24 Vital Things on American Expat Tax You Should Know
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This article is not formal tax, legal or any other kind of advice, and the facts might have changed since we first wrote it.
Table of Contents
Introduction
How does American expat tax work? Do they apply to every US citizen even those currently working on foreign soil? What are the tax filing requirements?
Many Americans share these same questions and perhaps are as confused as you are as the US tax system can be difficult to navigate and comprehend. American expat tax is also more complicated and perplexing due to the following reasons:
• Almost every American citizen must file a US Federal Tax Return wherever they reside or work.
• Nearly all Americans who live abroad must also file a foreign tax return in their country of residence.
• Most expats are mandated to file additional US tax forms, such as the Report of Foreign Bank and Financial Accounts (FBAR) and the Foreign Account Tax Compliance Act (FATCA). FBAR is used to inform the US Treasury of the taxpayer’s connection to the foreign account, bank or security, while FATCA mandates US citizens living at home or abroad to file annual reports on any foreign account holdings they own.
List of things to be mindful of for American expat tax filing:
1. First, do expats have to file US taxes?
The short answer is yes. Regardless of where they reside in the world, almost all US citizens are mandated to submit a US Federal Tax Return particularly if their international income go over the filing limit (depending on filing status).
That global income may include wages, interest, dividends, and rental income. Regardless of filing status, the filing threshold for self-employed people stands at $400.
Filing of American expat tax can still be required even if your income is within the limits for your filing threshold if, for instance, you receive certain tax credits or refunds.
2. Most American expats do not owe US taxes
The majority of American expats do not owe US taxes, despite the fact that almost all expatriates are required to file a US tax return. To prevent Americans living overseas from paying double taxes on the same income, the US has implemented a number of significant deductions, exclusions, and credits. Many foreigners can completely eliminate their US tax liabilities by utilizing these tax perks.
By fulfilling certain requirements, most expats can offset or erase their foreign earned income using the following benefits: foreign earned income exclusion, foreign tax credit, and foreign housing exclusion.
Do not pay double on your American expat tax. US taxpayers may be eligible to claim the foreign tax credit against income that has already been subject to taxation in their host nation.
To be qualified for the exclusions, you must be an official expat with foreign earned income, and you must file your tax return to demonstrate your eligibility.
3. You can trim or remove American expat tax through the foreign earned income exclusion
This is the most typical method to reduce or eliminate American expat tax liabilities. You might also be able to exclude certain housing expenses, including rent and utilities, using the foreign housing exclusion.
4. The exclusion of foreign earned income is not automatic
You must qualify to use the foreign earned income exclusion, which must be elected by filing Form 2555 or 2555-EZ.
Should you opt to use the foreign earned income exclusion, it remains in effect and you must continue to include it on your yearly tax return. Nevertheless, if you decide that you no longer want to use the exclusion, you will not be able to claim it for the next five tax years without securing the Internal Revenue Service’s (IRS) nod.
5. You can’t use the foreign earned income exclusion unless you pass a residency test
You must physically be present in a foreign country for 330 out of every 365-day period in order to pass the so called Physical Presence Test.
Meanwhile, under the Bona Fide Residence Test, you must have lived abroad for a minimum of one calendar year and have no immediate plan to move back to the US – so temporary contractors overseas as well as those on assignment will not be considered.
6. To make sure you are eligible to be an expat, you should keep careful account of your travel time
Count your trip days carefully if you hope to qualify via the Physical Presence Test. Any time you spend flying to or from the United States (or traveling by sea) will not be counted toward your 330-day physical presence requirement in a foreign nation. The real dates of your travel should be recorded.
Your American expat tax return might cost you thousands of dollars if you make a simple calculation mistake.
7. You can seek an extension if you need extra time to meet the requirements
Moving abroad in the latter part of the year causes many expats to be concerned that they won’t be able to take advantage of the foreign earned income exclusion and will lose out on significant tax advantages. You have until October 15 to ask for an extension if you anticipate meeting the requirements soon, or you can complete Form 2350 to extend your window even further.
8. The foreign tax credit is another way to trim your American expat tax
The foreign tax credit, which is a dollar-for-dollar credit on the taxes you pay to a foreign nation, might be able to assist you reduce or perhaps entirely get rid of your US tax obligation if you reside in a high-tax nation or if your income exceeds the foreign earned income exclusion.
To enjoy this perk, you must submit a form 1116.
Both the overseas tax credit and the foreign earned income exclusion are available to many taxpayers. Nevertheless, if the individual is also eligible for the child tax credit, choosing the international tax credit over the exclusion will frequently result in greater tax savings.
