Expat Tax Guide
Below we outline the U.S. tax laws that apply to Americans living abroad (expatriates). To learn about our tax services for expatriates please click on the following link: Tax Services for U.S. Expatriates
In this section:
- Expatriate Tax Law
- Income Earned Abroad
- Tax Home
- Travel Restrictions
- Exclusion of Foreign Earned Income
- Foreign Credits And Deductions
- Foreign Amount That You Can Exclude
- Foreign Housing Exclusion
- Housing Deduction
- Foreign Housing Carryover
- Foreign Tax Credit
- Foreign Tax Limit
- Foreign Tax Deduction
- Self-Employed Persons Abroad
- Estimated Taxes While Abroad
- U.S. Withholding Tax
- Filing Extensions While Abroad
- Foreign Bank and Financial Accounts
- Tax Agreements for Expatriates
- Statute of Limitations
- Forms Which Must be Filed With IRS to Avoid Severe Penalties
- Taxes on World Wide Income
- Due Date of Tax Return
- Avoiding U.S. State Taxes
- What About Returns Which Were not Filed for Years You Lived Abroad?
- Offers in Compromises and Payment Plans
Expatriate Tax LawAs a U.S. citizen or resident alien residing abroad (U.S. Expatriate or Expat), you must still file a US Income Tax Return each year on your worldwide income. The U.S. government is very strict about it. There are a number of "carrots and sticks" put in place by the IRS that make filing U.S. taxes for American expatriates essential.
First we will briefly touch on the "carrots". There are several income tax benefits that usually apply to most expatriates who meet certain requirements while living abroad. You may be able to exclude from your income a fixed amount of your foreign earned income (this is called the Foreign Earned Income Exclusion). You may also be able to either exclude or deduct from gross income your housing spending (covered further below). However, to claim these benefits you must file a tax return and elect the exclusion. You may also be able to claim a tax credit or an itemized deduction for the foreign income taxes that you pay. Also, under tax treaties or conventions that the United States has with many foreign countries, you may be able to reduce your foreign tax liability.
On the side of the "sticks" it is against the law to give up your U.S. citizenship in order to avoid U.S. taxes! Therefore, if you aren't filing your U.S. tax return, the statute of limitations on tax collections will not run out and your tax return obligation (and perhaps the taxes you owe) only grows greater as each year passes. We elaborate further on this in the IRS Fees and Penalties section of the guide.
Income Earned AbroadThe biggest benefit available to American expatriates is the Foreign Earned Income Exclusion of up to $91,500 ($91,400 for 2009 and $87,600 for 2008) in income earned while working abroad. Your tax home has to be outside the US. Each spouse is entitled to this exclusion. However, one spouse cannot utilize the other spouse's unused exclusion. How to qualify: you need to have moved your tax home outside the US, and then check if you qualify under the bona fide residence test or the physical presence test. Contact us if you need further details.
Most importantly, you must file a tax return to claim the exclusion. In general, foreign earned income is income received from services you perform outside of the United States. When we use the term United States, that includes, Puerto Rico, Northern Marina Islands, Republic of the Marshall Islands, Federated States of Micronesia, Guam and American Soma. While not all of these governments are part of the United States, they have special tax status. Excluded from gross earned income is your allowance housing costs that are over a certain base amount. Generally, you will qualify for these benefits if your tax home (defined below) is in a foreign country, or countries, throughout your period of bona-fide foreign residence or physical presence and you are one of the following:
1) A U.S. citizen who is a bona-fide resident of a foreign country or countries for an uninterrupted period that includes a complete tax year, or
2) A U.S. resident alien who is a citizen or national of a country with which the United States has an income tax treaty in effect and who is a bona-fide resident of a foreign country or countries for an uninterrupted period that includes an entire tax year, or
3) A U.S. citizen or a U.S. resident alien who is physically present in a foreign country or countries for at least 330 full days during any period of 12 consecutive months.
