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Approximately 10 million Americans live outside the country, based on U.S. State Department estimates. Countries with the most number of American expats include Mexico, Canada, United Kingdom, Germany, and Australia.
There are different reasons why Americans move out of the country. Some move out for love. Others do it for money. Some cite work-life balance as their main consideration. But whatever the reason is, one thing is for sure, these people have made a home away from home.
If you are an American expat, there’s no need to explain your motivations for leaving. But there’s a need for you to reckon with questions every U.S. citizen deals with whether you’re within U.S. boundaries or not. One such question is: What are my tax obligations?
Yes, you’re still obligated to pay appropriate taxes. For you to properly manage your tax responsibilities, avoid these common mistakes.
1. Not filing US expat tax return
This is perhaps the most widespread mistake expats commit regarding taxes. Some mistakenly believe that just because they’re abroad they’re exempt from filing their yearly tax return. Others mistakenly think they can get away with not filing. Both choices can get you in trouble. Remember that the IRS has ways of knowing what you’ve been up to, money-wise. And if you’ve earned more than $10,000 over the last fiscal year, you’re liable to pay taxes. Here income can come from a variety of sources including but not limited to:
- Wages/salary from non-US or US employers
- Dividends
- Interests
- Stock sales
- Rental income
So do not risk it. If your main concern is the impracticality of filing a tax return from overseas, keep in mind that the IRS has come up with ways to simplify the process. For instance, you can mail your tax return to this address:
Department of the Treasury
Internal Revenue Service Center
Austin, TX 73301-0215
USA
Or if you’re an Adjusted Gross Income (AGI) taxpayer, you can file tax returns electronically via e-file. If you fail to meet the initial deadline for filing, you’re given an automatic two-month extension, which ends on the 15th of June. This extension is activated whether or not you requested it.
2. Using a tax return template
You probably hired a remote accountant to take care of your expat tax return for the previous tax year. For the current tax year, you want to save money by cutting corners. You probably thought you can just use your old tax return as a template for this year.
This strategy will only work if the IRS does not update its rules and systems every year. However, that’s not the case. And the IRS is prone to making subtle changes that can put you in trouble if you’re submitting a recycled expat tax return.
For instance, tax brackets have increased over the past years. The Foreign Earned Income Exclusion and Standard Deduction thresholds have been updated many times, and the Trump Tax Reform Bill introduced changes, too. And most likely, the current administration and the next will make their mark on tax systems and procedures as well.
Instead of recycling a tax return from the previous year, have your remote accountant on a retainer’s basis. Or better yet, DIY your return but make it a habit to visit the IRS website every quarter for relevant changes to expat tax return filing procedures.
3. Failure to understand self-employment tax
Many American expats work as digital nomads. They’re not full-time employees; therefore, they’re expected to pay self-employment tax. If you belong to this expat category, remember that you are allowed to skip filing a tax return only if you earn less than $400. The IRS will know the amount of money you earn via foreign accounts you open overseas, among other ways.
It’s crucial to understand what constitutes self-employment tax. It’s composed of social security (12.4%) and Medicare (2.9%), which add up to 15.3% of reported income. For employees, a portion of these taxes is shouldered by employers.
Meanwhile, self-employed individuals take on the whole value. Consider these taxes as your social savings. You’re helping the IRS fund social programs that might benefit you or your loved ones in the future. To avoid improperly filing a tax return as a self-employed individual, visit the IRS website to learn more about the subject.
Late tax filing or payment can be costly for expats, leading to penalties, interest charges, and potential audits. Engaging tax professionals with expertise in expat taxation is a valuable solution. They stay updated with tax laws in both countries, ensuring timely compliance. These professionals navigate complex regulations, identify deductions, and properly report foreign income, avoiding penalties. By relying on their expertise, expats achieve peace of mind and can focus on their endeavours abroad.
It is important to follow the specific tax regulations that are unique for each state. For example expatriates operating businesses or engaging in sales activities in Colorado may encounter complexities related to filing Colorado sales tax. This process involves collecting and remitting sales tax on taxable transactions within the state. Navigating the rules, rates, and reporting requirements can be challenging for expats, especially if they are not familiar with Colorado’s specific tax regulations.
