U.S. taxes are complex for all Americans abroad, but this is especially true for those who are civilian contractors, as complexity increases dramatically.
The first challenge is the limitation of foreign earned income exclusion test choices to Physical Presence only.
In general, the nature of contractor employment terms does not allow using the Bona Fide residence test. Therefore, civilian contractors working abroad must watch time spent in the U.S. for work or personal reasons to secure the ability to exclude up to $100K from taxable income.
The second challenge is living on employer provided premises, which preclude them from using the Foreign Housing exclusion. The third reason is the absence of Foreign Tax Credit (FTC) as they almost never pay tax in the country of foreign employment. The biggest and most expensive challenge is they always file a state tax return unless their home of record is in tax-free U.S. state.
Frequently Asked Questions
1. I am a contractor in a combat zone and can’t file taxes on time - what can I do?
- Civilian Contractors working in direct support of military operations in the combat zones designated by an Executive Order from the President http://www.irs.gov/uac/Combat-Zones qualify for extension of time to pay federal taxes for the period of his service in the combat zone, plus 180 days after his last day in the combat zone. If you have outstanding tax due (any tax due is owed by Apr 15; interest accrues from then on) - we can file for a penalty waiver to have this removed.
2. Can I still qualify for FEIE?
- Yes - you can certainly qualify for the Foreign Earned Income Exclusion (FEIE). The Physical Presence test is the preferred method for contractors. Depending on your state, we may also be able to exclude your earnings on the state level.
3. Do I have to file state taxes?
- Civilian contractors always file as full-year residents of the state that is indicated as home of record on W2.
4. I spent 3 months in the U.S. on the special training in preparation for my upcoming deployment. That was job-related presence in the U.S. Can I still qualify for the foreign earned income exclusion?
- You may be able to use partial foreign earned income exclusion if you had 12 consecutive months overlapping two years where you met the 330 days abroad requirement for the Physical Presence test. If consecutive 12 months period cannot be established then you will not be able to use the Foreign Earned Income exclusion.
5. My contract ended early because of job-related injury. I had to return to the U.S. after 10 months abroad to get treatment in a hospital. Can I claim partial foreign earned income exclusion based on the qualifying life event?
- The minimum time requirement can be waived if you must leave a foreign country because of war, civil unrest, or similar adverse conditions in that country. You must be able to show that you reasonably could have expected to meet the minimum time requirements if not for the adverse conditions. Unfortunately any other unexpected events including family or health related issues do not qualify for the time requirement waiver.
6. My wife and children live in the U.S. What filing status should I use for filing? If we file separately, can my wife claim who earns small salary claim the Earned Income Credit?
- You have the right to file jointly or separately. If you file separately your wife will not qualify for the Earned Income Credit because the MFS status does not allow Earned Income Credit. She cannot use the Head of Household status as long as you are officially married and not legally separated. Moreover, if your wife lives in a community property state like California, half of your income will be counted as her income. For the majority of taxpayers, the overall family economic benefit will be higher if they file jointly.