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What You Should Know about U.S. Taxes While Living Abroad

By David McKeegan, Director,
Greenback Expat Tax Services

Greenback Expat Tax Services is a U.S. expat income tax preparation service

All information was correct at the time this article was written (February 2013).

Filing taxes can be complicated to begin with, but understanding U.S. tax laws for Americans living abroad can be even more difficult. You probably have a lot of questions, and while the IRS website is a treasure trove of information, it can be tough to navigate.Here are some of your top questions answered:

As a U.S. Expat, do I need to file Federal and State tax returns each year?

If you live and work abroad, you will most likely need to file a Federal tax return. There are a few exceptions based on your gross income, filing status, and age but in the majority of cases, expats must file each year. Even if you have paid foreign tax on your income, it cannot be excluded from U.S. Taxation or at least from filing a return. As an example, if you are married and filing jointly with your spouse, you will need to file at least a federal return if your combined gross income exceeds $19,500 for 2012 tax year even if you filed and paid tax on that income in your country of residence. Many countries have double taxation agreements with the U.S. Government so that you can avoid being double taxed.

Each individual state has its own regulations regarding the filing of State tax returns. For example, if you lived in Florida, Nevada, Texas, or Washington during the past year, you will not need to file a return since there is no income tax in these States. However, if you maintain voter registration, property or bank accounts in certain States, such as California, New Mexico, South Carolina or Virginia, you may still be required to file a return every year even if you left that State many years ago.

If you have retired in a foreign country, you are still taxed on your worldwide income, which includes payments from employer-sponsored pensions. Again, depending on the state in which you last resided, you may also need to file a State return, particularly if you receive rent payments or something similar.

Sounds complicated? It is. If you are unsure, we suggest you consult a specialized expat tax provider who can confirm your filing obligations.

What forms will I need to file?

Regardless of whether you are working or retired, if you meet the requirements to file a tax return, you will need to complete Form 1040, just as if you were living in the U.S. In addition, you will probably want to complete Form 2555 (Foreign Earned Income) and Form 1116 (Foreign Tax Credit). The Schedules you will need to file depend on your personal circumstances, but the most common ones are Schedule A for Itemized Deductions, Schedule B for Interest and Dividend Income, Schedule C for Income and Expenses from Self-Employment, Schedule D for Capital Gains or Losses, and Schedule E if you own any rental properties.

Additionally, if you are associated with foreign financial accounts with aggregate balances that exceeded $10,000 at any time during the tax year (January 1-December 31), you must report the accounts to the Department of Treasury using Form TD F 90-22.1. Even if you receive an extension on your tax return, you will need to file this form before June 30th or risk a significant penalty. If you have significant financial holdings overseas, you may also be required to file Form 8938 (The Statement of Foreign Financial Assets). This requirement is part of the Foreign Account Tax Compliance Act or “FACTA,” and for US expats the filing threshold starts at $200,000.

When is my tax return due?

As an American citizen living outside the U.S., you automatically qualify for a two-month extension, meaning your tax return is due on June 15. U.S. expat tax rules specify that you can use Form 4868 to request an additional six months, extending your due date to October 15. It is important to understand that even with both extensions, any taxes you owe that are paid after April 15th will be subject to interest charges, and any amount that isn't paid by June 15 will also be subject to failure-to-pay penalties (if you have not been granted an extension).

Which currency do I use for filing purposes?

It does not matter which country you reside in; your American expat tax return must be filled out using U.S. dollars. When converting your regular income or expenses from foreign currency into U.S. dollars, you should use the yearly average exchange rate. The IRS recommends using the Oanda Currency Converter for currency conversions. If you received or paid out certain amounts on specific days, you can look up the exact exchange rates for those days and use whichever amount has you paying less tax. The IRS also publishes an exchange rate chart for the last several years in multiple currencies that you can use.

Can I exclude any of the income I earned abroad?

