How Do I Avoid Double Taxation When Living Abroad?

How Do I Avoid Double Taxation When Living Abroad?

Avoiding Double Taxation When Living Abroad

Taxpayers who live abroad but are still considered US persons — and are therefore subject to U.S. tax on their worldwide income — are understandably concerned that they will be double taxed on the same income. For example, if a taxpayer lives in a foreign country and earns income in that foreign country as an employee of a foreign company — and the country has already taxed the individual on the income they earned — are they also required to pay tax in the United States as well? The answer is, yes. However, while it is true that the U.S. taxes individuals on their worldwide income, it is also important to note that oftentimes taxpayers can avoid double taxation when they live abroad — or even if they live in the United States and have foreign-sourced income – if they qualify. Let’s take a brief look at how the process works.

Worldwide Income for Individuals

First, it is important to note that, unlike almost every other country across the globe, the United States utilizes a worldwide income tax model. That means taxpayers who are considered to be US persons, such as US citizens, lawful permanent residents, and foreign nationals who meet the substantial presence test are required to report their worldwide income in the United States on their U.S. tax return. This is true, even if the taxpayer lives overseas and earns all their income from foreign sources.

Foreign Earned Income (and Housing) Exclusion

Some taxpayers living abroad may qualify for the Foreign Earned Income Exclusion. Essentially, this means that taxpayers who qualify are able to exclude upwards of $110,000 of their foreign income on their U.S. tax return, along with some of their foreign housing expenses. Still, these taxpayers must file their U.S. tax return to claim the exclusion – and not just fail to file because they believe they qualify for FEIE – since this can lead to a potential passport revocation issue. Even if taxpayers file jointly, each filer can still claim the foreign earned income exclusion. It is important to note that there are some limitations, especially for U.S. government personnel who work overseas and certain U.S. contractors.

Foreign Tax Credits

As mentioned above, the foreign earned income exclusion is only for income that is considered earned and would not include other types of income such as passive income (interest, dividends, capital gains, royalties, real estate rental, etc.). However, Taxpayers who have already paid foreign taxes (including earned income), may qualify for foreign tax credits. This means that the taxpayer can apply taxes they paid in a foreign country on the income that they would have to pay U.S. taxes on. It is important to note, that the credit is not always a dollar-for-dollar credit and sometimes a taxpayer may have additional U.S. taxes that are due or they may have paid more in foreign taxes than they would have had to pay in US taxes and may have a carry-forward. Forward tax credits for individuals are claimed on Form 1116.

Treaty Election

Some U.S. persons who reside in a foreign country that is considered a treaty country may qualify to make a treaty election to be treated as a foreign person for tax purposes. As a result, that person would only be taxed on their US source income and not their worldwide income from a US tax perspective. There are some pitfalls to be wary of when it comes to treating elections, especially taxpayers who may be considered long-term residents because by filing a Form 8833 to make a treaty election to be treated as a foreign resident, they could inadvertently expatriate — and then become subject to an exit tax if they are covered expatriate with certain types of categories of income.

Late Filing Penalties May be Reduced or Avoided

For Taxpayers who did not timely file their FBAR and other international information-related reporting forms, the IRS has developed many different offshore amnesty programs to assist taxpayers with safely getting into compliance. These programs may reduce or even eliminate international reporting penalties.

Current Year vs. Prior Year Non-Compliance

Once a taxpayer missed the tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, taxpayers should consider speaking with a Board-Certified Tax Law Specialist who specializes exclusively in these types of offshore disclosure matters.

Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)

In recent years, the IRS has increased the level of scrutiny for certain streamlined procedure submissions. When a person is non-willful, they have an excellent chance of making a successful submission to Streamlined Procedures. If they are willful, they would submit to the IRS Voluntary Disclosure Program instead. But, if a willful Taxpayer submits an intentionally false narrative under the Streamlined Procedures (and gets caught), they may become subject to significant fines and penalties. 

Need Help Finding an Experienced Offshore Tax Attorney?

When it comes to hiring an experienced international tax attorney to represent you for unreported foreign and offshore account reporting, it can become overwhelming for taxpayers trying to trek through all the false information and nonsense they will find in their online research. There are only a handful of attorneys worldwide who are Board-Certified Tax Specialists and who specialize exclusively in offshore disclosure and international tax amnesty reporting. 

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure. 

Contact our firm today for assistance.