Living outside the United States can create unique tax and reporting obligations. Many U.S. citizens and resident aliens are surprised to learn that moving abroad does not automatically end their U.S. tax filing responsibilities.
U.S. expats may still need to file a U.S. income tax return, report worldwide income, disclose foreign financial accounts, and consider additional international reporting forms. One of the most common foreign reporting requirements is the FBAR, formally known as FinCEN Form 114, Report of Foreign Bank and Financial Accounts.
This article provides a high-level overview of U.S. expat tax filing issues, FBAR reporting, Form 8938, foreign earned income exclusions, foreign tax credits, and common mistakes taxpayers should avoid.
The United States generally taxes U.S. citizens and resident aliens on worldwide income, even when they live outside the country.
This means a U.S. citizen living in Germany, Canada, Mexico, the United Kingdom, Australia, or another country may still need to file a U.S. tax return and report income from both U.S. and foreign sources.
Common types of income that may need to be reported include:
The fact that income was earned outside the United States or taxed by another country does not automatically remove it from U.S. reporting.
FBAR stands for Report of Foreign Bank and Financial Accounts. The FBAR is not filed with the regular income tax return. It is filed electronically with the Financial Crimes Enforcement Network, commonly known as FinCEN.
The FBAR is used to report certain foreign financial accounts when the taxpayer has a financial interest in or signature authority over those accounts and the aggregate value of all foreign financial accounts exceeds the filing threshold.
The FBAR is an information report. It does not directly calculate income tax, but failing to file can result in significant penalties.
A U.S. person generally must file an FBAR if they have a financial interest in or signature authority over foreign financial accounts and the aggregate value of those accounts exceeds $10,000 at any time during the calendar year.
For this purpose, a U.S. person may include:
The $10,000 threshold is based on the combined maximum value of all foreign financial accounts, not each account individually.
Assume a taxpayer has three foreign bank accounts during the year:
No single account exceeds $10,000. However, the combined maximum value is $10,500. The taxpayer may have an FBAR filing requirement because the aggregate foreign account value exceeded $10,000.
This is one of the most common misunderstandings about FBAR reporting.
FBAR reporting may apply to many types of foreign financial accounts, including:
The account does not need to produce income to be reportable. An account can have no interest income and still trigger FBAR reporting if the aggregate value threshold is met.
A taxpayer may have an FBAR filing requirement even if they do not personally own the money in the account.
For example, an employee, officer, trustee, or business owner may have signature authority over a foreign account. If that person can control the disposition of funds in the account by direct communication with the financial institution, FBAR reporting may be required.
Signature authority issues can arise for:
These situations should be reviewed carefully because the reporting obligation may exist even without beneficial ownership.
The FBAR is generally due April 15, with an automatic extension to October 15. A separate extension request is generally not required for the automatic FBAR extension.
Although the FBAR due date generally aligns with the individual tax filing season, the FBAR is filed separately from Form 1040.
Taxpayers required to file an FBAR should keep records for each reportable account.
Records should generally include:
Taxpayers should also keep copies of filed FBARs and supporting documents, such as bank statements or account summaries.
FBAR and Form 8938 are related but separate reporting requirements.
The FBAR is filed with FinCEN. Form 8938, Statement of Specified Foreign Financial Assets, is filed with the IRS as part of the taxpayer’s income tax return when applicable.
A taxpayer may need to file:
The thresholds, assets covered, filing procedures, and penalties differ. Form 8938 generally applies to specified foreign financial assets and has different thresholds depending on filing status and whether the taxpayer lives in the United States or abroad.
Taxpayers should not assume that filing one form automatically satisfies the other requirement.
Some expats may qualify for the foreign earned income exclusion. This exclusion may allow qualifying taxpayers to exclude a portion of foreign earned income from U.S. taxable income if they meet specific requirements.
To qualify, the taxpayer generally must have foreign earned income, a tax home in a foreign country, and satisfy either the bona fide residence test or the physical presence test.
