Income tax reporting for expatriates
Perhaps you’ve been offered a position abroad, or you’re an entrepreneur looking for new global markets to expand your business. Once you are living abroad, you will still need to file your U.S. taxes and report your foreign income.
As a U.S. citizen or ‘green card holder’, your worldwide income generally is subject to U.S. income tax regardless of where you are living, and you are subject to the same income tax filing requirements that apply to U.S. citizens or residents living in the United States.
However, several income tax benefits may apply if you meet certain requirements while living abroad. For example, you may be able to exclude from your income a limited amount of your foreign earned income. You may also be able to either exclude or deduct your housing amount from gross income. To claim these benefits, you must file a tax return and elect the exclusion. You may be able to claim a tax credit or an itemized deduction for the foreign income taxes that you pay.
Also, the United States has income tax treaties with a number of foreign countries. Under these treaties, residents (not necessarily citizens) of foreign countries are taxed at a reduced rate, or are exempt from U.S. income taxes on certain items of income they receive from sources within the United States. These reduced rates and exemptions vary among countries and specific types of income.
While you’re busy planning for your new adventure, here is a list of terms to be aware of and keep in mind.
FOREIGN EARNED INCOME
You may qualify for the foreign earned income exclusion of up to $120,000 for 2023 on income earned while working abroad. However, you must file a tax return to claim the exclusion.
TAX HOME
Generally, your ‘tax home’ is the area of your primary place of business, employment, or post of duty where you are permanently or indefinitely engaged to work.
BONA-FIDE RESIDENT or PHYSICALLY PRESENT
You will need to meet specific requirements or you will not be treated as being a bona-fide resident of, or physically present in, the host for any day during which you are present in another country.
FORM 2555 – FOREIGN EARNED INCOME 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 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.
If you claim the exclusion, you cannot claim any credits or deductions that are related to the excluded income. You also 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.
FOREIGN AMOUNT EXCLUDABLE
If your tax home is in a foreign country and you qualify under either the bona-fide residence test or physical presence test for the entire calendar year, you can exclude up to $120,000 of your foreign income earned during the year. However, if you qualify under either test for only part of the year, you must ratably reduce the $120,000 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.
HOUSING DEDUCTION (SELF-EMPLOYED)
The foreign housing deduction applies only to amounts paid for with self-employment earnings. If you do not have self-employment income, you cannot take the foreign housing deduction.
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 or 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.
FORM 1116 – FOREIGN TAX CREDIT
If you choose to credit foreign taxes against your tax liability, you will need to complete Form 1116, Foreign Tax Credit and attach it to your U.S. income tax return.
FOREIGN TAX LIMIT
Your 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. Therefore, 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.
FOREIGN TAX DEDUCTION
If you choose to deduct all foreign income taxes on your U.S. income tax return, you will need to 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 ABROAD
You 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 are exempt from self-employment tax on your self-employment income. The United States has social security agreements with several countries to eliminate dual taxes under two social security systems. Under this agreement, you must generally pay social security and Medicare-equivalent taxes to only the country you live in.
ESTIMATED TAXES WHILE ABROAD
If you are working abroad for a foreign employer, you may have to pay estimated tax, since most employers do not withhold U.S. tax from your wages.
U.S. SOURCE INCOME WITHHOLDING TAX
You 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.
FILING EXTENSIONS WHILE ABROAD
If you are a U.S. citizen or resident and both your tax home and your physical 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.
FinCEN (Form 114) – FOREIGN BANK and FINANCIAL ACCOUNTS
If 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 U.S. Treasury Department Form 114.
Streamlined Foreign Offshore Procedure
Disclaimer
The information herein is intended as general information to the public about U.S. taxes. This information should not be regarded as specific to an individual’s situation. While every effort is made to keep the information accurate, no guarantee or liability is assumed for its completeness or correctness. Every individual is advised to consult with an experienced tax professional to determine the application of U.S. tax law to his or her individual situation. This website alone should not be relied upon exclusively as legal, tax, or accounting advice. Rubenacker and Company assumes no liability for errors or omissions, or for damages resulting from the use of this website or the information contained in it.