US Taxes Abroad for Dummies (update for tax year 2017)
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 an IRS Form 1040 for the previous year if your income was above a certain threshold. These thresholds are the same as for US residents. For tax year 2017 (filing in 2018) the thresholds (total yearly income) are:
Under 65 65 or older
You are single (unmarried) $10,400 $11,950
You are married filing jointly $20,800 $23,300
You are married filing separately $4,050 $4,050
You are filing as "Head of household" $13,400 $14,950
You are a widow or widower $16,700 $18,000
Filing the 1040 is generally due each year on April 15th (Tuesday April 17th in 2018), with an automatic extension to June 15th for Americans resident abroad, but if any taxes are due, interest is calculated starting April 15th up to payment date.
How does living abroad mitigate your US tax?
There are basically 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." 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 2017 (filing in 2018) the exclusion amount is $102,100. What this means is that if, for example, you earned $113,000 in 2017, you can subtract $102,100 from that leaving $10,900 as taxable by the US. But beware: this $10,900 is taxable at tax rates applying to $113,000 (the so-called "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 this type of income.
Here's a simple example. Suppose you live in France and you earned EURO 100,000 (about $113,000) from your French employer. You are married filing jointly, have two children and you take the standard deduction.
The US tax on this income is calculated as follows:
US tax on $113,000 = $12,678
Subtract US tax on $102,100 (the exclusion) = $9,802
Net US tax payable: $2,876
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 excluded income to total income. Here's an example, using the same figures as above.
French taxes on EURO 100,000 ($113,000) are EURO 12,533 = $14,162.30
Fraction for excluded income ($102,100/$113,000) = 0.904
Fraction of foreign taxes that can be taken as credit = 0.096
Net French tax that can be taken as credit (0.096 x $14,162.30) = $1,366.10
This French tax can be subtracted from your US tax ($2,876) leaving $1,509.90 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 $14,162.30 is greater than US tax $12,678). In addition, the foreign tax credit can be applied (in some cases) against tax on unearned income as well.
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.
To summarize: If your foreign earned income was less than $102,100 use the FEIE to reduce your US tax on this income to zero. However, if your foreign income was more than $102,100 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 if you rent 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 $51,000).
The Affordable Care Act
The Affordable Care Act will again impact US taxpayers in fiscal year 2017, for which US income tax returns are filed in 2018. Americans living overseas should be aware of the important need to declare themselves not subject to the Affordable Care Act "shared responsability" provision by indicating that you benefit from "deemed covered" status from a foreign health plan and do not need to participate in a US plan or pay the penalty fee.
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 how it got there and 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 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 and 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.
Starting Jan 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 compiled a list 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 FATCA, foreign banks are required to report directly or indirectly to the IRS information on all accounts held by US persons. If the IRS learns that you have a foreign bank account before you file your US taxes and FBAR, you are in deep trouble. Penalties are steep.
This ACA webpage was updated in February 2018.