How To Avoid Major Tax Mistakes and To Prepare for the Coming Tax Season
Ines Zemelman, EAOct-01-2016
Make sure you are prepared for the upcoming tax season. Here are some need-to-know facts for optimized filing.
The new tax season is just around the corner, and you need as much information as you can get about what to do and what not to do when it comes to filing your US expat tax return. You can avoid some common mistakes when it’s time to file.
Even though filing a US expat tax return can be time consuming and often confusing, you still must file a tax return to remain in good standing with the IRS.
As a US Expat, you may not have any tax liability after considering the deductions and exclusions for which you qualify. In order to get these deductions and exclusions, though, you must file a US expat tax return. No matter what your tax liability is, you are still required to file a tax return every year to report your worldwide income – which includes capital gains, dividends, gambling winnings, income from partnership or trust, interest, rental income, retirement distributions, salary/wages, social security income, and any other income you receive from any source in the world.
If you have children who are earning any type of income, they are not exempt from being required to file a US income tax return claiming their worldwide earnings. If your child’s income meets the required tax filing thresholds, he/she will be required to file a tax return, and it’s your responsibility as a parent to see that the return is filed and filed correctly.
If you have more income than you can deduct by claiming the FEIE (Foreign Earned Income Exclusion), prepare for the Tax Season and take advantage of the FTC (Foreign Tax Credit) on any additional income.
With the FEIE, you are allowed to take up to $100,800 (2015) of your foreign earned income and exclude it from your taxable income in the United States. If you have more income than you can deduct using the FEIE, you can use the FTC to receive a credit against your US tax liability. With the FTC, you are able to take a dollar-for-dollar deduction for the foreign taxes you paid. If you have more credits than you have US taxes, you may carry the remainder over to the next tax year. Remember that you may not use the FTC on income that was deducted by the FEIE.
Make sure you make use of additional credits and deductions. Housing expenses, educator expenses, moving expenses. These are all tax-deductible expenses, and the best part - you do not have to itemize your deductions as those expenses can be deducted IN ADDITION to standard deductions allowed for your filing status.
Just because you’re living overseas doesn’t mean that you don’t have the same access to various credits and deductions available to those living in the United States. There are a wide variety of deductions that can help further reduce your US income tax liability or even result in a tax refund.
There is a difference between deductions and credits. A credit is a dollar-for-dollar reduction against your tax liability. A deduction is used to reduce your taxable income. When it comes down to it, a tax credit is more useful than a deduction on your US expat tax return.
Aside from the Foreign Tax Credit mentioned earlier, there are a few other credits of which you should be aware for preparing for tax season
- The Child Tax Credit and the Additional Child Tax Credit: You are allowed to take a credit of up to $1K per child. You may use this credit if you have dependent children under the age of 17 with US Social Security Numbers. This credit varies depending on filing status and income. You are not eligible to receive additional (refundable) child credit if you or your wife if you file jointly used FEIE - even if other spouse does not exclude his wages. However, regular child credit that can reduce your tax liability is allowed to expats who excluded their foreign earned income.
- The Child and Dependent Care Credit: If you have childcare expenses, you are eligible to receive a credit of up to $600 for each child.
- The Education Credit: If you or your dependent child attend a qualified higher learning institution, you are allowed to claim up to $10K in tax credits. A qualified institution is any facility that participates in the Federal Student Aid program and is able to furnish a form 1098-T – an indication of how much you spent on fees and tuition.
The deductions available to you can help to reduce your taxable income.
- The Housing Exclusion: You can use the Foreign Housing Exclusion to further reduce your taxable income after having claimed the FEIE. By using the Housing Exclusion, you can deduct expenses such as property taxes, rent, utilities (not including TV or Internet), home repairs, property insurance (either renters or homeowners). In order to deduct these benefits, you must have spent employer-provided funds whether the expenses were paid by your employer or your salary.
- Interest from student loans: If you paid interest on one or more student loans which were acquired to pay for a qualified institution, you may take a deduction of up to $2,500 per year. If you are filing as married filing a separate return, you are not eligible to take this deduction.
- Paid alimony: Certain court-ordered alimony payments to a former spouse are deductible.