Tax HomeGenerally, your tax home is the area of your main place of business, employment, or post of duty where you are permanently or indefinitely engaged to work. You are not considered to have a tax home in a foreign country for any period during which your abode (the place where you regularly live) is in the United States. However, being temporarily present in the United States or maintaining a dwelling there does not necessarily mean that your abode is in the United States.
A foreign country, for this purpose, means any territory under the sovereignty of a government other than that of the United States, including territorial waters (determined under U.S. laws) and air space. A foreign country also includes the seabed and subsoil of those submarine areas adjacent to the territorial waters of the foreign country and over which it has exclusive rights under international law to explore and exploit natural resources.
Waiver of time requirements. You may not have to meet the minimum time requirements for bona-fide residence or physical presence if you have to leave the foreign country because war, civil unrest, or similar adverse conditions in the country prevented you from conducting normal business. You must, however, be able to show that you reasonably could have expected to meet the minimum time requirements if the adverse conditions had not occurred.
If you violate U.S. travel restrictions, you will not be treated as being a bona-fide resident of, or physically present in, a foreign country for any day during which you are present in a country in violation of the restrictions. (These restrictions generally prohibit U.S. citizens and residents from engaging in transactions related to travel to, from, or within certain countries.) Also, income that you earn from sources within such a country for services performed during a period of travel restrictions does not qualify as foreign earned income, and housing expenses that you incur within that country (or outside that country for housing your spouse or dependents) while you are present in that country in violation of travel restrictions cannot be included in figuring your foreign housing amount.
Currently, these travel restrictions apply to Cuba, Libya, and Iraq.
Exclusion of Foreign Earned Income
If your tax home is in a foreign country and you meet either the bona fide residence test or the physical presence test, you can choose to exclude from gross income a limited amount of your foreign earned income. Your income must be for services performed in a foreign country during your period of foreign residence or presence, whichever applies. You cannot, however, exclude the pay you receive as an employee of the U.S. Government or its agencies. You cannot exclude pay you receive for services abroad for Armed Forces exchanges, officers' mess, exchange services, etc., operated by the U.S. Army, Navy, or Air Force.
Foreign Credits And Deductions
If you claim the exclusion, you cannot claim any credits or deductions that are related to the excluded income. You cannot claim a foreign tax credit or deduction for any foreign income tax paid on the excluded income. Nor can you claim the earned income credit if you claim the exclusion. Also, for IRA purposes, the excluded income is not considered compensation and, for figuring deductible contributions when you are covered by an employer retirement plan, is included in your modified adjusted gross income.
Foreign Amount That You Can ExcludeIf your tax home is in a foreign country and you qualify under either the bona fide residence test or physical presence test for all of the calendar year, you can exclude your foreign income earned during the year up to $91,500. However, if you qualify under either test for only part of the year, you must reduce the $91,400 maximum based on the number of days within the tax year you qualified under one of the two tests.
Foreign Housing Exclusion
If your tax home is in a foreign country and you meet either the bona fide residence test or the physical presence test, you may be able to claim an exclusion or a deduction from gross income for a housing amount paid to you. Housing amount is the excess, if any, of your allowable housing expenses for the tax year over a base amount. Allowable housing expenses are the reasonable expenses (such as rent, utilities other than telephone charges, and real and personal property insurance) paid or incurred during the tax year by you, or on your behalf, for your foreign housing and that of your spouse and dependents if they lived with you. You can include the rental value of housing provided by your employer in return for your services. You can also include the allowable housing expenses of a second foreign household for your spouse and dependents if they did not live with you because of dangerous, unhealthy, or otherwise adverse living conditions at your tax home. Housing expenses, for this purpose, do not include the cost of home purchase or other capital items, wages of domestic servants, or deductible interest and taxes.
The base amount for 2010 is $14,640, or $40.11 per day. To figure your base amount if you are a calendar year taxpayer, multiply $40.11 by the number of days in your period of foreign residence or presence, whichever applies, that are within the tax year. Please note that beginning in 2006 the maximum foreign housing exclusion can vary depending on the country and city in which you establish your tax residency.
You may exclude your housing amount from income to the extent it is from employer-provided amounts. Employer-provided amounts are any amounts paid to or for you by your employer, including your salary, housing reimbursements, and the fair market value of pay given in the form of goods and services.
