U.S. Expat Income Tax Returns
Individual Income Tax Return Information for US citizens:
Taxation of US citizens living abroad, expats, usually involves a thorough analysis of the US tax code as well as tax treaties with foreign countries. We highly recommend that you consult with a tax professional before preparing your US expat return.
Reporting requirements (Form 1040 and accompanying schedules):
According to US tax regulations, US citizens are required to file an annual tax return (Form 1040) to report their worldwide income whether or not they live in the United States and whether or not their income is sourced in the USA (Excluding certain low income individuals). Even if an expat pays income taxes in his foreign country of residence, he must still file a US return. There are additional filing requirements for certain expats that have financial accounts with foreign institutions and aggregate balances of the accounts must be reported annually. See FBARS (form 114) and FATCA (form 8939)
Time to File:
US Expats who live outside the United States and maintain their main place of business outside the United States are entitled to an automatic two month extension to file and pay taxes. This extension changes the due date from April 15th to June 15th. Penalties will only begin accruing after June 15th but interest will be charged from April 15th. A statement stating that an individual meets the requirement for the automatic two moth extension should be included with the return. An additional four month extension of time to file can be requested using Form 4868.
Filing Status and Exemptions:
An expat married to a non-US citizen (“non-resident alien”), can choose to obtain a taxpayer identification number for their spouse and include their spouse’s income on their US joint tax return. In some circumstances, there may be a tax advantage to include a foreign spouse and their income on one’s US return. See ITIN application for further information.
To claim children born in a foreign country as dependents, the parent/s must obtain a social security number for their child. To apply for a social security number, the child needs to have a consular report of birth abroad or a certificate of citizenship.
Additional Child Tax Credit (Form 8812):
U.S. Expats may still be eligible to receive the refundable additional child tax credit of up to $1,000 per child. The child must be a US citizen and under age 17 at the end of the tax year in order to qualify. The amount of the credit is calculated based on a parent’s earned income and increases as the parent’s earned income increases and phases out for high income families. Foreign wages and/or self-employment income can be used to calculate the credit. Form 8812 must be submitted with the parent’s return.
All worldwide income must be reported to the IRS. This includes but is not limited to employee wages; interest (schedule B); self-employment income (Schedule C); capital gains and losses (Schedule D and Form 8949); rental real estate, royalties, partnership, S corporations, estates, trusts, REMICs and other supplemental income (Schedule E)
Foreign earned income exclusions (Form 2555):
A U.S. person will be eligible to exclude a portion of their foreign earned income from US taxation, provided they prove their residence abroad for the tax year at hand. The amount allowable for exclusion changes every year. For 2014, the amount is $99,200. To qualify for the exclusion, an individual must satisfy the bona fide residence test or the physical presence test.
For a US citizen to be considered a bona Fide resident of a foreign country, they must reside in the foreign country for an uninterrupted period that includes an entire tax year and prove that their intent was to establish a permanent, indefinite residence in the foreign country.
To qualify under the physical presence test, an individual must be physically present in a foreign country for at least 330 full days for any successive twelve month period. For this test, travel days over international lands or waters must be taken into account. Additionally, a US expat with wages or self-employment income can exclude housing costs abroad. Certain limitations are imposed on the amounts for exclusion. Excludable amounts depend on city of residence, as cost of living varies from city to city. To be eligible for this deduction, an individual must satisfy the bona fide resident or physical presence tests.
Foreign tax credit (Form 1116):
Foreign taxes paid, may be used as a credit to offset U.S. taxes. Only foreign taxes paid on foreign sourced income is eligible for the exclusion. The credit cannot be used to offset US sourced income.
United States and foreign country tax treaties:
The United States and many foreign countries have tax treaties that allow US expats to avoid double taxation in the United States and their foreign country of residence. In general, a tax treaty will provide an individual with exemptions, deductions and lower tax rates both in the US and in the foreign country of residence.
Social security and pension benefits:
Whether or not U.S. pension income and social security benefits are taxable in an individual’s foreign country of residence depends on the tax treaty between the US and the foreign country. Foreign pension benefits paid to US citizens may be taxable in the US and requires an analysis of the relevant tax treaty.
Additional reporting requirements may be required on amounts contributed and accrued values of foreign pensions owned by U.S. citizens. (These information returns cannot be used as a substitute to FBAR, Form 114.) In some instances, contributions to a foreign plan may be subject to US tax unless it qualifies as an “employees’ trust, defined in Section 402(b) of the Internal Revenue Code.