9. The foreign tax credit cannot offset excluded income in your American expat tax
You cannot claim the foreign tax credit on income that you want to exclude using the foreign earned income exclusion. The American expat tax can only be offset from the leftover from your income to avoid illicitly taking home the same pay while paying less in taxes, which is dubbed double-dipping.
You can carry over any unclaimed foreign income taxes for the next 10 years and even back to the prior year if you discover that you were unable to deduct all of the taxes you paid or accumulated in that country.
10. Treaties help block doubled American expat tax
The reduction or elimination of US taxes on certain forms of income for expats is how income tax treaties prevent double taxation for Americans who live abroad. The US has tax treaties with 69 countries in the present. To learn how they will be taxed, expats should check the treaty with their host country because tax benefits differ from country to country. Tax treaties may be intricate and challenging to grasp, just like any other legal instrument. Always seek the advice of an accountant if you’re unsure which regulations govern you.
11. Dependent children on your American expat tax return may help cut your taxes
For people who have US citizens or permanent residents as dependent children, the child tax credit can be quite helpful and even occasionally result in a refund. Each dependent child’s US Social Security number is required in order to be eligible for the credit.
Additionally, you might be eligible to claim the child and dependent care credit and use it to reduce your expenses for childcare. To use this credit, you must have a source of income. You will not be able to claim the childcare credit if you have used the foreign earned income exclusion to exclude all of your earned income.
12. Including children on your American expat tax return bears consequences in the long term
Children who are born abroad to parents who are not US citizens may be eligible to be recorded as a dependent on your US Federal Tax Return. Even though you may benefit financially from the child tax credit(s) you will receive, keep in mind that they are now considered US citizens and will always be subject to US taxes unless they decide to renounce their citizenship once they reach adulthood.
13. There is an automatic American expat tax filing extension
The deadline for submitting your annual taxes is automatically extended by two months if you are outside of the US during that period.
14. Some states mandate the filing of a state tax return while living overseas
Your plan of returning is a key factor in determining whether or not you need to file a state tax return as an expat. Whether you will be regarded as a resident and hence have to file depends on the specific laws that apply to your domicile and permanent place of residence that vary by state.
For instance, Massachusetts states that you “cannot change your domicile by taking a temporary or longer than expected absence from Massachusetts. You must not intend to return.”
Many US states continue to tax residents who relocate even though they have no intention of returning until they cut ties with the state involved. This process might be simple or challenging depending on the state as some states make it difficult to leave their tax jurisdiction.
For instance, a state may still tax you even if you live in another country if:
• They were the issuer of your current driver’s license or ID card
• Your spouse or child currently lives in their territory
• Your vehicle is registered there
• You are a registered voter in the state
• You own a bank account or property there
• You keep a mailing address in the state (even if you are using the address of a friend or relative)
States that are infamous for taxing former residents include California, New Mexico, South Carolina, and Virginia.
Take note that talking with a qualified tax professional will help you learn the regulations for your state.
15. You must file an FBAR if your foreign account balances go over the reporting limit
FinCEN Form 114, also known as the Foreign Bank Account Report (FBAR), is part of the US’ efforts to stop tax cheats who hide their money overseas. You must file an FBAR if the total balance(s) of all your foreign bank accounts top $10,000.
Pensions, investments, and accounts that you don’t own but have signing authority over may all be taken into account when analyzing your international bank accounts.
The FBAR is filed electronically through the Bank Secrecy Act (BSA) e-filing system. You must file an FBAR even if the account(s) hit $10,001 for only one day or even one minute. The FBAR is filed separately from your American expat tax return.
16. You may need to file FATCA form 8938
Foreign Account Tax Compliance Act, or FATCA, is similar to FBAR such that it also aims to hinder US taxpayers from stashing away money in offshore accounts and assets. Form 8938 must be submitted if the value of some financial assets exceeds the filing threshold, which varies depending on filing status and residency.
FATCA and FBAR filing requirements are independent but similar. You might need to submit FBAR, FATCA, both, or neither of these documents.
17. You can still get social security benefits when you retire overseas
You can collect your Social Security benefits in almost any country you choose to live in, so you don’t have to worry if you’re thinking about retiring abroad.
There are only a few nations where you normally cannot obtain Social Security benefits, such as Cuba, North Korea, Azerbaijan, Belarus, Kazakhstan, Kyrgyzstan, Moldova, Tajikistan, Turkmenistan, and Uzbekistan.
The good news is that if you move to a different country after living in one of these nations, you can still get any back payments that are owed to you.
Let’s say you moved to Moldova. While living in the European country, you would not be able to receive US Social Security payments. But if you moved to Costa Rica a few years later, you would be qualified to collect any Social Security benefits you were refused while you were still living in Moldova.