If you claim the exclusion, you cannot claim any credits or deductions related to excluded income, including a credit or deduction for any foreign income tax paid on the excluded income.
If you are self-employed and your housing amount is not provided by or for an employer, you can deduct it in arriving at your adjusted gross income. However, the deduction is limited to the amount your foreign earned income for the tax year is more than the excluded foreign earned income and housing amount.
Foreign Housing CarryoverIf you cannot deduct all of your housing amount in a tax year because of the limit, you can carry over the unused part to the next year. You can deduct this carryover to the extent of the limit for that year (your foreign earned income minus the foreign earned income and housing amount you exclude) is more than your housing deduction for that year. You cannot carry over any remaining amount to any future tax year.
Choosing the exclusion(s). You make separate choices to exclude foreign earned income and/or to exclude or deduct your foreign housing amount. If you choose to take both the foreign housing exclusion and the foreign earned income exclusion, you must figure your foreign housing exclusion first. Your foreign earned income exclusion is then limited to the smaller of (a) your annual exclusion limit or (b) the excess of your foreign earned income over your foreign housing exclusion.
Once you choose to exclude your foreign earned income or housing amount, that choice remains in effect for that year and all future years unless you revoke it. You can revoke your choice for any tax year. However, if you revoke your choice for a tax year, you cannot claim the exclusion again for your next 5 tax years without the approval of the IRS.
Exclusion of employer-provided meals and lodging. If as a condition of employment you are required to live in a camp in a foreign country that is provided by or for your employer, you can exclude the value of any meals and lodging furnished to you, your spouse, and your dependents. For this exclusion, a camp is lodging that is:
1) Provided for your employer's convenience because the place where you work is in a remote area where satisfactory housing is not available to you on the open market within a reasonable commuting distance,
2) Located as close as practicable in the area where you work, and
3) Provided in a common area or enclave that is not available to the public for lodging or accommodations and that normally houses at least 10 employees.
Topics for: home leave, children's education, moving expenses, supplementary medical payment are still under construction.
Foreign Income Taxes
A limited amount of the foreign income tax you pay can be credited against your U.S. tax liability or deducted in figuring taxable income on your U.S. income tax return. It is usually to your advantage to claim a credit for foreign taxes rather than to deduct them. A credit reduces your U.S. tax liability, and any excess may be carried back and carried forward to other years. A deduction only reduces your taxable income and may be taken only in the current year. You must treat all foreign income taxes in the same way. You generally cannot deduct some foreign income taxes and take a credit for others.
Foreign Tax CreditIf you choose to credit foreign taxes against your tax liability, complete Form 1116, Foreign Tax Credit, (Individual, Estate, Trust, or Nonresident Alien Individual), and attach it to your U.S. income tax return.
Foreign Tax LimitYour credit cannot be more than the part of your U.S. income tax liability allocable to your taxable income from sources outside the United States. So, if you have no U.S. income tax liability, or if all your foreign income is exempt from U.S. tax, you will not be able to claim a foreign tax credit.
If the foreign taxes you paid or incurred during the year exceed the limit on your credit for the current year, you can carry back the unused foreign taxes as credits to 2 prior tax years and then carry forward any remaining unused foreign taxes to 5 later tax years.
Foreign taxes paid on excluded income. You cannot claim a credit for foreign taxes paid on amounts excluded from gross income under the foreign earned income exclusion or the housing amount exclusion, discussed earlier.
Foreign Tax DeductionIf you choose to deduct all foreign income taxes on your U.S. income tax return, itemize the deduction on Schedule A (Form 1040). You cannot deduct foreign taxes paid on income you exclude from your U.S. income tax return.
Self-Employed Persons AbroadYou must file a U.S. income tax return if you had $400 or more of net earnings from self-employment, regardless of your age. You must pay self-employment tax on your self-employment income even if it is excludable as foreign earned income in figuring your income tax. Net earnings from self-employment include the income earned both in a foreign country and in the United States.