A self-employed US expat is subject to US self-employment taxes even on income earned in a foreign country. In order to alleviate self-employed individuals from double taxation, the US signed a Totalization Agreement with many foreign countries. These agreements generally relieve a US expat from paying double social security taxes but the agreements vary from country to country.
Following is a complete list of the countries that have entered into Totalization Agreements with the US as per the US Social Security website:
Italy, Germany, Switzerland, Belgium, Norway, Canada, United Kingdom, Sweden, Spain, France, Portugal, Netherlands, Austria, Finland, Ireland, Luxembourg, Greece, South Korea, Chile, Australia, Japan, Denmark, Czech Republic, Poland, and Slovak Republic.
Sale of Foreign Real Estate:
The US Tax code allows individuals to exclude up to $250,000 of realized gain from the sale of their primary residence (if married filing jointly the exclusion is $500,000) provided they meet the ownership and use tests. This exclusion even applies to homes outside the United States.
However, gains in excess of the excludable amount are taxable in the United States and cannot be excluded with the foreign income exclusion. Foreign taxes paid on the sale of the asset can be used to offset US taxes via the foreign tax credit (form 1116). However, beginning in 2013, such gains may be subject to 3.8% Net Investment Income Tax (form 8960) which cannot be offset by foreign tax credits.
If a US citizen relocates to a foreign country in the middle of a tax year, he will be treated as a part-year resident for state tax purposes. In most states, an individual is not deemed to be a resident of the state if he no longer lives in the state. However, in some states they must also relinquish their financial ties with the state, such as selling their property owned in the state and closing their state bank account. Nonresidents of any given state are still subject to their passive income sourced in that particular state. Earned income from a US employer, however, is not subject to state tax if the work was done outside of that state. This is a common point that people very often make mistakes about and end up reporting and paying more tax then they have to.
US Expats can face serious penalties for failure to file their US returns and/or pay their US taxes.However, the IRS now offers various programs for delinquent taxpayers to make amends withthe US treasury. -See Streamlined Procedure and Offshore Voluntary Disclosure.
Form 5471, report of US person with interest in foreign corporations:
Certain US citizens who are officers, directors, or shareholders in foreign corporations are required to file Form 5471 to satisfy the reporting requirements of sections 6038 and 6046 in the Internal Revenue Code. To satisfy the stock ownership requirement, a US citizen must own 10% or more of the total value of the corporation’s stock or the combined voting power of stock. There is a $10,000 penalty imposed on the foreign corporation for each annual accounting period whereupon the information is not provided on time. This form is attached to the applicable tax return, in the case of an individual form 1040, and is due upon the due date of the return. Assets reported on Form 5471 do not have to be reported again on Form 8983, Statement of Specified Foreign Financial Assets.
IMPORTANT- one can avoid being charged the late $10,000 filing fee by entering into the Streamlined Program and including their delinquent form 5471’s together with their 1040s. If they have already filed their personal tax returns and have failed to include the required form 5471’s, there are alternative procedures that can be utilized to avoid being hit with the penalties via filing amended tax returns (Form 1040x).
US estate tax on foreign assets (Form 706):
Assets of a deceased US citizen are subject to estate tax even if the US citizen resides in a foreign country and even if the properties are located abroad. Estate tax is calculated using the fair market value of the assets on the date of death of the deceased. The estate tax exemption is $5,340,000 for 2014. If the value of a US expat’s estate on date of death exceeds this exemption, form 706 must be filed.
American Opportunity Hope Credit:
Renouncing US citizenship:
Although it may seem like surrendering one’s US citizenship will absolve an individual from the hassle of filing US tax returns and paying US taxes, there are some tax drawbacks. US citizens who renounce their citizenship are faced with an exit tax. The Tax Code (Under Section 877A) stipulates that all assets owned by an individual are deemed to be sold on the day the US citizen surrenders his citizenship. Any gain on the sale of the assets will be taxed as a US capital gain.The payment of tax can be deferred until the asset is actually sold. However, this deferment of tax will result in interest accrual. The exit tax only applies to individuals with a net worth of $2,000,000 or to individuals that failto certify their compliance with the past five years of US tax obligations.
Certain low income taxpayers are not required to file.