Filing your expat taxes usually means converting your foreign income into US dollars. To do that, you have to understand IRS foreign exchange rates. Here’s what you need to know.
Why Do IRS Foreign Exchange Rates Matter for Expat Taxes?
Every year, Americans living abroad are required to file a US Federal Tax Return reporting their worldwide income. In some cases, you may have to file additional forms as well, such as a FATCA or FBAR.
On all of these forms, you have to report your income and assets in US dollars (USD). That means converting the foreign currency you’re using to USD.
For example, if you live and work in Japan, you will likely be paid in Japanese yen. In order to report that income on your US tax return, you’ll need to convert it from yen to USD. And if you own Japanese assets above a certain threshold, you’ll also need to report their value in USD.
So how do you convert a foreign currency to USD? That’s where IRS foreign exchange rates come in.
What Is the IRS Foreign Exchange Rate?
The IRS has no official exchange rates. However, according to the IRS website, they generally accept “any posted exchange rate that is used consistently.” And when valuing a foreign currency that has multiple posted exchange rates, the IRS advises that you use whichever rate applies to your specific circumstances.
For example, if you’re reporting a single transaction from one day, such as the sale of a business, use the recorded exchange rate for that date. If you’re reporting income that you received evenly throughout the year, on the other hand, you’ll probably want to use the yearly average currency exchange rate for that tax year.
In this table, you can see a list of yearly average currency exchange rates for the previous five years.
How to Convert a Foreign Currency to US Dollars
Exchanging currencies may sound complicated, but it doesn’t have to be too much of a hassle. Here’s a quick rundown:
- To convert a foreign currency to USD, divide the foreign currency amount by the applicable foreign exchange rate.
- To convert USD to a foreign currency, multiply the USD amount by the applicable exchange rate.
Let’s take a look at an example.
In 2020, the yearly average currency exchange rate for converting the Mexican peso to USD was 21.466. So to convert pesos to USD for that year, you would simply divide the peso amount by 21.466. And to convert USD to pesos, you would multiply the US dollar amount by 21.466.
Thus, 1,000 pesos would have equaled roughly 46.59 USD (1,000 ÷ 21.466). In contrast, 1,000 USD would have equaled 21,466 pesos (1,000 x 21.466).
How to Convert a Foreign Asset to US Dollars
As an American living abroad, you may have to report the value of certain foreign assets in addition to any income you accrue. These foreign assets may include:
- Bank accounts
- Investment accounts
- Mutual funds
- Interest in a foreign entity
Once again, you’ll need to report these assets in the form of USD. Start by determining the maximum value of the asset during the calendar year in question—using the foreign currency of the country you’re living in. Then, convert that value to USD using the same formula we laid out above.
For example, let’s say you own interest in a foreign corporation in Denmark. You determine that during the calendar year of 2020, the maximum value for your interest was 10,000 Danish krone. Because the krone-to-USD yearly average currency exchange rate in 2020 was 6.538, this would mean that your interest was worth roughly 1,529.52 USD (10,000 ÷ 6.538).
That’s the amount you would report to the IRS.
Note: When reporting assets on a Report of Foreign Bank and Financial Interests (FBAR), you should calculate the maximum value of each foreign asset using the Bureau of the Fiscal Service’s Treasury Reporting Rates of Exchange if possible.
Get Expert Help with Your Expat Tax Return
Hopefully, this article has given you a better understanding of how to use IRS foreign exchange rates to report your income and assets to Uncle Sam. However, US tax law is nothing if not complicated—especially for Americans living abroad. If you still have questions, we can help.
At Greenback Expat Tax Services, we have years of experience helping expats around the world meet their US tax obligations, no matter how complex they may be. Just contact us, and we’ll be happy to answer all your questions.
Or, if you’re ready to get some expert assistance with meeting your tax obligations, click here to get started on your expat tax return today.