If you are an American expat living abroad, you need to be aware of certain tax issues.
If you are a U.S. citizen living in another country, typically, your worldwide income will be subject to U.S. income tax, irrespective of where you choose to reside. You will be expected to abide by the same income tax return filing requirements that apply to U.S. citizens or residents living within the U.S. Having said that, it is also true that you will be eligible for several tax benefits if you fulfill certain requirements while living abroad.
Information Regarding Filing
The U.S. filing requirements for resident aliens and U.S. citizens living in foreign countries are generally similar to what is required of U.S. citizens living within the United States. Let us first look at some of the factors that determine if you must file U.S. federal income tax return:
- Gross income
- Filing status
- Can you be claimed as a dependent by another taxpayer?
In order to determine if you meet the gross income requirements for the purpose of filing, you will need to give all the details regarding the foreign income earned by you, along with the income earned in the U.S.
Exclusion of Foreign Earned Income
Foreign earned income is defined as income that is earned by you in another country. If you meet certain requirements, you will be able to avail foreign earned income exclusion along with foreign housing exclusions and foreign housing deductions. Typically, if you are a U.S. citizen or a resident alien of the United States, living abroad, you will be taxed on your worldwide income. However, the good news is that a certain amount of your foreign earned income can be excluded from tax using the foreign earned income exclusion. In accordance with inflation the limit of earnings has been adjusted ($91,500 for 2010, $92,900 for 2011). In order to earn this income exclusion, you must file with the IRS and submit all the appropriate forms for the foreign earned income exclusion. You may be able to save a limited amount of your foreign earned income from your total income.
You can also deduct or exclude the housing amount from your gross income. In order to claim these tax benefits, you will be required to file your appropriate tax return along with Form 2555, Foreign Earned Income. If you plan to claim only your foreign earned income, then you can fill a shorter form namely Form 2555-EZ, Foreign Earned Income Exclusion. After returning to the U.S., you may be able to claim tax credit or an itemized tax deduction of the foreign income taxes paid by you.
Expats and Self Employment Tax, U.S. Social Security Tax and Medicare
For expats who are offshore employees of a U.S. corporation, the company will usually withhold Social Security and Medicare taxes from the individual’s earnings. The U.S. has signed a Social Security Totalization Treaty with some countries. If you work for a U.S. employer in one such country, you can be a part of that respective country’s social insurance system. This way, Medicare and Social Security taxes will not be withheld from your U.S. pay.
If you are a bonafide employee of a foreign employer and if you have to abide by the foreign laws that govern the Social Security Tax of that respective country, then, you will not be required to pay U.S. Social Security Tax.
If you are self-employed (private contractor, freelancer, and so on) in addition to any income tax that you owe to the IRS, you may also need to pay a self-employment tax which covers Medicare and social security payments.
A U.S. income tax return must be filed by you if you earn $400 or more from net earnings from your self-employment. Net earnings will include both the income earned in the foreign country as well as the one earned within the U.S.
It should be noted that the US has tax treaties with 60 other nations. To determine if you need to pay income tax or other forms of tax to the IRS, you should definitely look at the tax treaty for the respective country that you are working / living in or plan to move to in the future.
Foreign Tax Credits
In many cases, you may be double taxed. Being double taxed would mean paying tax on the income earned in your host country, as well as in the U.S. There are many situations in which double taxation can occur. However, there are special foreign tax credits that can help offset double taxation in many circumstances. While these tax credits may be complicated to figure out, with a little research you may be able to save thousands of dollars that you would normally lose due to double taxation. Ensure that you consult a a professional tax advisor to guide you properly.
Expat Tax Consultant Firms
Tax issues are extremely complicated if you reside in the United States and only become more complicated once you work in another country. Be prepared to do research both with the IRS and in your new host country.
For many folks, it pays to work with specialist expat tax consulting firms. This can help to avoid (or survive) audits and can also help to structure income so as to legally owe the least possible amount of taxes.