US Taxes Abroad for Dummies (update for tax year 2021)
Did you know that ACA is working to change the way US citizens overseas are taxed? Help support ACA's efforts to reform taxation for Americans living and working overseas. Join our organization or donate today!
You're a US citizen or a green card holder and you live somewhere outside the USA (i.e. in a "foreign" country).
You may have US tax filing obligations if you have personal income such as wages, salary, commissions, tips, consultancy fees, pension fund, alimony, US and/or foreign social security, interest, dividends, capital gains, rental property, farm income, royalties, inheritance or payment in kind in the US or abroad.
You may have US tax filing obligations even if you haven't ever lived in the USA or left several years ago and all your income is from "foreign" sources.
You may have US tax filing obligations even if some or all of your income was already taxed at source or is going to be taxed by a foreign country.
You may have US tax filing obligations even if you aren't earning any money but are married to someone who did have income.
Basically, you have to file IRS Form 1040 and relevant schedules for the previous year if your income was above a certain threshold. These thresholds are the same as for US residents. For tax year 2021 (filing in 2022) the thresholds (total yearly income) are:
Under 65 65 or older
You are single (unmarried) $12,550 $14,250
You are married filing jointly $25,100 $27,800 (both over 65)
You are married filing separately $5 $5
You are filing as "Head of household" $18,800 $20,500
You are a widow or widower $25,100 $26,450
These filing thresholds correspond to the STANDARD DEDUCTION for each filing category. The PERSONAL EXEMPTION amount was set to zero under the Tax Cuts and Jobs Act passed December 22, 2017. When taxpayers choose to file as "married filing separately" they must both claim the standard deduction when filing or they must both itemize their deductions. One spouse is prohibited from claiming the standard deduction if the other spouse is itemizing. If both spouses itemize, there is no standard deduction and no personal exemption. That's why the filing threshold is $5 for this category--taxes start at $5 of income.
Filing the 1040 is generally due each year on April 15th (April 18th in 2022) with an automatic extension to June 15th for Americans residing abroad, but if any taxes are due, interest is calculated starting April 15th up to payment date. You can request an additional extension by filing Form 4868.
How does living abroad mitigate your US tax?
If you qualify as an American citizen residing abroad (basically having lived at least one year abroad), there are two methods by which you can reduce your US tax by a substantial amount. These are the "Foreign Earned Income Exclusion (FEIE)" and the "Foreign Tax Credit." You can use either or both of these methods as will be explained below.
However, neither of these methods excuses you from filing if your income was above the filing threshold.
The Foreign Earned Income Exclusion (FEIE, using IRS Form 2555) allows you to exclude a certain amount of your FOREIGN EARNED income from US tax. For tax year 2021 (filing in 2022) the exclusion amount is $108,700. What this means is that if, for example, you earned $113,000 in 2021, you can subtract $108,700 from that leaving $4,300 as taxable by the US. But beware: this $4,300 is taxable at tax rates applying to $113,000 (known as the "stacking rule"). The exclusion applies only to foreign earned income. Other income, such as pensions, interest, dividends, capital gains, US-sourced income, etc., cannot be excluded with the FEIE. You are liable for full US tax on these types of income.
Here's a simple example. Suppose you live in France and you earned €100,000 (about $113,000) from your French employer. You are married filing jointly, have two children and you take the standard deduction ($25,100) and child tax credit ($4,000 for two children).
The US tax on this income is calculated as follows:
US tax on $113,000 is $6,835
US tax on $108,700 (amount excluded) would be $5,889
Net US tax payable
($6,835 - $5,889) = $946
While this is only an approximate calculation, it gives you an idea of how the system works.
The other method for reducing your US tax bill is the foreign tax credit, using IRS Form 1116. If your income was taxed by a foreign country, you can subtract that tax from your US tax, in most cases substantially reducing your US tax bill. But be careful: you cannot claim a foreign tax credit for foreign taxes on income excluded on Form 2555. In other words, you can only claim a foreign tax credit for foreign taxes on the same income that the US is taxing. The fraction of your foreign taxes that can be taken as a tax credit is determined by the ratio of non-excluded income to total income. Here's an example, using the same figures as above.
French taxes on €100,000 ($113,000) are €11,660 = $13,176
Fraction of foreign taxes that can be taken as credit
($113,000 - $108,700)
------------------------------ = 0.038
Net French tax that can be taken as credit
(0.038 x $13,176) = $501
This net French tax can be subtracted from your US tax
($946 - $501) = $445 which should be paid to the IRS.
In this particular example, you would actually be better off by just using the foreign tax credit alone and not even claiming the FEIE. If you do this you wouldn't have to pay anything in US taxes (French tax $13,176 is greater than US tax $6,835). In addition, the foreign tax credit can be applied (in some cases) against tax on unearned income as well (pensions, interest, capital gains, etc.).
So you see that by judiciously combining the FEIE with the foreign tax credit or by applying only the foreign tax credit you can substantially reduce or even get your US tax bill down to zero. Again, this is only an approximate calculation to serve as an example of how the system works.
Reminder: you MUST file your US tax forms even if your calculated tax bill is zero when applying the FEIE and/or the foreign tax credit.