4. Failure to file FBAR
Report of Foreign Bank Account Report, aka FBAR, is expected of expats who have a financial account overseas that has reached a deposit of $10,000 within the current tax year.
Even if that amount only lasted for a few hours because you had to withdraw some of it, you still need to file FBAR. This is something you cannot hide from the IRS, so do not even attempt to do so. You might be at risk of paying penalties amounting to $10,000 for non-wilful failure or 50% of your unreported account balance if the IRS decides the failure was done maliciously.
To avoid those penalties, file FBAR at the same time you file your expat tax return. However, keep in mind that FBAR is filed separately via the FinCen website. Extensions are given until October 15th.
5. Failure to file FATCA
This is another official form you need to send to the IRS. FATCA stands for Foreign Account Tax Compliance Act, which became law in 2010. It allowed the IRS to solicit information from relevant institutions regarding the assets of expats.
Through FATCA, you are legally required to report existing financial accounts such as bank accounts, mutual funds, and retirement savings, as well as bonds, stocks, hedge funds, and private equity shares—and even insurance. This law recognizes asset thresholds, which are based on your filing status. That means you’re expected to file FATCA if your financial assets overseas reach specified amounts.
For example, if you are single or married filing separately, the threshold is $300,000 at any point in the year or $200,000 at the end of the current tax year. Meanwhile, for married taxpayers filing jointly, the threshold is $6000,000 at any point in the year or $400,000 on the last day of the current tax year.
If those thresholds apply to you, you need to file FATCA together with your expat tax return. Do this by accomplishing IRS Form 8938. Filing is on tax day, April 15th. You have an automatic extension until June 15th. Failure to file within that date requires that you apply for another extension that will last until October 15th.
6. Choosing the wrong filing status
Filing an expat tax return as a married person will demand you to reckon with a vital question: Should I file separately or jointly? There are both pros and cons to each of those choices. Do not commit the mistake of listening to other people’s advice on the matter. You must base your decision on your unique financial situation.
For example, if your partner is financially dependent on you, you might be eligible for higher tax savings if you filed jointly. Meanwhile, if your partner has foreign assets and significant income, filing jointly might not be a clever decision. That automatically subjects your partner’s assets to U.S. tax liability. Choose your filing status wisely.
7. Failure to maximize tax savings
The IRS provides US expats with credits, exclusions, and deductions. These make up the tax savings at your disposal. Examples include the Foreign Earned Income Exclusion, Foreign Tax Credit, and Foreign Housing Exclusion. Again, you must be wise when choosing which of these tax savings to maximize.
You can also include dependents, such as your children, on your expat tax return to reduce your tax liability to the IRS. Through programs like Child Tax Credit and Child and Dependent Care Credit, you can apply for tax savings. In some instances, you might even receive a refund.
8. Failure to familiarize state tax return obligations
U.S. states have different rules on how they impose state tax returns for expats. You need to familiarize yourself with the specific policies adhered to by your home state. If you’re from California, North Carolina, New York, New Mexico, and Virginia, chances are you’ll need to file a state tax return even when you live abroad.
In Closing
You’re happy and content where you are, far from where you were born. And then that time of year comes when you have to worry about your tax responsibilities back home. Yes, filing expat taxes might seem a bit too complicated. But it does not have to be that way.
Ideally, before you left the country, you have looked for a reliable tax or financial manager who can oversee your tax obligations. But if that’s water under the bridge, and something you failed to do, do not fret. You can still arrange to work with one even while you’re overseas.
Also, you need to be aware of relevant tax schedules. Do not miss unmissable deadlines. That only complicates the situation, as you might face penalty fees and late payment interests.
Make sure you safe keep all relevant documents. Have hard and digital copies at hand. Provide your tax or financial manager with copies of these documents.
Lastly, relax and have fun where you are. Don’t tax yourself too much.
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