How Expatriate Taxes are Affected by Payroll Tax Responsibilities

Expatriate Taxes and Payroll Tax

If you have a foreign or US domestic business performing work in the US, you may notice it affects your US expatriate taxes, as you might be required to report payroll taxes. This is because the IRS requires every employer who pays wages to employees performing work in the US to report payroll and withholding taxes. Whether the employee is a US citizen or a foreign national, this will be true. Additionally, if you’re a US citizen performing work abroad for a US company, you’ll also be subject to US payroll withholding requirements. Failing to report and withhold payroll taxes means the IRS will assess stiff penalties – so understanding your payroll tax responsibilities are crucial.

Employee Classification

An employee is considered to be anyone who performs work for your company and meets certain criteria, as follows:

  • The employee will work at a time and place governed by the employer
  • The employer will generally supply the employee with all the tools necessary to complete their job
  • The employer will provide some direction to the employee regarding how work is to be performed

If these criteria aren’t met, the person performing work may be considered a contractor, rather than an employee – and payroll withholding isn’t required for contractors. Check out the IRS website for more details regarding the difference between the two types of workers.

Are You An Employee of Your Own Company?

Whether or not you’re an employee of your own company is determined by how the company is legally structured. If your company is organized in the US, how your own work is compensated and treated depends largely on the company’s structure. Here’s a breakdown:

Structure Owner Treatment
Sole Proprietorship Owner isn’t considered an employee. No payroll reporting is required and the business’ income flows through on the owner’s personal tax return – and is taxes at self-employment rates.
General Partnership General partners aren’t considered employees. No payroll reporting is required, and the business’ income flows through to the owners’ personal tax returns – and is taxed at self-employment rates.
Limited Liability Company Managing members aren’t considered employees. No payroll reporting is required, and the business’ income flows through to the members’ personal tax returns – and is taxed at self-employment rates.
S-Corporation Managing shareholders who perform work for the S-Corp must pay themselves a “reasonable salary.” The S-Corp must withhold payroll taxes from this salary, and report and pay the employer portion of the payroll taxes. The S-Corp is allowed a deduction for payroll expenses and any remaining profit not paid as salary must be distributed to the shareholders at the end of the year – and is taxed at ordinary rates.
C-Corporation Shareholders who perform work will pay themselves a salary. The C-Corp must withhold payroll taxes from this salary, and report and pay the employer portion of payroll taxes. The C-Corp is allowed a deduction for payroll expenses and any remaining profit not paid as salary will be taxed at the corporate level. It may or may not be distributed to shareholders as a dividend, at which point they’ll be taxed on the profit again at the individual level.

Need to Report and Pay Payroll Taxes? Start Here

If you’ve determined you should report and pay taxes on your employees, you’ll need to get familiar with the agencies to which payment will be required. Here’s a good place to start:

Types Payable To Withholding Rate (Employee Portion) Employer Portion
Federal Withholding IRS via quarterly Form 941 Dependent upon gross wages – See IRS Pub 15 None
Social Security Tax IRS via quarterly Form 941 6.2%; Maximum annual taxable earnings of $118,500 6.2%; Maximum annual taxable earnings of $118,500
Medicare Tax IRS via quarterly Form 941 1.45% of gross wages 1.45% of gross wages
Federal Unemployment (FUTA) IRS via annual Form 940 None 0.6% on the first $7,000 in gross wages
State Unemployment (FUTA) Varies by state Varies by state Varies by state

The reporting and deposit requirement frequency can change depending on gross wages paid. Social Security and Medicare taxes combined (also known as FICA taxes) and doubled is equal to the self-employment tax rate of 15.3%.

6.2% + 1.45% = 7.65% x 2 = 15.3%

The employer is responsible for withholding and paying the US taxes as directed by law. Choosing to have employees increases the company’s responsibilities considerably since there will be additional paychecks, reconciliations, withholding, reporting and payroll tax returns. There may also be additional state and local reporting requirements, like unemployment or disability insurance – which should be investigated at the state level.

What If I Work for a US-Based Company?

If you’re an expat living abroad, you’re probably aware that living and working abroad can have a huge effect on your US expatriate taxes. If you’re a US citizen and work for a US business, you’re still subject to US payroll tax withholding requirements, despite the fact you’re working abroad. However, if you meet the Physical Presence Test or Bona Fide Residence Test and qualify for the Foreign Earned Income Exclusion (FEIE), you may claim this exclusion against your income on your expatriate taxes. If you fall below the FEIE, you can file Form 673 with your employer to request exemption from Federal tax withholding on your wages. Note that if you’re self-employed, you cannot use the FEIE to offset self-employment taxes, regardless of if you work in the US or abroad.

Still Have Questions About How Expatriate Taxes are Affected by Payroll Tax Requirements?

Contact us today! Our team of expat-expert CPAs and IRS Enrolled Agents can help you understand the ins and outs of expatriate taxes that affect employers and employees abroad.

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