One of the U.S. tax rights for Americans living abroad is the Foreign Earned Income exclusion; if you receive income from a foreign country and pass either the "bona fide residence" test or the "physical presence" test, you qualify for this exclusion. The bona fide residence test will be determined by the IRS according to your answers to Form 2555, but essentially, you must have been living and working in a foreign country or physically outside of the United States for 330 days during a 365-day period. If you meet the above criteria, you can exclude up to a certain amount of earned income from U.S. taxation; if your spouse also meets the above criteria, he or she can also exclude the same amount from taxation. Additionally, even if your spouse is a non-U.S. Citizen, he or she can choose to be treated as a U.S. Resident for the purposes of the Foreign Earned Income Exclusion if he or she is otherwise qualified. This exclusion is not automatic; in order to receive the exclusion, you must file Form 2555 along with the standard 1040 when filing your US tax return.

Does where I live affect the rate at which I am taxed?

If you reside in certain foreign countries, you may be able to claim a reduced tax rate or exempt certain types of income, based on tax treaties with the United States. If you receive any income that isn't covered under the treaty or if the country you live in does not have a tax treaty with the U.S., you are subject to standard U.S. tax rates.

Certain individual states do not honor the provisions of international tax treaties. Be sure to consult with a tax professional to find out whether the country in which you reside has a treaty with the United States, as well as with State government websites to determine if the state in which you last resided honors the treaty.

How is U.S. Social Security affected?

If you are paid by an American employer, then your wages are most likely subject to U.S. Social Security and Medicare taxes. However, if you are an agricultural worker, an enrolled student, or a clergy-member, you are exempt from these taxes, even if your employer is based in the United States. If you are employed in certain foreign countries and you are paying Social Security tax to that foreign country, you may be able to avoid paying U.S. Social Security. The United States has enacted Totalization Agreements with some countries, which ensure that you will only pay Social Security taxes to one country (usually the country in which you live and work), enabling you to opt out of paying the same tax to two different countries. If you are working in a country that has a Totalization Agreement with the U.S., you will need to obtain an official statement from that country confirming that you are paying foreign Social Security in order to be exempt from double taxation. The list of countries participating in such agreements can be found on the IRS website. You can also consult the Social Security website for more information on the details of the agreements.

If you are self-employed, the requirement that you pay self-employment tax (a Social Security and Medicare tax on net earnings greater than $400) applies whether you live in the United States or in a foreign country. This may be eliminated by a tax treaty, but again it is best to speak with an expat tax expert as each treaty is different and the Social Security and Medicare payments come out before the Foreign Earned Income Exclusion, so you could face a cash expense.

If you are a U.S. citizen who has retired abroad and you are otherwise eligible, you are still able to collect U.S. Social Security retirement payments. However, it is important to know that the Social Security Administration will not send payments to retirees living in Cuba, North Korea, Cambodia, Vietnam, or some countries that were once part of the Soviet Union. If you have worked in both the United States and a foreign country and paid Social Security to both countries, you should be able to receive two payments, provided you meet all the requirements and you file a claim for benefits with both countries. At this time, retirees living in foreign countries are not covered by Medicare. If you will not be able to return to the United States when medical treatment is required, you should look into purchasing additional health insurance.

What annual changes should I be aware of?

Due to inflation, the maximum Foreign Earned Income exclusion goes up periodically. For example, it was $91,500 per person in 2010, $92,900 per person for tax year 2011, $95,100 for 2012 and will be $97,600 for 2013. Additionally, the housing expenses deduction changes whenever the Foreign Earned Income exclusion changes. There may also be additions to the countries participating in Totalization Agreements with the United States, as well as those countries having Tax Treaties with the U.S.

About Greenback Expat Tax Services

Greenback Expat Tax Services specializes in U.S. Tax Return preparation for Americans living abroad. Why Greenback? Our team is made up only of CPAs and EAs who specialize in U.S. expat taxes, which means we have the knowledge to make sure your tax return is filed correctly. Plus, we treat our customers the way that we would like to be treated - we offer fair pricing with no surprise extra fees, don't overwhelm you with forms to fill out/calculations to do, and provide clear guidance on complicated expat tax matters. To find out more about Greenback Expat Tax Services or for additional information about expat tax topics, please visit us at www.greenbacktaxservices.com.

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