10 Tips and Tricks to Deal with US Taxes
Don't let the IRS bog you down while you're living it up overseas! The last thing you want is to get stuck in a tangle of forms, penalties, and even threats of jail time. So, here are 10 of the common things that can trip you up as an expat, as well as the tips and tricks (and forms) to avoid them!
#1: Filing a Foreign Income Tax Exclusion.
The form you need: 2555
Tricks and traps: Guess what? Even if your foreign income is below the exclusion limit, you must still file a return! It is critical you do this on time if you want to claim that exclusion!
#2: Getting the most out of your Foreign Tax Credit.
The form you need: 1116
Tricks and traps: You can't take out a foreign tax credit if your foreign income wasn't taxed! But if not all of your income was excluded from foreign tax, you may be able to claim a partial credit on your U.S. Federal tax return using taxes you did pay on that non-excluded income you made abroad. Why only partial? Well, calculating the right amount of tax credit after income exclusion is the complex calculation that better be delegated to the professional. Form 1116 is one of the most error-prone individual tax forms; therefore, it is closely checked by the IRS.
#3: Foreign Housing Exclusion vs Foreign Tax Credit?
Tricks and traps: Unfortunately, you only get to pick one: foreign housing exclusion or foreign tax credit on the same amount of foreign income earned. Here's the breakdown for what each means.
1) Eligible housing cost = how much you paid on housing that year (up to 30% of foreign earned income exclusion)
- base housing cost (16% of the foreign income exclusion)
The excluded amount must be less than your overseas income for that tax year and less than the total cost of housing. Meanwhile, the deducted amount must also be less than the total cost of housing, as well as less than excluded foreign income minus your housing exclusion.
2) Foreign tax credit: once the foreign earned income exclusion is chosen, a foreign tax credit, or deduction for taxes, cannot be claimed on the income that was excluded. If a foreign tax credit or tax deduction is claimed for any of the foreign taxes on the excluded income, the foreign earned income exclusion may be considered revoked. If housing cost was not excluded, then the foreign tax credit can pretty much be claimed dollar for dollar for foreign taxes paid.
#4: Opening bank accounts abroad.
The form you need: treasury form TD.90-22.1
Tricks and traps: If you get a bank account overseas, you have to file with the Treasury Department if you want to open an account with $10,000 or more. And don't fall into the biggest trap of all-- Hiding money overseas is not a valid option to get out of paying taxes! This is fraud, which has no statue of limitations. Penalties and interest (not to mention jail time) can cost you much more than the original tax.
#5: How much should you really rely on the IRS?
The form you need: 2555, I mean... 2555-EZ... right
Tricks and traps: Don't rely exclusively on the IRS for help. On one hand, you have the IRS putting out Publication 54 (http://www.irs.gov/pub/irs-pdf/p54.pdf) to help guide you through Form 2555 and its cousin 2555EZ. On the other hand... wait, what? Sure the IRS site might be a useful resource, but it can't really give you all the details and instructions for your particular tax adventure. This goes double for the unusual situations you may find yourself in as an expat, so avoid leaning on the IRS as your only source of info.
#6: Using tax professionals not experienced in expat tax returns.
The form you need: If he can't tell you, run!
Tricks and traps: Still sticking with your local tax professional stateside? Don't. While breaking up is hard to do, it's critical that your tax professional understand the intricacies of the expatriate tax maze. Make sure your tax pro is familiar with the expatriate tax process before you both (although it will be mostly you) suffer.
#7: Not being able to find your tax documents.
The form you need: but I just had it! Where did it go???
Tricks and traps: What if the IRS decides to audit you? Do you know where your tax documents are? Can you access them? These can be much more difficult questions for an expat. One solutions is to back things up online. Expats especially should have worldwide access to secure, dependable online documents. For each year, catalogue key source documentation, completed returns, and any back and forth with the IRS. Keep documentation of your service abroad-- you never know when you just might need it.
What would be really neat is if you tax preparer had the ability to store your important tax documents for you, in a secure online storage area. Just saying...
#8: Taking into account State taxes.
The form you need: depends on the state.
Tricks and traps: You may not owe any U.S. Federal tax, but be careful that you don't still owe state tax. Some states don't comply with the U.S. foreign income tax exclusion! Double check you don't overlook any state taxes you might owe.
#9: Missing out on dependency exemptions.
The form you need: hint, it's not a social security number!
Tricks and traps: There are plenty of exemptions that expats don't always take advantage of! For example, even if you have a dependent without a social security number, you can still take out a dependency exemption.
#10: Going at it alone.
The form you need: don't know? Ask a pro.
Tricks and traps: Ok, like most expats, you're probably smart. Adventurous, even. But that doesn't mean you should dive into tax returns on your own. Tax laws are constantly changing, and unless you're constantly keeping track of the tax world, you may accidentally be using some outdated information, forms, whatever. Leave that stress to the tax professionals and let them help you make sure you're on top of things.
But besides your tax return, there are plenty of financial road bumps you can run into along the way. When you're navigating uncharted territory, don't be afraid to ask for help. Remember, professionals, other expats, and even sites like this are all there to support you. By reaching out, you can create a richer, more meaningful expat experience for yourself.
I.J. Zemelman, EA is the founder of Taxes for Expats