18. Your Social Security benefits may be taxable in the US
You must report your Social Security benefits as income on your American expat tax return. Some people’s benefits will be subject to taxation, while others won’t. Benefits are typically taxed if you have other sources of income. However, depending on where you reside, the US may not tax your Social Security benefits, such as when you’re in Israel, Ireland, Egypt, Germany, Canada, Romania, and the UK.
These territories have different laws. For further information, speak to an expert in expat taxes.
In addition, take note that even if your Social Security benefits are taxed, only 85% of the aggregate amount can be considered taxable income.
19. Totalization agreements determine which country you pay social security taxes to
There are 28 nations with whom the US has agreements that specify which nation should get your Social Security benefits. Generally speaking, the agreements permit you to use the credits you accumulate in one country to determine your benefits in another. This is crucial to understand because, in the absence of one, you might be required to contribute to two systems and only profit from one.
20. Income made in the US by expats is not automatically excluded from being taxed
The foreign earned income exclusion does not apply to income earned on US land, which means it cannot be exempted from American expat tax.
However, if you must pay taxes to another nation on that income, you might be eligible to use the Foreign Tax Credit as a dollar-for-dollar credit to offset the US taxes you must pay.
21. Rental income must be reported on your American expat tax return
You must report all foreign and domestic rental income to the Internal Revenue Service. Many property-related costs can reduce your need to pay expatriate taxes.
Improvements take a little longer to deduct than repairs to your property. How can you tell them apart? While renovations raise the property’s worth or extend its life, repairs simply return a property to its previous condition.
You should keep track of costs for both maintenance and renovations to your rental property, even though they differ from one another. After you sell your property, you can deduct repairs and upgrades from your expat taxes when determining whether you made a profit or a loss.
22. Renouncing citizenship will not help you circumvent US taxes
Expats who are fed up with filing US taxes may contemplate renouncing their citizenship. In order to do so, they must first demonstrate that they have been in compliance with US tax laws for at least five years prior to the date of renunciation.
Please be aware that if you decide to exercise this option, you might have to pay an exit tax based on your income and net worth. It’s the IRS’ strategy of preventing you from giving up your citizenship solely to avoid paying a tax debt.
23. You can amend a previous American expat tax return if you made a mistake
Mistakes do occur. You must file an amended return for that tax year using form 1040-X if you discover that you did not take all of the permitted deductions or that you did not disclose all of your income on your return.
The best course of action is to submit an adjustment before the IRS discovers the error because penalties are frequently reduced. Once the initial return is submitted, time begins to run out, and revised returns must typically be submitted before a specific deadline in order to be eligible for a credit or refund.
24. You can get caught up with your American expat tax and FBAR forms with no penalties
Many expats find out years after their relocation overseas that they must fulfill a filing requirement with the US all along. They can be reluctant to catch up on past-due returns out of fear of severe fines.
Thankfully, the IRS offers an amnesty program dubbed Streamlined Filing Compliance Procedures to assist foreigners in complying with the law without incurring any penalties.
To use the amnesty program you have to:
• Self-certify that your failure to file was an accident and not due to willful refusal
• File the last three delinquent income tax returns and settle any delinquent taxes you owed during that period, plus accrued interest
• File an FBAR for the last six years
Most of the time, this will put you in conformity with IRS rules. For expats who weren’t previously aware of their US tax filing responsibilities, it’s the ideal program. This is the ideal option for expats who were not previously aware of their need to file US taxes.
Americans living in the US can also use the Streamlined Filing Compliance Procedures.
Next steps to consider depending on your tax situation
1. File an American expat tax return every year
First, schedule a time each year to file your US Federal Tax Return. It is never a good idea to skip filing as it makes you susceptible to the danger of audits, severe fines, and additional IRS action. Find an expat tax accountant you can rely on and assign tax preparation to them if you are unclear how to handle filing on your own or don’t believe you have the time to do it correctly.
2. Establish a plan to meet all your filing requirements
Next, make a list of all the filing obligations you still must meet. A state tax return may be filed if necessary for you, or you may be required to file a tax return for your business. Common obligations include completing the FBAR to report foreign bank accounts.
3. Get caught up on your American expat tax ASAP
Make plans to catch up on any expat taxes you may be behind on as soon as possible.
File any overdue expat tax returns as soon as possible to get back on track if you’re only one or two years behind. You can catch up without paying penalties if you’re several years behind using the streamlined filing procedures.
4. Remain organized to make your taxes easier
While you may still find it difficult to gather your expat tax records each year, filing expat taxes becomes much simpler once you are aware of the rules.
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