Estimated Taxes While AbroadIf you are working abroad for a foreign employer, you may have to pay estimated tax, since not all foreign employers withhold U.S. tax from your wages.
Your estimated tax is the total of your estimated income tax and self-employment tax for the year minus your expected withholding for the year.
When you estimate your gross income, do not include the income that you expect to exclude. You may subtract from income your estimated housing deduction in figuring your estimated tax liability. However, if the actual exclusion or deduction is less than you expected, you may be subject to a penalty on the underpayment.
Use Form 1040 ES, Estimated Tax for Individuals, to estimate your tax. The requirements for filing and paying estimated tax are generally the same as those you would follow if you were in the United States.
When to file. If your tax year is the calendar year, the due date for filing your income tax return is usually April 15 of the following year.
U.S. Withholding TaxYou may be able to have your employer discontinue withholding income tax from all or a part of your wages. You can do this if you expect to qualify for the income exclusions under either the bona fide residence test or the physical presence test.
Withholding from pension payments. U.S. payers of benefits from employer deferred compensation plans (such as employer pension, annuity, or profit-sharing plans), individual retirement plans, and commercial annuities generally must withhold income tax from the payments or distributions. Withholding will not apply only if you choose exemption from withholding. You cannot choose exemption unless you provide the payer of the benefits with a correct taxpayer identification number and a residence address in the United States or a U.S. possession or unless you certify to the payer that you are not a U.S. citizen or resident alien or someone who left the United States to avoid tax.
Filing Extensions While AbroadIf you are a U.S. citizen or resident and both your tax home and your abode are outside the United States and Puerto Rico on the regular due date of your return, you are automatically granted an extension usually to June 15 to file your return and pay any tax due. You do not have to file a special form to receive this extension. You must, however, attach a statement to your tax return when you file it showing that you are eligible for this automatic extension.
It may benefit you to file for an additional extension of time to file. You may benefit if, on the due date for filing, you have not yet met either the bona fide residence test or the physical presence test, but you expect to qualify after the automatic extension discussed above and have no tax liability. To file for an additional extension, send Form 2350, Application for Extension of Time To File U.S. Individual Income Tax Return, to the Internal Revenue Service Center in Philadelphia or to your local IRS representative. Send the form after the close of your tax year but before the end of the first extension. If an extension is granted, it will be to a date after you expect to meet the time requirements for the bona fide residence or physical presence test. You must attach the approved Form 2350 to your income tax return when you file it.
Foreign Bank and Financial AccountsIf you had any financial interest in, or signature or other authority over, a bank account, securities account, or other financial account in a foreign country at any time during the tax year, you may have to complete Treasury Department Form TD 90-22.1, Report of Foreign Bank and Financial Accounts, and file it with the Department of the Treasury, P.O. Box 32621, Detroit, MI 48232. You must file this form no matter where you live. You need not file this form if the combined assets in the account(s) are $10,000 or less during the entire year, or if the assets are with a U.S. military banking facility operated by a U.S. financial institution.
Tax Agreements for ExpatriatesThere are a number of tax agreements that may affect the taxes of an expatriate. Some of these are host country specific. Always check the country you live in to check tax status.
Tax Treaty Benefits
U.S. tax treaties or conventions with many foreign countries entitle U.S. residents to certain credits, deductions, exemptions and reduced foreign tax rates. This is a way to pay less tax to those host countries. For example, most tax treaties allow U.S. residents to exempt part or all of their income for personal services from the treaty (host) country's income tax if they are in the treaty country for a limited number of days. In January and February of 1998 new treaties become effective with, South Africa, Thailand, Canada, Ireland, Switzerland, Austria and Turkey. You will have to check with the local Consulate for the text or other information.
Social Security Totalization Agreements
Those countries have agreements to eliminate duplication of U.S. Social Security and social insurance program of the host country:
Austria, Belgium, Canada, Finland, France, Germany, F.R., Greece, Ireland, Italy, Luxembourg, Netherlands, Norway, Portugal, Spain, Sweden, Switzerland, United Kingdom. If the country you are living in is not listed, send some e-mail to members of congress. The wise use of these agreements saves employers money and strengthens the benefits of employees.
