Proper expatriate tax planning is a must to help ensure that you pay the least amount of tax possible. Accel’s international tax professionals can help you reduce your tax burden. When living overseas, it’s easy to forget to file your United States tax return. You may not even be sure if you still need to. However, if you’re an American citizen you must file. Here are some tax planning tips to ease this process.
Don’t Forget to File Your Tax Return!
Believe it or not, there are a lot of expats who skip this step entirely. Usually it’s because they don’t know they’re still expected to file, but sometimes it’s because it’s just too much trouble. Just remember that you are still expected to file – and most U.S. citizens living abroad don’t end up owing anyway, thanks to special deductions and credits implemented by the United States.
Take Advantage of the Foreign Earned Income Exclusion
The U.S. has increased the Foreign Earned Income Exclusion for 2021 to $108,700, since it is indexed each year for inflation. This means that you can exclude $108,700 of foreign income from your United States taxes. There is a catch, though. You have to work and reside outside of the United States and meet one of two residency tests. The first is the Bona Fide Resident test, and the other is the Physical Presence test.
Bona Fide Residence Test
You must have resided in your new country as a resident for an entire tax year, uninterrupted. That means you should be living in that country without leaving from January 1 through December 31.
Physical Presence Test
This test allows you to be present in any number of foreign countries for a 330 day period. These must be full, 24 hour days. The biggest difference between the two tests is that for this one, you can choose your 12 month period. It doesn’t have to be based on exact months. This test is a bit more lenient than the other, so it can be easier to pass.
Apply for the Foreign Tax Credit
This tax credit exists to provide relief from double-taxation. You’ll likely have to choose between the Foreign Earned Income Exclusion and the Foreign Tax Credit, depending on your personal situation. For example, if you are paying a higher tax rate in your new country than you’d be paying under the U.S. system, you could be better off using the Foreign Tax Credit. If you have income in both your new country and the United States, you should base your decision on the proportion of foreign income to U.S. income. The maximum foreign tax credit you can use is limited by the percentage of foreign income to U.S. income. If most of your income is foreign income, the Foreign Tax Credit is for you.
While the Foreign Tax Credit is more difficult to apply for, it could save you more than the Foreign Earned Income exclusion, based on your individual circumstances. Don’t rule this one out without making sure it’s not the right fit. It could be worth your extra time.
File FBAR on Time!
FBAR – Report on Foreign Bank and Financial Accounts on FinCEN Form 114 – is a filing requirement that is triggered if you have or have had $10,000 or more in a foreign account at any point in the year. It doesn’t matter if you didn’t have it long; it only matters that it was there at some point. This isn’t any sort of credit or exclusion. It’s simply a filing requirement. The deadline has changed so that it’s no longer June 30th as in previous years. It now follows tax deadlines and must be filed by April 15 (or, by extension, October 15).
Don’t Forget about the Foreign Account Tax Compliance Act
Otherwise known as FATCA, this policy requires that you report your foreign financial assets once they exceed certain thresholds, which vary by your residency and filing status. The penalties for failing to report these assets can be very high, so don’t risk it!
Tax time is here and it never hurts to brush up on what you need to know when filing, especially while living abroad. Don’t forget the little things, like tracking all of your trips to the United States so that you can apply for the Foreign Earned Exclusion tests and pass them!
Consider the Applicability of Income Tax Treaties
The United States has income tax treaties with nearly 70 foreign countries. Under these treaties, residents (not necessarily citizens) of foreign countries may be eligible to be taxed at a reduced rate or 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 items of income.
In a nutshell, tax treaties generally reduce the U.S. taxes of residents of foreign countries as determined under the applicable treaties. In addition, treaty provisions are generally reciprocal (apply to both treaty countries). Therefore, a U.S. citizen or U.S. treaty resident who receives income from a treaty country and who is subject to taxes imposed by foreign countries may be entitled to certain credits, deductions, exemptions, and reductions in the rate of taxes of those foreign countries. U.S. citizens residing in a foreign country may also be entitled to benefits under that country’s tax treaties with third countries.
In most cases, you must attach a treaty-based position on your U.S. tax return to invoke the tax treaty.
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