Note that if your American-citizen spouse also has foreign income, he/she can also apply the FEIE up to a maximum of $108,700 on his/her own earnings, but you cannot apply your spouse's exclusion to your own income.
To summarize: If your foreign earned income was less than $108,700 use the FEIE to reduce your US tax on this income to zero. However, if your foreign earned income was more than $108,700 or you had unearned income of any amount, explore the possibility of using your foreign taxes as credit against any US tax which may be due.
Be aware that if you have been claiming the FEIE in previous years using Form 2555 and you decide this year to use only the foreign tax credit you cannot go back to the FEIE for the next six years unless you receive permission from the IRS.
In some cases, you can exclude qualified housing expenses from your taxable income. This exclusion can be calculated using Part VI on Form 2555.
There are many other aspects to be considered when figuring your US taxes. Among these are the "Alternative Minimum Tax" (AMT); handling of unearned (passive) income such as interest and capital gains; the foreign housing exclusion for your lodging; earnings of a non-US spouse; business expenses; the possibility of itemizing deductions instead of applying the standard deduction; state taxes in certain US states where you formerly resided; etc., etc., but they go beyond the simple explanation that this article is intended to be. Self-employment taxes (for Social Security and Medicare) can apply if your net annual earnings exceed $400 and you live in a country which doesn't have a social security "totalization" agreement with the US. If you need to consider any of these elements, you would be well advised to consult an international tax expert, a list of which is provided here.
Social Security Number and ITIN
All tax returns must have either a Social Security Number (for a US citizen or resident) or an ITIN (Individual Tax Identification Number).
While SSN numbers are valid for life, ITINs for a nonresident alien spouse or dependent used on a prior year income tax return may require renewal. For more information go to www.irs.gov/individuals/individual-taxpayer-identification-number .
The Internal Revenue Service is required to notify the State Department of taxpayers "certified" as owing a seriously delinquent tax debt. The State Department is generally prohibited from issuing or renewing a passport to a taxpayer with a seriously delinquent tax debt (over $54,000 in 2021). For more information see here.
The Affordable Care Act
Previously, taxpayers were obligated to obtain minimum essential health insurance coverage for themselves and their dependents, qualify for a health coverage exemption or make a "shared responsibility" payment with their federal income tax return for the months without coverage or exemption through 31 December 2018. Under the Tax Cuts and Jobs Act, passed December 22, 2017, the amount of the individual shared responsibility payment was reduced to zero for months beginning after December 31, 2018. Beginning in tax year 2019 and until further notice, Form 1040 and Form 1040-SR will not have the "full-year health care coverage or exempt" box. Form 8965, "Health Coverage Exemptions," is no longer being used. You do not need to make a "shared responsibility" payment or file Form 8965 with your tax return.
Foreign Bank Accounts
The US government does not tax wealth as such. However, the IRS still wants to know about money in foreign bank accounts especially if it produced any income such as interest and/or capital gains. Unfortunately, due to recent legislation, there are two different reporting requirements for foreign bank accounts. These are the "FBAR" and "FATCA" respectively, one or both of which may apply to you.
The FBAR (Foreign Bank Account Report) has been around since 1972 and should be filed if your aggregate foreign holdings are worth $10,000 or more at any time during the tax year, or if you have signature authority over one or more foreign accounts, for example if you are the treasurer of an association or work in the accounting department of your employer and sign for payments. Starting in 2014 and in succeeding years, the FBAR must be filed electronically as FinCen Form 114 with the Department of the Treasury. It should be filed by April 15th each year, (at the same time but separate from Form 1040) with an automatic extension to October 15th if living abroad.
Parallel to that is FATCA (Foreign Account Tax Compliance Act) Form 8938 which should be filed with your Form 1040 if your foreign assets exceed one of the following limits:
Unmarried or married filing separately living in the US: you should file Form 8938 if your aggregate foreign holdings are worth $50,000 or more on the last day of the tax year or were more than $75,000 at any time during the tax year;
Married filing jointly and living in the US: you should file Form 8938 if your foreign holdings are worth $100,000 or more on the last day of the tax year or were more than $150,000 at any time during the tax year;
Unmarried or married filing separately and living abroad: you should file Form 8938 if your foreign holdings are worth $200,000 or more on the last day of the tax year or were more than $300,000 at any time during the tax year;
Married filing jointly and living abroad: you should file Form 8938 if your foreign holdings are worth $400,000 or more on the last day of the tax year or were more than $600,000 at any time during the tax year. For more information, see here.
Starting January 1, 2015, foreign banks, under FATCA, have been reporting directly or indirectly to the IRS, so it is especially important that you file Form 8938 correctly.
If your aggregate foreign bank account holdings exceed the threshold for one or both of these reporting requirements (FBAR and/or FATCA) you would be well advised to consult an international tax expert.
ACA has a Directory of international tax advisers.
IRS Publication 54 provides full details on filing US taxes from abroad. Go to: www.irs.gov/pub/irs-pdf/p54.pdf
It is important that you remain current in your US tax filing obligations. Under The Foriegn Account Tax Compliance ACt (FATCA), foreign banks are required to report directly or indirectly to the IRS information on all accounts held by US persons (thresholds apply). If the IRS discovers that you have an undeclared foreign bank account you may be subject to steep penalties and back taxes.
This ACA webpage was updated March 5th, 2022.