A Tax Guide for US Citizens Living Abroad
No matter where you live, Algeria or Zimbabwe, if you are a US citizen or a Green Card holder, US taxes will always be by your side (Best love story ever?).
If you are a US citizen and you earn a personal income while living anywhere but the US, like a wage, a salary, a pension, commission, dividends, capital gains, farm income, or royalties, then you owe taxes to the IRS. You will be taxed on your worldwide income from all sources. Even if you left the US several years ago and all your income is from non-US sources, you will still have to pay taxes to the IRS since you are still a citizen of the United States of America.
When and What Form to file?
The Form to be filed is the same as the ones residents would file – Form 1040 with the relevant schedules. The thresholds that apply are also the same, with no difference on that front. If you fall below the prescribed minimum income, then you need not file the return. The thresholds are as follows:-
|Filing Status||Age||Minimum Income|
65 and older
|Married filing separately||Any age||$5|
|Married filing jointly||Under 65
65 or older (one spouse)
65 or older (both spouses)
|Head of Household||Under 65
65 or older
|Qualifying widow(er) with dependent children||Under 65
65 or older
Form 1040 is due on April 18th of 2022 (for the tax year 2021). But for those living abroad, an extension until June 15th is available automatically. You can request an additional extension to October 15 by filing Form 4868. However, interest will be charged on the unpaid tax from April 18, 2022, onwards.
The amount that you report on the Form must all be in USD regardless of the currency you are earning in. You may check the IRS official website for more information on currency exchange rates.
You must file an FBAR if you have authority over at least one financial account that is located outside the US, and the value of that is over $10,000 at any given point in that year. It needs to be filed electronically as FinCen form 114 with the Department of Treasury. Even for an FBAR, the due date is April 15. An automatic extension is allowed until October 15 of 2022. A separate extension form need not be filed for an FBAR.
You may also have to file Form 8938. This comes under FATCA and is considered parallel to FBAR but a little more complicated. It is used to report specified foreign financial assets if the total value of all the foreign financial assets is more than the reporting threshold. Assets here mean foreign pensions, foreign stockholding, foreign partnership interests, foreign mutual funds, foreign-issued life insurance, and foreign hedge funds. ‘Value’ here means the fair market value and these also need to be mentioned in USD. The due date for the form and the extensions are the same as Form 1040. The thresholds are:
|Unmarried||Total value more than $200,000 on the last day of the tax year or more than $300,000 at any given time during the tax year
|Married filing jointly||Total value more than $400,000 on the last day of the tax year or more than $600,000 at any given time during the tax year|
|Married filing separately||Total value more than $200,000 on the last day of the tax year or more than $300,000 at any given time during the tax year
Form 3520 will have to be filed if you made contributions or received any from a foreign trust, or received a large gift/ bequest from a foreign person. The due date for this is April 15 of 2022 (for the tax year 2021). Just like Form 1040, extensions in filing dates are applicable to this Form as well.
It is essential that you have a Social Security Number or an ITIN (Individual Tax Identification Number) before you start filing your taxes and look into claiming deductions and credits.
What are the tax exclusions or deductions that are available to expats?
Apart from the usual minimum income limit, there are a few other ways in which you can avoid paying taxes or reduce your tax liability while living and earning abroad.
Foreign Earned Income Exclusion–Form 2555 is to be used for determining this exclusion. This Form 2555 needs to be attached to Form 1040 when filing. You will qualify for this exclusion only if you satisfy both, the tax home test and the bona fide residence/ physical presence test. Refer to a CFO consulting service for more information on whether you qualify with respect to both these tests.
It allows US citizens living abroad to exclude up to $108,700 earned outside the US in their 2021 tax return. The amount that is to be deducted cannot be more than the amount you earn abroad in that year. The exclusion is also available only for the earned income and not for other income like pension, rent, dividends, etc.
For example, if you earn $128,700, then after claiming the deduction, only $20,000 will be the taxable amount. But if you earn $90,000, then you cannot claim a deduction of $108,700 – it has to be only $90,000.
Once you choose to claim the exclusion, this choice that you have made remains in effect for the subsequent years as well, unless you specifically revoke it (Revocation is not necessary if you do not have any foreign earned income)
Foreign Housing Exclusion–This can also be claimed on Form 2555. You can deduct the cost of rent from the overall gross income on your US tax return. For this, you need to qualify under the bona fide residence test or physical presence test. The foreign housing amount will be the amount for the total year minus the base housing amount. The base amount is determined by the IRS and is linked to the foreign earned income inclusion. Presently, it is at 16% of FEIE
They include expenses like utilities (except phone, TV), renter’s insurance, rental repairs, furniture, and parking rentals. They do not include expenses like buying property, purchasing furniture and accessories, and other things that increase the value of the property or are considered extravagant and lavish. There are limits to this amount that depends on the location as the cost of living varies according to where you live.
You also cannot claim less than the amount you are entitled to. If you choose to not take this exclusion, then you cannot take a foreign tax credit on the income that you can exclude.
Similar to Foreign housing exclusion is the Foreign housing deduction. The difference is that the exclusion is applicable only for employer-paid wages or salary, whereas the deduction is applicable only to self-employed expats.
Foreign Tax Credit–This can be done using IRS Form 1116. If your income is taxed by the foreign country, then you can remove that from your US tax and reduce your tax liability in the US significantly. Read more about the Foreign Tax Credit here.
You can get a tax refund under the Child Tax Credit of up to $3,000 for each child for the tax year 2021.
You can claim the Earned Income Tax Credit and Child and Dependent Care Credit as an expat as well. Consult a tax advisor to help you determine your eligibility for all the aforementioned credits.
Some things to keep in mind before you start filing
As mentioned before, make sure you and your dependents/spouse have an SSN or an ITIN.
If you have a foreign registered LLC or Corporation, then those finances need to be reported as well. Do not forget to include them. Depending on the type of business and your ownership stake, you may have to file either a Form 8832 or a Form 5471.
You may have to file state taxes as well especially if your last state of residence was California, Virginia, New Mexico, or South Carolina.
There are many other aspects that need to be considered as well like the Alternative Minimum Tax (AMT), passive income, earnings of a non-US spouse, itemizing deductions instead of standard deductions, etc.
The penalties for not filing taxes while living abroad are quite high. The IRS imposes penalties for both delayed filings and delayed payments. The consequences could be more severe if you are purposefully and willfully avoiding paying the taxes that you owe.
If you fail to file, then the penalty is 5% of the unpaid taxes for each month that it is delayed. If you fail to pay the tax, then the penalty is 0.5% of the unpaid tax for each month that the payment is delayed.
So clearly, there are many facets to filing your returns when as a US citizen you live, work, and earn a living abroad. It is advisable to consult a tax expert to go through all the various steps with utmost care and diligence.