Information Exchange Agreements
These countries have information sharing agreements with the United States:
Barbados, Bermuda, Colombia, Costa Rica, Dominican, Dominican Republic, Grenada, Guyana, Honduras, Jamaica, Marshall Islands, Mexico, Peru, St. Lucia, Trinidad and Tobago.
US Tax Treaties with over 42 Countries
The US has income tax treaties with over 42 other countries. Now, both the IRS and the foreign taxing authorities can exchange information on their citizens living in the other country. Both the Internal Revenue Service and taxing authorities in foreign countries use these treaties regularly to exchange information on their residents living in the other's country. The IRS usually has several agents attached to the U.S. Embassy in each country to assist U.S. Citizens and to search out and report to the IRS citizens who may not be filing their U.S. tax returns.
A Tax Treaty is quite complex, but includes many special provisions which can benefit an American living and working outside of the US. It attempts to reduce or eliminate any double taxation of your income by both countries by allowing credits for foreign income taxes you pay while living outside the U.S. against your U.S. income taxes. This credit more often than not will totally offset any U.S. tax you might owe on your worldwide income in the U.S. The credit is not automatic, you must file a US return to claim it.
Statute of Limitations
If you fail to file that return for any tax year (whether a return is required or not), the statute of limitations on tax assessments for that year will never run out. Therefore, if you live abroad for 10 years, and then return to the United States, the IRS may question your failure to file returns for those ten years and later can make assessments based on their best estimate of your income. The interest and penalties on any old tax amounts owed grows faster than you can imagine and after 4-5 years may exceed the amount of the original taxes owed.
If you do file your tax return each tax year while living abroad, the statute of limitations in most situations for IRS audits will expire three years after you file those returns. That means the IRS cannot go back (absent fraud) and try to audit or change those returns later. Therefore, you should file your return even if you have no income or don't owe taxes in order to force the statute of limitations to run and eliminate future problems when you decide to return to the U.S.
Forms Which Must be Filed With IRS to Avoid Severe PenaltiesIf you own more than a 10% ownership interest in a foreign corporation you are required to file a special form with the IRS reporting that interest. In many cases, if that foreign corporation is making profits, it will be a "controlled foreign corporation" and you may also owe U.S. tax on its earnings. If you are the beneficiary or trustee of a foreign trust you must file a special form with the IRS. Another a special form must be filed with the U.S. Treasury if you have ownership or signature authority over a Mexican bank account which anytime during the year has a balance of more than $10,000 US or more. If you fail to file any of these forms as required by law, you will be subject to penalties up to $10,000 or more. These penalties might be assessed many years from now when the U.S. IRS and the Mexican Hacienda finally start sharing information on a regular basis. If you do not file these forms when required, it will be very difficult to later avoid those penalties.
Taxes on World Wide IncomeU.S. Permanent Residents (green card holders) as well as U.S. Citizens must report each year their income earned anywhere in the world. That means your U.S. income tax return must include:
- Foreign dividends
- Rental Income Earned Abroad
- Foreign pension income
- Foreign capital gains or losses on stocks, bonds, real estate
- Foreign royalties
- All other foreign income
Due Date of Tax ReturnIf you have your personal permanent residence abroad on April 15th of any year, you get an automatic extension to file your tax return for the previous calendar year until June 15th. If you need more time, you can file several further extension requests which can extend the due date of your tax return until October 15th using Form 4868. If you owe taxes, and fail to pay the estimated taxes in by April 15th, you will be subject to interest and penalties for that underpayment. However, those penalties are not as severe as those imposed for failing to file your tax return in a timely manner. It is therefore wise to always file an extension if you are going to file your return later than April 15th, even though you do not have the money to pay your estimated taxes at that time because that eliminates the larger late filing penalty which is 5% per month.
