What US Citizens Living Abroad Need to Know About Taxes
Living abroad is an amazing experience, broadening our horizons and bringing us new perspectives on our lives and the wider world.
Amid the excitement of getting to know a new place though, it’s important not to neglect careful management of your finances though, including taxes. In fact, tax and wider financial planning should be integral to planning a move abroad.
This is partly to avoid unpleasant surprises, but also to ensure that you take advantage of the financial opportunities that living abroad can offer, such as tax breaks.
In this article, we’ll take a look at our five top tax tips for Americans living abroad.
Tax Tip #1: Understand U.S. Filing Rules for Expats
The U.S. has an unusual tax system, as it requires all Americans to report their worldwide income every year, regardless of whether they are U.S. residents or they live abroad.
In comparison, most other countries only tax either residents or income generated in that country.
This means that Americans living abroad have to file a U.S. tax return every year, reporting both their U.S. and international income. This remains true even if they’re filing or paying foreign taxes, or if they live in a country that has signed a tax treaty with the U.S. (read on to find out how to avoid double taxation).
When filing from abroad, Americans get additional time, as they may have to file foreign taxes first, in the form of an automatic filing extension until June 15. If they still need more time to file, they can request a further extension until October 15 by filing Form 4868.
Tax Tip #2: Catch up if You’re Behind
If you’re already living abroad, but you didn’t know that you had to file a U.S. tax return, to avoid penalties you should catch up voluntarily before the IRS writes to you about it.
In the past, the IRS was unlikely to know about your finances if you lived abroad, however, in the era of digital banking, Uncle Sam is receiving expats’ financial and personal information directly from foreign banks and governments.
There is an amnesty program for Americans abroad who didn’t previously know that they had to file that allows them to catch up voluntarily without facing any penalties, so long as they catch up before the IRS writes to them called the Streamlined Procedure.
Tax Tip #3: Reduce Your U.S. Tax Bill
Most Americans who file from abroad don’t end up owing any U.S. income tax, as when they file they can claim either the Foreign Tax Credit or the Foreign Earned Income Exclusion.
If you don’t file and claim one of these provisions though, you’ll still owe U.S. tax on your worldwide income.
The Foreign Tax Credit, claimed by filing IRS Form 1116, allows Americans to claim U.S. tax credits to the same value as foreign income taxes that they’ve paid. The Foreign Earned Income Exclusion meanwhile, claimed on IRS Form 2555, allows expats to simply exclude the first $107,600 (in 2020) of their earned income from U.S. taxation.
Tax Tip #4: Don’t Forget Other Reporting Requirements for Expats
Americans abroad may also have to report their foreign bank accounts, investments, and business interests.
FBAR (Foreign Bank Account Report) filing is the most common additional reporting obligation for expats. It is a requirement for any American who has over $10,000 in total in their foreign financial accounts at any time during a year. Foreign financial accounts include bank, investment, and individual pension accounts, as well as any joint accounts and business accounts they have signatory authority over.
Any foreign registered businesses that an expat owns or has a significant interest in must also be reported, and it’s worth noting that the rules for reporting foreign-registered corporations are different compared to those for corporations registered in the States.
Tax Tip #5: Don’t Forget State Taxes
Most states don’t require expats to file, however, the rules vary from state to state, and filing from abroad may be necessary for some expats.
Circumstances that trigger state tax filing from abroad include retaining property, dependents, financial accounts, or other significant ties in the state, or if an expat continues to spends long periods in the state during the year, or if they intend to return to live there again in the future.
Filing U.S. taxes from abroad involves filing extra forms and often additional reporting requirements and currency conversions, as well as an understanding of the overlap between two countries’ tax systems. As such, expats almost always benefit from seeking advice from a U.S. expats tax specialist firm to ensure they fulfill their obligations and realize their optimum outcome.
About the Author: Katelynn Minott is a Partner and Managing CPA at Bright!Tax (brighttax.com), an award-winning, leading provider of U.S. tax services for Americans living abroad.