If you’re an American living abroad, it might be tempting to think that you have escaped the common rush stateside that comes with filing a federal tax return every April. However, contrary to popular belief, you are still obligated to file a US federal tax return even when you take up residence in a new country. In this post, we’ll explain why.
Citizenship-Based Taxation: Why Americans Living Abroad Still Pay US Taxes
It’s safe to say that the United States takes a relatively unique approach when it comes to taxing individual income.
For countries that do tax income – countries like Monaco and Qatar, for example, don’t tax income at all – there are two generally used systems: territorial-based and residence-based.
In a territorial-based taxation system, countries like Singapore and Lebanon tax individuals only on income from sources inside the country’s borders. Under residence-based taxation, countries like Germany and France tax their local residents on all income earned from both local and foreign sources. For non-residents in these countries, only income earned locally is taxed, similar to the territorial-based system.
While nearly all of the 244 sovereign territories employ territorial, residence or no income taxation at all, there are two countries, the US and Eritrea, that have citizenship-based taxation systems.
If you are an American living abroad, this means that as a US citizen, you must file a US federal tax return and pay US taxes no matter where you live. In other words, you are subject to the same rules regarding income taxation as people living stateside.
What This Means for your Federal Tax Return
In the US tax system, foreign income is taxed at the same marginal rate as any income earned inside the country.
This means that you as an American living abroad or Green Card holder will need to file a US federal tax return this year if your total income – regardless of where the income was earned (and in what currency) – exceeds any of the following minimum thresholds:
- For citizens filing as Single: $12,200
- For citizens filing as Married Filing Jointly: $24,400
- For citizens filing as Married Filing Separately: $5
- For citizens filing as Self-Employed: $400
Therefore, even if you have not lived in the US at any point during the year and have earned all of your income in a foreign territory, the IRS still expects you to file a tax return. Furthermore, you may also be required to file a state tax return depending on where you lived prior to moving abroad.
Avoiding Double Taxation on Foreign Income
One issue that arises in this tax system is that an individual could theoretically be doubly taxed on their income earned – both by their country of current residence and the US. This scenario is especially relevant for an American living abroad full-time who may qualify as a resident in other local tax systems.
To help avoid this negative consequence, the US tax code contains a provision called the foreign earned income exclusion (FEIE). Under the 2019 FEIE, expats are permitted to exclude $105,900 ($107,600 for 2020) of income earned abroad from their US tax obligation.
Another provision to help mitigate double taxation is the Foreign Tax Credit. In this case, Americans earning income internationally may reduce their US tax obligation beyond the limits of the FEIE if they have paid or accrued tax to a foreign government. What makes this provision complex, however, is that it applies to only certain types of income, and there are unique considerations related to each foreign country.
What Else is Required
When it comes to filing your US federal tax return, there are more items you’ll need to report in addition to your earned income. The IRS also requires that you disclose your foreign accounts and assets that cross a certain value threshold. Even your retirement contributions in foreign retirement accounts – which may seem tax-deferred – might be taxable!
Especially when it comes to filing US expat tax returns, it’s important that you’re aware of everything you are required to report in your filing.
Have Specific Questions Related to Your US Expat Tax Return?
We can help! Our dedicated team of CPAs and IRS Enrolled Agents have specific expat tax expertise to help Americans abroad navigate their US federal tax return in a way that makes sense for their individual situation – contact us today.