Avoiding U.S. State TaxesDo not assume just because you moved out of the U.S. that your previous state of residence has no claim on taxing your income. Many states such as California, Virginia, New Mexico and South Carolina make it very difficult to give up your "tax domicile" in the state and require that you file state income tax returns (and pay the tax) even if you do not move back until many years later. Some of the criteria that a state looks at to determine if you are a resident for state income tax purposes includes your driver license, if you register to vote there, if you maintain an address there, the location of your bank accounts, if you own or rent real property there, the license plates on your cars, and if you still receive utility bills in that state. There are many other factors used by state taxing agencies to determine if you are a resident, but they are too numerous to mention here. You must be careful to reduce or eliminate all indices of residency or your previous state of residency in the U.S. will come after you for state income taxes. You must carefully plan your departure from your previous home state by reviewing your states tax residency laws and taking the actual steps necessary to prove to that state you no longer have a "tax domicile" there after you move abroad. If you do not, the taxes, penalties and interest later assessed by that state can be huge.
You do have to continue to pay taxes in a state if you receive rental income there or receive income from a trade or business located there, even if you are no longer a resident. Investment income from stock sales, dividends, and interest are not subject to state tax unless you still have your tax domicile in there. Generally you can only give up your tax domicile if you establish full time permanent residency abroad or in another state without any intent to return to your previous state. The rules defining "tax domicile" vary significantly in the various states and should be reviewed. Pensions are no longer taxable in the state in which you earned the pension if you permanently leave that state and established a tax domicile abroad or in another state.
What About Returns Which Were not Filed for Years You Lived Abroad?Though not required to by law, the IRS currently allows an expatriate to file past tax returns which were erroneously not previously filed and claim the foreign earned income exclusion and foreign tax credits as if the returns had been filed on a timely basis. That usually means most delinquent expatriates who file past returns owe little taxes or interest after claiming those benefits. It can easily be determined if returns are owed for past years by ordering a transcript from the IRS. This can be done by a tax professional without triggering any inquiry from the IRS concerning the taxpayer. However if certain foreign reporting forms for foreign corporations, foreign partnerships, investment companies, foreign trusts, foreign financial and bank accounts, and foreign partnerships, LLCS, or investment companies are not filed in a timely manner the IRS may collect substantial penalties (often $10,000 or more) for not filing these forms unless the taxpayer can provide the IRS with a reasonable excuse for their previous failure to file. The IRS has not clearly defined what they will accept as a reasonable excuse.
Offers in Compromises and Payment PlansIf one of the reasons you are living abroad is that you owe the IRS or state taxing agencies Offer in Compromise programs which may allow you to settle the balance owed for pennies on the dollar. When you do owe back taxes, the amount owed increases at a fast pace due to interest and penalties and therefore can get very large compared with the original amount of tax owed. In order to make an offer in compromise you must file returns for all of your past tax years
Many delinquent taxpayers have through the use of an offer in compromise settled with payments of anywhere from 10% to 50% of the total amount owed. The IRS statistics show that in the past year only 15 percent of the Offers in Compromise have been accepted and that the average compromise was 20 percent of the total amount due. The entire process usually takes three to six months and requires filing financial information with the IRS and the required forms. You can make an offer which allows you to pay off the amount agreed over a period of time. The IRS has tightened up the procedures so less than 20% of applications for offers in compromise are accepted. If you have assets or potential for future income large enough to pay off the tax debt it is doubtful that your offer in compromise will be accepted.
- If you had federal tax withheld while working overseas you may be able to claim a refund
- You can also claim a credit for foreign taxes paid
- Expatriation: If you decide to give up your green card or US citizenship, you have strict rules to comply with. You need to request a ruling from the IRS
- Spouse is a Non-Resident Alien: You could still file married filing joint. Contact for further details
- We have an enrolled agent on our staff. Please contact us for any questions you may have
- You may be able to claim a refund! Have you had US federal or state tax withheld on your US W-2 while working overseas? It may be possible to claim a refund if you qualify for the foreign earned income exclusion.
- Do you have Excess Foreign Tax Credit on your US tax return? You may be able to 'carry back' the excess credit and claim a refund. Many expatriates have this excess foreign tax credit the year they return to the US. You should keep a track of this, it could be valuable. Contact me and I can see if this applies to you.