agreements below).
- Partnership – By default, a business owned by two or more persons, corporations, or other partnerships, is a partnership, unless an entity structure (corporation, etc.) is created. If your partnership is foreign, you’ll file a Form 8865, which is similar to a US partnership tax return, along with Schedule K-1. The form also has schedules that explain the activities of the business and the inflows and outflows to and from the non-US Partnership and its partners.
- Limited Liability Company (LLC) – This is a popular option for companies around the globe. US LLCs are considered disregarded, and so the company’s reporting flows through the owner’s tax return and does not trigger additional reporting requirements. With a foreign LLC, you would elect the disregarded status by filing Form 8832. You’ll only need to file Form 8832 once, but you will need to file Form 8854 annually to retain disregarded status.
- Corporation – This structure would require you to file Form 5471, which is mandatory for anyone who owns 10% or more of a foreign corporation or makes a transfer to the corporation during the tax year.
As a Small Business Owner, Do I Get Any of the Tax Saving Opportunities Expats Who Work for Employers Receive?
The two major credits and exclusions that help with expat taxes are the Foreign Earned Income Exclusion (FEIE) and the Foreign Tax Credit. Thankfully, self-employment is considered earned income, is eligible for the FEIE, and the Foreign Tax Credit is always available if you paid taxes to a foreign country. It is important to note that this does not include the self-employment tax, just the income tax.
What Are Totalization Agreements?
If you’re an expat business owner working in the US or abroad, you are still liable for self-employment taxes in the US, as they are your Social Security and Medicare contributions. Unfortunately, many countries will also collect similar taxes. This can create a double taxation situation. However, if you’re located in one of the two dozen or so countries with which the US has a Social Security Totalization Agreement, the rules of that agreement will determine to which country you’ll pay the tax – it will only be one. Please note: this will depend on how your company is structured and where you are located. If you are a sole proprietorship (i.e., no business entity) or have a US-based business entity, you will most likely need to pay US FICA taxes. This is 15.3% of your income and would apply before you can use the Foreign Earned Income Exclusion, so you may have a cash expense.
If you have a foreign-based business entity, you will probably not be liable for US Social Security or FICA taxes. However, if you are in a country that has a tax treaty with the US, you need to consult the tax treaty to see how and to whom these taxes would apply. Generally, these payments would need to be made quarterly throughout the year.
What If the Country I’m in Doesn’t Have a Totalization Agreement With the US?
Unfortunately, for those who are self-employed and living in a country without a US totalization agreement, double taxation is quite common. This is because many must pay self-employment taxes to the US, even if they have already paid them to their host country.
Are Business Bank Accounts Subject to FBAR Reporting Obligations?
Whether they’re for individuals or businesses, reporting foreign financial accounts is a necessary aspect of US expat taxes.
- Foreign Bank Account Report (FBAR) – If your company has foreign bank accounts that held more than $10,000 at any point during the year, you must file FinCEN Form 114 to report the accounts. This is a total of all your bank accounts, so if you have $1,000 in one account and $9,000 in a different account, you’ll need to file FBAR.
- FATCA Form 8938 – The Foreign Account Tax Compliance Act requires individuals and businesses to submit Form 8938 if certain filing thresholds are met.
Do My Expat Taxes Include State Filing Obligations?
Business filing obligations vary by state, particularly when there are entity structures such as corporations. It is imperative to determine these obligations as well to be certain you remain in compliance.
Have More Questions About Expat Taxes and the Implications of Owning a Business Overseas?
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