If you’re considering a move overseas, whether for a job or simply to explore the world, chances are, you aren’t making plans based on the tax year. You’re probably going to move when it best fits your schedule, which means there are some implications related to US taxes you should be aware of as an expat. There are certain tax benefits that apply to expats, which might be affected by the time of year you expatriate. Here are the details you need to know!
Expat Taxes and Your Move Overseas
As you probably know by now, the US taxes you on your worldwide income. This means you must report all income earned regardless of where you earned it – even if it was in a foreign country and even if that country also taxes you on the income earned while living there. Fortunately, though, there are some benefits available to expats that prevent being double taxed on all earned income.
One of these benefits is the Foreign Earned Income Exclusion (FEIE), and it allows you to exclude a portion of your foreign earned income from your US taxes. For the 2019 tax year, that exclusion is capped at $105,900. In order to qualify for the FEIE, you must meet one of two tests as a US taxpayer: the Physical Presence Test or the Bona Fide Residence Test.
Physical Presence Test
When first moving abroad, it is likely easier to qualify under the Physical Presence Test. This requires you to live abroad for at least 330 days out of a 365-day time frame. It does not have to be based on a calendar year, and can be any period leading up to the filing of your tax return. It’s important to note that the amount of foreign income you’re eligible to exclude will be prorated, based on the number of days in the calendar year you were physically present in a foreign country.
Bona Fide Residence Test
Once you’ve moved abroad and established a permanent residence for a full tax year, you may qualify for and use the Bona Fide Residence Test. You must have a ‘tax home’ in the foreign country, where you are permanently or indefinitely engaged in work for at least a year. If you retained a permanent residence in the US, you can’t be considered to have a ‘tax home’ in a foreign country, so it’s very important to consider all qualifications before attempting to use the Bona Fide Residence Test for the FEIE.
Impact on State Taxes
Whether or not you file state taxes as an expat depends on the individual state’s requirements. Generally, if you are required to file state taxes, you are only taxed on income earned in that particular state – not worldwide income. This means income excluded with the FEIE will also be excluded from state taxes. The year you expatriate, though, you may be required to file a Non-Resident or Part-Year Resident state tax return. Be sure to stay in tune with your state’s requirements so you can file if needed.
Using an Extension to Claim the FEIE
All expats living abroad on Tax Day (which was April 15th) receive an automatic two-month extension to file their US taxes. Expats also have the option to file Form 4868 to request an extension until October 15th. If you need more time to meet the Physical Presence Test after moving abroad from the US, you can also send a detailed request to the IRS for an additional two-month extension.
Note that the extension to file is not an extension to pay. If you owe taxes, they are still due on Tax Day and you will be required to pay interest on any amount owed not paid by this deadline. It’s best to estimate your tax liability even if you don’t file by Tax Day, so you are able to go ahead and pay what you expect to owe without incurring interest.
Example: How a Mid-Year Move Impacts US Taxes
Eli Expat and his wife Eliza, lifelong California residents, sold their house and moved to the Netherlands for his new job on May 31, 2019. Before the move, he worked for a company in the US making $5,000 per month. When they moved to the Netherlands and he started his new job overseas, he began making $6,000 per month. So, he will have earned $20,000 before moving abroad and $48,000 after the move.
Since they are now permanent residents abroad, he will qualify for an automatic extension of his US expat taxes until June 15, 2019. Waiting this length of time will allow him to claim a portion the Foreign Earned Income Exclusion on his 2019 US expat taxes as June 1, 2019 through May 31, 2019 is the time period for which he will qualify for the Physical Present Test.
But, since he was only physically present in The Netherlands for a portion of the 2019 tax year, the amount of foreign earned income he can exclude will be prorated on his 2019 US taxes. Therefore, he will be able to exclude the entire $48,000 that he earned while living abroad, but Eli will be required to pay Federal and state taxes on the $20,000 he earned before his move.
In 2018, Eli fulfilled his US taxes by filing Form 1040 and California Form 540 (for his Californian return). For his 2019 expat taxes, he will file Form 1040, but because he only lived in California for part of the year, he will now file Form 540NR for his non-resident California return. Because Eli sold his property and severed all ties to California before his move to the Netherlands in 2019, he will not need to file state taxes in California when filing his 2020 US expat taxes.
Have More Questions About Moving Abroad and the Effect on US Taxes?
Greenback can help! Our expat-expert CPAs and IRS Enrolled Agents are here to help you with all things expat tax-related. Contact us today and we can help make this your most hassle-free tax year yet!