Simple Guide To American Expatriate Tax Obligations
The moral of the story: Always file your tax return
As an American expatriate, you are required to file your federal tax returns yearly, just like a U.S. citizen or resident who doesn't live abroad. It's not just your U.S. income that determines your tax rates, but your total income from any country. In other words, your foreign income counts. On the plus side, you're entitled to a bunch of expatriate tax benefits: foreign tax credits, foreign earned income exclusion, and housing allowances to name a few. If you're careful, you can also score some bonus points with a couple of the less apparent benefits, which we'll outline below. Remember, you must file your Federal tax return to get these exclusions!
How do I qualify for the Foreign Earned Income Exclusion then?
To take advantage of the Foreign Earned Income Exclusion (Form 2555 and Form 2555-EZ), all you have to do is
- Live in another country
- File your taxes there. Additionally, if you and your spouse both qualify, you may be able to file jointly.
What income can you claim? For these purposes, the income we're talking about is just what you make from services rendered. In other words, income from any interest, dividend, or rental income doesn't count. In 2014, American expatriates are able to claim up to $99,200 as U.S. tax exempt income through tax exclusions.
Ok, now what counts as foreign? As far as the IRS is concerned, it's anything aside from the 50 American States and any of its controlled territories: American Samoa, Micronesia, Guam, Northern Marina Islands, Puerto Rico, or Republic of Marshall Islands.
That's all you need to know about the where. Now, to qualify for the 2555-Forms, here's what you need to know about the when. You must:
- Live in another country, consecutively, for at least a whole tax year OR live there for a minimum of 330 full days over 12 months in a row.
What about these Foreign Tax Credits?
Guess what? If you paid foreign taxes on your income, you don't have to pay U.S. income taxes on the same income! To take advantage of this, file the Foreign Tax Credit Form (Form 1116). (If you're a corporation, use Form 1118 instead.) Any income tax you still owe to the U.S. (if any), will be substantially reduced, because you can subtract taxes you paid abroad!
Taxes paid in most countries of the world qualify for the foreign tax credit - regardless of whether the country has a Tax Treaty with the U.S. or not.
There is only one exception - Taxes Imposed By Sanctioned Countries (Section 901(j) Income)
The following countries meet this description:
- North Korea
Income taxes paid or accrued to these countries in 2014 do not qualify for the credit.
Self-Employed? Here's what you need to know about Social Security & Medicare:
If you're self-employed and working abroad, you're still typically subject to foreign income tax. Since you still have to pay all Federal taxes, you will have to pay the self-employment tax. File your Schedule SE and Schedule C, same as you would at home. (Note the SE rate is approximately 15.3% of the income you claim for Schedule C and it is not reduced by foreign income credits.)
On the plus side, Social Security Totalization Agreement existing between the U.S. and many other countries allows you to benefit from a participating country's social insurance system. You may have to pay their Social Security tax, but you won't have to pay U.S. Soc Sec. tax, thus there will be no income incident to double taxation.
Timing is everything
If you can show evidence of your foreign-based income, you will probably qualify for an automatic extension, meaning your return is due by June 15, not April 15. Citizens or residents who are serving in a military capacity abroad may also qualify.
For even more time, you can file for another extension and your returns won't be due until October 15. However, be aware that this extension doesn’t simply mean you get more time until you pay! If you owe taxes, interest accrues from April 15, even if you have extended your ability to file without penalty through October. We recommend that a draft of your return be prepared with estimated figures and a determination can be made if you should submit payment with your extension request.
Taxes will continue to accrue during these extra months, and they may be hit with additional interest or penalties. Form 2210 gives you some options to possibly reduce these penalties.
I.J. Zemelman, EA is the founder of Taxes for Expats