If you are a United States citizen or a green card holder and you live outside of the USA in a foreign country you may be eligible for the foreign earned income exclusion which would entitle you to a $104,100 exemption for the tax year of 2018. If you have earned personal income like wages, a salary, sales commissions, fees, or other earnings in a country other then the USA then you may be able to apply for this exclusion. Within this article we will outline the tax filing obligations you may have if you earned income from a foreign location. You might also have US tax filing obligations even if you are not earning any money but happen to be married to someone who did earn an income. All US citizens will have to file an IRS form 1040 for the previous years if your income is above a certain threshold. These thresholds can differ based on your certain taxable position.
How Does FEIE Work?
There are two major methods which can reduce your US tax payment by a large amount. These include the foreign earned income exclusion as well as the foreign tax credit. Neither of these tax methods gives you a reason not to file your income if it is above the filing threshold. The foreign earned income exclusion gives you the opportunity to exclude a certain amount of earned income from foreign countries. As of 2018, this amount is $104,100. This exclusion only applies to foreign earned monies. Other income that is earned like pensions, interest, dividends, capital gains and US-sourced income cannot be excluded from the foreign earnings income exemption. With that type of income, you are liable to pay the full US tax on these types of earned income.
The other method to lower your US tax bill is by using the foreign tax credit which you can implement using IRS form 1116. If your earnings were taxed by a foreign country you can subtract that tax from your US tax payment. You are only able to claim a foreign tax credit for foreign taxes on the same earned income that the USA is taxing. The fraction of your foreign taxes that are eligible for the tax credit is determined by the ratio of excluded income from the total income earned.
Combining FEIE & Foreign Tax Credits
If you decide to combine the foreign earned income exemption along with the foreign tax credit you can drastically reduce your US tax bill or possibly even lower it to zero. You absolutely must file your US tax forms even if your bill is zero after applying the foreign earned income exemption and or the foreign tax credit. If you have claimed the FEIE in previous tax years using the IRS tax form 2555 and this year you decide to use the foreign tax credit you will not be able to use the foreign earned income exemption again for another six years unless if you can get approval from the IRS so be sure to take this into consideration.
You may also be able to exclude housing expenses from your income that is taxed. You can calculate this exclusion using Part VI on Form 2555. There are also plenty of other aspects that you must consider when filing your taxes. This includes what is known as the Alternative Minimum tax which handles passive income like interest and capital gains. There is also the foreign housing exclusion if you rent your lodging in a foreign country. There are plenty of rules and regulations that take effect when filing your taxes and speaking directly with an international tax expert is one of your best options before you decide to file your taxes.
In order to file your tax returns you will either have to possess a social security number or an individual tax identification number. The IRS is required to notify the state department of taxpayers who own delinquent tax debt. The state department is prohibited from renewing a passport to a taxpayer with a tax debt of over $51,000.
What About Healthcare?
Another thing to pay attention too for American citizens working overseas is the affordable care act. If you work overseas you will have to declare yourself as not subject to the affordable care act. You will have to indicate you benefit from deemed covered status from a separate foreign health plan and don’t need to engage the US plan or have to pay any penalty fees that are related.
Ultimately the tax laws for American citizens working overseas is very beneficial. Consult a tax expert to maximise your deduction and to benefit from this tax exemption.
See How It Works
Check out the explainer video below to quickly learn what the FEIE law means and if it applies to you: