Basics of US Income Taxes for Americans Living Overseas
Introduction
A lot of people are surprised when I tell them that the United States is one of the only countries in the world that taxes its citizens on their worldwide income. Many other countries will tax you if you live abroad only part of the year or are ordinarily considered a resident for tax purposes. But the US, even if you haven’t lived in the States for 20 years, Uncle Sam wants to know about your income every year! Which means filing from abroad and making some decisions on how you want to treat your income.
Do you need to file?
If your total worldwide income is above the following amount for your filing status, you will have to file an income return. The below table is from IRS Publication 54 linked at the bottom of this post. For those that are self-employed, if your net earnings are above $400, then you also need to file.
Filing Status – Amount (values are for 2008)
Single – $ 8,950
Single 65 or older – $10,300
Head of household – $11,500
Head of household 65 or older – $12,850
Qualifying widow(er) – $14,400
Qualifying widow(er) 65 or older – $15,450
Married filing jointly – $17,900
Married filing jointly, Not living with spouse at end of year – $3,500
Married filing jointly, One spouse 65 or older – $18,950
Married filing jointly, Both spouses 65 or older -$20,000
Married filing separately – $ 3,500
Tax Basics for Expats
The US tax year is the same as the calendar year, so Jan 1 to Dec 31. You must file your tax return by the following April 15 whether or not you owe money or are due a refund. Exceptions to this include if you’re self-employed and you pay estimated taxes quarterly.
If you are living overseas on April 15, you are automatically granted a two month extension to June 15. You don’t have to file any special forms to receive the extension but you may owe interest on any taxes due for that two month period. So in my opinion, it’s better to go ahead and get it over with and file by April 15. However, one reason to take advantage of the extension if you need the extra two months to meet the bona fide residence test or physical presence test. If you do use the two month extension, you must attach a statement when you file your taxes explaining that you are living and working outside the US.
Five Cent Nickel offers a succinct explanation of the US tax rates in “How do Federal Income Tax Brackets Work?”.
Determining Your Tax Home
If you are a resident of another country, have established a residence and are living there for at least one full tax year, then you meet the bona fide residence test and can claim that country as your tax home. You can also use the physical presence test of living in a foreign country for 330 days out of twelve consecutive months to determine your tax home.
US Citizens Filing from Overseas
So as we’ve already discussed, even if your tax home is in another country, the IRS wants you to file income tax returns every year. This could mean you are paying taxes in both countries, also known as double taxation. Don’t panic yet though! There are two options to reduce or completely cancel out your US taxes.
The first is the foreign income exclusion. In 2008, you can exclude up to $87,600 of your foreign income. If you make less than that, you will owe no US taxes on that money. If you make more than the $87,600, you will pay taxes at the US marginal tax rate for that income level. You may also be eligible to claim the foreign housing deduction. To claim the foreign income and housing exclusions, you will need to file Form 2555 (instructions can be found here). If you’re only claiming the foreign income exclusion, there is also a short version, Form 2555EZ (instructions can be found here). Both of these forms would be filed with your other tax forms.
The second option is to claim a foreign tax credit for the taxes you’ve already paid to the country in which you currently live. If you are working in a country that has similar or higher tax rates to the US, then this may be more beneficial to you. To claim the tax credit, fill out Form 1116 and include it with your other tax forms. Instructions for Form 1116 can be found here.
I’m going to publish a post soon on how to choose between the income exclusion and tax credit options as which path you take can affect any contributions you might be making in the US to retirement or college saving tax-advantaged plans.
Other Paperwork
If you have substantial funds (more than $10,000) in a bank, brokerage or other type of financial account, then the Treasury Department wants to hear about it. This form can be found here. Note that you do not send this form in with your taxes, but send it directly to the Department of the Treasury (the address is included in the form).
What if I haven’t been filing my returns?
Lastly, what if you’re reading this and you have been living outside the US for years and haven’t filed a tax return since you left? Don’t worry, this happens all the time, but you should contact a tax professional familiar with US taxes and begin filing the missing returns right away.
Disclaimer
Please note that I am not a tax professional. The above post is for informational purposes only. If you have specific tax issues related to living outside your home country, you should contact a tax professional.
Resources
IRS Publication 54 – Tax Guide for U.S. Citizens and Resident Aliens Abroad
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