- Moving expenses: If you had to move during the tax year following the change in of your place of work, you can deduct a wide range of moving expenses. These expenses include one month’s worth of storage fees, transporting your house, airline expenses, packing materials and boxes, and many more. If you claimed the FEIE, your available write off of moving expenses related to the foreign employment will be reduced.
- IRA contributions: If you make contributions to an IRA that is based in the US, you may exclude up to $5,500 on your US expat tax return.
- Property taxes and mortgage interest: The mortgage interest you pay on your home is tax-deductible. Additionally, any real estate taxes you pay are also deductible.
- Qualified charitable donations: If you donated to an IRS qualified charity at any time during the year, you may take a deduction for the amount you donated. Keep in mind that the charity to which you donate must be approved by the IRS as a qualified charity.
Make sure you file all required FATCA (Foreign Accounts Tax Compliance Act) forms! Failing to do so could result in stiff penalties.
If you are a US Expat, you are most likely familiar with FATCA. There are multiple forms that you may be required to file, depending on your filing status, your income, and the value of your foreign assets. One of these forms is the FBAR (Foreign Bank Accounts Report), which is now reported online only at FinCEN.gov. You are required to file an FBAR if the total combined value of your foreign financial accounts is over $10K – even if it only happened once during the year.
Another one of these forms is Form 8938. If you are not required to file a US expat tax return, then you are not required to file FATCA Form 8938. You are only required to file this form if the value of your foreign assets combined meets certain thresholds. Those thresholds are:
If you are living outside of the US…
- If you are single, head of household, or married filing a separate return, the threshold for your foreign assets is either $200K on December 31 or $300K at any point during the year.
- If you are filing as a married couple filing a joint return, the threshold for your foreign assets is either $400K on December 31 or $600K at any point during the year.
If you are living inside the US…
- If you are single, head of household, or married filing a separate return, the threshold for your foreign assets is either $50K on December 31 or $75K at any point during the year.
- If you are filing as a married couple filing a joint return, the threshold for your foreign assets is either $100K on December 31 or $150K at any point during the year.
FBAR and Form 8938 require much of the same information, and it’s important that both are filed correctly and completely.
Every single bank account you own should be reported. That includes signature authority partial ownership; if you own a joint account with another person (no matter whether it’s personal or professional), you should include that account in your report.
Both forms require basically the same information, so your recordkeeping should remain fairly easy. The main information you will be providing is:
- Your account number
- The highest balance reached (in each account) during the calendar year
- The name and address of your financial institution(s)
- The name and address of any other joint owner(s)
When it comes to minors, it’s the same as filing a US expat tax return: If your child has any accounts in his/her name, you are required to make sure their reports are up to date.
Remember that there are highly punitive fees for failure to meet your filing requirements. Penalties can be as high as $10K per account you failed to report. If the IRS or Financial Crimes Enforcement Network has to contact you, additional penalties will be assessed.
It’s very important that you choose the correct filing status.
The filing status you choose is what determines your eligibility for certain deduction, credits, and tax rates. Your filing requirements will also depend on your filing status. Here is a list of your available filing status options:
- Single: You are not legally married on the final day of the year and you don’t have any US Dependents. If you are filing as single, you will be subject to the highest tax rate and you will be offered the lowest standard deduction.
- Married Filing Jointly: Your income and your spouse’s income is combined on your US expat tax return. Both filing parties must have a valid Social Security Number or ITIN (Individual Taxpayer Identification Number). If you are filing as a married couple filing a joint return, you will be subject to the lowest tax rates and the highest standard deduction.
- Married Filing Separately: Your income and your spouse’s income are reported on two different tax returns. If you are a US Person and your spouse is not, then he/she is not required to file a tax return (unless certain other conditions apply). You will be subject to the same tax rate as a single taxpayer, and your standard deduction is also consistent with a filing status of single. If you are married to a nonresident who is considered a US Person, you will be required to either file Married Filing Jointly or Married Filing Separately.
- Head of Household: You are unmarried and you pay greater than half the support of a US Person who is a qualified dependent. This filing status is particularly unique for US Expats; a US Expat can be considered unmarried for the purpose of qualification to the Head of Household filing status if they are married to a nonresident who has no individual filing requirements in the United States.
Qualified Widow(er): If your spouse became deceased in the last three years and you have a US Child dependent, you may file as a qualified widow(er). The tax rates and standard deduction are consistent with the Married Filing Jointly status.