The foreign earned income exclusion can be helpful, but it does not eliminate all filing obligations. A taxpayer generally must file a U.S. tax return and claim the exclusion properly.
The exclusion also generally applies to earned income, not investment income, pension income, rental income, or capital gains.
Many expats pay income tax to the country where they live or work. The foreign tax credit may help reduce double taxation by allowing a credit for certain foreign income taxes paid or accrued.
The foreign tax credit is often an important planning tool for expats, especially when foreign income is taxed by both the United States and another country.
Choosing between the foreign earned income exclusion and foreign tax credit requires analysis. In some cases, one approach may be more beneficial than the other. In other cases, both may apply to different types of income.
U.S. citizens and resident aliens abroad who are self-employed may have additional issues.
Foreign self-employment income may be subject to U.S. self-employment tax unless an exception applies, such as coverage under a totalization agreement. Self-employed expats may also need to consider:
Self-employment tax is often overlooked because taxpayers focus only on income tax.
Expats who own foreign rental property may need to report rental income and expenses on a U.S. tax return.
Foreign rental property raises several issues, including:
Foreign real estate itself is not always reported on an FBAR, but foreign accounts connected to the property may be reportable.
Foreign pensions and retirement accounts can be especially complicated. Some foreign retirement accounts may have income tax reporting, FBAR reporting, Form 8938 reporting, treaty considerations, or other disclosure requirements.
The U.S. tax treatment may differ from the tax treatment in the foreign country. A plan that is tax-favored abroad may not receive the same treatment under U.S. tax rules.
Foreign pension issues should be reviewed carefully, especially when contributions, employer contributions, distributions, transfers, or account growth are involved.
U.S. tax returns are generally reported in U.S. dollars. Expats may need to convert foreign income, expenses, assets, and account values into U.S. dollars.
Currency conversion issues may affect:
Taxpayers should use reasonable and consistent exchange rates and maintain records supporting the amounts reported.
Common mistakes include:
These mistakes can create penalties, amended returns, delayed filings, and stress for taxpayers living abroad.
Taxpayers who discover missed FBARs or unreported foreign income should not ignore the issue. The proper correction method depends on the facts, including whether income was reported, whether taxes were paid, why the forms were missed, and whether the failure was non-willful.
Possible paths may include:
Taxpayers should seek professional guidance before filing late forms or responding to IRS or FinCEN notices.
U.S. expats should consider:
International tax planning is often easier before filing deadlines or account issues arise.
Assume a U.S. citizen lives in Spain and has two local bank accounts. One account has a maximum balance of $7,000 during the year, and the other has a maximum balance of $5,000.
Even though neither account individually exceeds $10,000, the combined maximum value is $12,000. The taxpayer may have an FBAR filing requirement.
The taxpayer may also need to file a U.S. income tax return reporting worldwide income, even if all income was earned in Spain.
Assume a U.S. citizen works in Germany and earns wages from a German employer. The wages are taxed in Germany.
The taxpayer may still need to file a U.S. tax return. Depending on the facts, the taxpayer may be able to claim the foreign earned income exclusion, foreign tax credit, or both in some combination. Foreign bank accounts used to receive wages may also create FBAR reporting obligations.
Assume a U.S. person works for an international company and has signature authority over the company’s foreign bank account. The person does not own the account personally.
Even though the funds belong to the company, the person may still need to consider FBAR reporting because signature authority can create a filing obligation.
Foothills Accountants assists U.S. citizens, resident aliens, expats, and internationally mobile taxpayers with U.S. tax filing and foreign account reporting issues.
Our work may include:
Foreign tax and reporting rules can be complex, but proactive planning can help taxpayers stay compliant and avoid surprises.
This Content is for informational purposes only. Nothing contained herein constitutes accounting, tax, financial, investment, legal or other professional advice, and, accordingly, the author and the distributor assume no liability whatsoever in connection with its use. This Content is not an exhaustive explanation of any topic, practice or process. You should seek the advice of a licensed professional before making any accounting, tax, financial, investment or legal decision.
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