How to File Your Expatriate Tax Return as an American Living Abroad
Before moving abroad, it is essential that you are completely comfortable with the process of filing your US expat taxes. The US is one of the few countries that actually taxes citizens on their worldwide income, even if the income is not earned in the United States.
There are obviously many things you need to know about filing your US expatriate tax return, and here are the most important points in this process.
1) Foreign Earned Income Exclusion
Up to 92,900 USD of foreign earned income may be excluded by qualifying US citizens who live and work abroad. As long as you pass the bona fide residence and/or the physical presence test and your income is earned in a regular place of business outside the US, it's likely that you will qualify for this exclusion. You will need to use Form 2555 and Form 1040 in order to receive this exclusion.
2) Foreign Tax Credit
If you are making money as a resident in another country, you will likely have to pay taxes in that country as well. The Foreign Tax Credit is designed to reduce the burden of double taxation. To take advantage of this credit you will need to file form 1040 and Form 1116 as part of your expatriate tax return (essentially, you can claim a credit on your US expat taxes for the foreign income taxes you have paid).
3) Foreign Bank Accounts
Although not part of your requirement from a tax perspective, it is very important to know that you must file a disclosure to the US authorities if you have over 10,000 USD in an overseas bank account at any time during the year (even if it's just for one day and its due to foreign exchange movements). Failure to do so each year can result in substantial penalties and jail time, although this has not been enforced on US expats. The FBAR form (Foreign Bank Account Reporting form) is due on 30 June of each year and must be submitted separately from your US expat tax return.
4) Dates for Filing
Normally, US income tax returns need to be filed by 15 April unless the 15th falls on a weekend, in which case the due date is moved to the next business day. In 2012 your taxes were actually due on 17 April. However, US citizens living abroad are entitled to an automatic extension to file their expatriate tax return on 15 June. Even with the extension, all US expat taxes still need to be paid by 17 April to avoid any interest charges. You can also file form 4868 if you need to get an extension to 15 October.
5) Foreign Exchange Impact
Your US expatriate tax return must be reported in US dollars. You can convert them on the daily rate of the transaction, or on the annual rate in cases of numerous transactions. You should check the conversion amount under both options to make sure you are saving as much money as possible.
6) Dual Taxation
The US has arranged tax treaties with more than 50 countries in an attempt to avoid dual taxation of US citizens. This differs country by country but is an important component for you to keep in mind in regards to how you will be taxed. The IRS Publication 901 has more information on it and will help you determine how it impacts your specific expatriate tax return.
7) Social Security
You are entitled to Social Security benefits as an expat. Publication 05-10137 from the Social Security Administration helps explain how US expats can manage their social security benefits while living outside the US. Visit the SSA website for more information: www.ssa.gov.
8) State Taxes
Each of the 50 states has different tax-filing requirements for US expats. Some states such as Florida, Texas and Washington have no personal income tax at all. States such as California and Virginia make it very difficult for expats to not file every year. We suggest that you consult with a US expat tax professional to determine your particular obligations.
9) Married to Non-US Citizen
Although this is not a topic that applies to all US expats, we find that it is a common situation and therefore worth addressing upfront. If you are a US citizen married to a non-US citizen, you may elect to file a joint return if both spouses elect to treat the spouse as a resident for current and future years on their US expat taxes. This allows the US to tax the non-US spouse’s worldwide income, but it also allows the spouse to utilise the Foreign Earned Income Exclusion for the tax year. A form W-7 needs to be used to create an Individual Taxpayer Identification Number (ITIN) in order to file jointly. There are a number of complexities to this rule, so if this pertains to you, please visit the IRS website or consult a US expat tax specialist.
As you can see, there are many important rules and regulations regarding US expat taxes. This is a classic example of a situation where knowledge is definitely power. Making sure you understand each of these points could greatly benefit you and hopefully save you some money!