In this thread, the topic of US expats paying taxes back home crops up frequently, and I was surprised to read that if you hold a US passport you’re supposed to pay US taxes, even if you’ve never lived there.
What I want to know is… how does that work? What are you taxed on and at what rate? What about if you’re required to pay income tax in your country of residence/employment? Do you have to pay taxes twice? If so, how does anyone afford it?
Thanking you!
I’m taxed on the same thing I’d be taxed on at home - wages, interest, capital gains etc. And yes, I get double-taxed on the same income BUT (and this is a signficant “but”) there is a Foreign Earned Income Exclusion which means that the first $X earned overseas is exempt from taxation. X goes up pretty much every year - for 2009 it’s $91,400 (if you’re overseas only part of the year, you get a proportionate amount of that exemption). If you’re earning in foreign currency (UK pounds for me) the IRS has an “unofficial” exchange rate for the year that you use to calculate how much you earned that year.
You fill in your 2555 or 2555-EZ form for the exemption, then you fill in the 1040 with your income details and, down at the bottom of the page on line 22, you deduct the exemption. If you’ve earned below the exemption level, the entire rest of your tax return is full of zeros. If you haven’t it gets trickier; if you earned $115,000, the $23,600 above the exemption is taxed at whatever tax bracket you’d be in if the entire $115,000 were taxable. Does that make sense?
As for how we afford it: the FEIE makes a huge difference, and if you’re making six figures you’re more likely to be able to afford the tax on the amount above the exemption.
so even if you’ve never lived in the US you’re supposed to file? I thought it only applied for a certain time after you leave the US, like 10 years or something?
Okay, that makes perfect sense, very well explained. It doesn’t sound so shocking since you’ve told me about the FEIE, although it still seems a bit cheeky. Presumably fluctuating interest rates can have a pretty huge effect on whether you end up paying or not.
Out of interest, what rate do you pay on earnings above the FEIE? Is it a high rate? For instance, as you will know only too well, income tax rates in the UK are tiered (nothing up to 6k-ish, 20% up to 37K ish, 40% above that) so if we had your tax system, we’d have to be paying 40% on any earnings about the FEIE, which would be quite a killer if you’ve also paid local tax.
Yes, we pay taxes twice unless there is a tax treaty. At one point I was paying 17% to US social security (since it is my company I pay both sides), 28-33% US income tax and another 20% in local-country income taxes… 70% lost in tax. (And people wonder why expats don’t like this system)
I left after less than a year for a multitude of reasons and moved to Dubai (0% local tax).
For income to be excluded, it must be “earned” so that does not apply to interest or dividends which also get taxed twice.
Yes. You must file if you are American - does not matter if you have lived or ever will live in the US. And it is against US law to give up your citizenship for tax reasons.
The other rules about living/working overseas is that you have to be there for a year before you can get the exclusion, and you can only maintain that status as long as you don’t return to the states for more than 30 days (as I recall) per year. There is a whole community of ex-pat workers who spend their time between jobs living on a beach in Mexico or some other place to maintain their status.
This is not entirely correct. There are two ways to establish overseas residence for the purpose of the income exclusion. One is to establish a “bona fide” residence overseas, that is, a place that is your primary place of residence. This is what I have. It doesn’t matter how much time I spend in the US. (Of course, since you don’t get the exclusion for the time you spend in the US, it wouldn’t work to establish a foreign residence and then live in the US.) The second way is to spend 11 months out of the country. This is what you would do if you were traveling or staying at hotels and had not established a permanent overseas address. And while I don’t think you can apply until you qualify, the exclusion is effective retroactively. That is, I was able to exclude income from the date I first moved to Panama on my subsequent tax returns.
For physical presence, you must be overseas for 330 days out of 365. And you must be IN a foreign country so if you take a boat from Portugal to Brazil, the time at sea does not count toward time abroad. Also days you depart/arrive in the US are US days.
I have a spreadsheet to keep track of days in the US and other countries so that we don’t accidentally become tax resident someplace where we don’t want to be.
Really???
In Canada, if you leave the country, you must pay taxes for any tax year in which you were partly resident (the year you left, i.e.) and also if you have any ties. So if you really left the country, no tax. If you sort of half live in Canada, or have ties that indicate you are coming back - like keeping the house or car, keeping retirement savings in Canadian banks, earn money here, etc. - then you are still considered enough of a resident to pay taxes, from what I’ve heard.
What happens if you did not know? This sounds like stories of European immigrants in the 70’s. The kid goes back to the old country to visit the grandparents, only to be tossed in jail because he’s still a citizen (i.e. of Greece) and has not performed his military service…
Only with Uncle Sam, it’s registering for the draft AND paying taxes… Oh well, at least if they toss you in jail you get free health care.
But as far as I know, those 330 out of 365 days don’t have to match up with the calendar year. If you were in a foreign country starting from June 2008 continuously til June 2009, you’d still have physical presence applying to the latter half of 2008, wouldn’t you? If that makes sense.
Perhaps the rules have changed since I worked overseas in the early 90s. I had a house in Brussels that I paid rent on and owned no property in the US, but I was still held to the 11 month rule. I seem to recall that it was also retroactive at that time. Plus, when you return to the states, you only pay taxes on the portion you earned in the states for that year. The income made overseas is still excluded.
How can you be an American citizen if you’ve never lived in the USA? Are you saying if your parents emigrate to say, Australia, before you’re born, never go back to the US even to visit, when you turn 18 in Australia and start working the IRS will come after you for taxes?
If you’re born to US citizens, you’re a US citizen from birth.
And I don’t know what the tax law is, but even if you were supposed to file I doubt the IRS will expend much energy coming after you unless you move back to the US.
This is correct.
I established residence in Panama in July 1992, and the regulations as far as I know haven’t changed since then.
From the IRS page on the exclusion:
Here’s the page on bona fide residence
Basically, you have to establish residence for an extended or indefinite period of time. Even if you were working on a two-year contract (for example) you might not qualify because it was for a specified period of time. When I moved here, it was for a one-year temporary assignment, but once that was extended, I qualified from the date I arrived.
Correct. But you can file an amended return for the previous year once you cross that threshold. For example, I’ll have been here (in round numbers) for six months of 2009, and six months of 2010. Once I hit the 330 days, I can amend my 2009 return and get a whopper of a refund.
True.
In the case of the fellow I know, his parents (both American) went to work in Saudi Arabia and have been there for about 30 years. He was born and raised in Saudi, speaks fluent Arabic and English and has never lived in the US (and as far as I know has only been to the US a few times). He is American, and has been paying tax to the US since he started working. He gets the benefits of the foreign exclusion, but still pays US tax on investments and interest he earns from bank accounts (even those not in US banks).
I have also been told that when you go to renew your US passport if you have not filed, you will be caught then. Living overseas and not being able to renew your US passport would be a big problem.
Ah, that’s the hitch in my giddyup. I was working under contract for an American company.