- 1 Do Americans Abroad Residing in a Tax-Free Country Pay U.S. Taxes?
- 2 Worldwide Income
- 3 Foreign Earned Income Exclusion
- 4 No Substantial Presence or Exception
- 5 Treaty Election
- 6 Are You Out of Compliance?
- 7 Late Filing Penalties May be Reduced or Avoided
- 8 Current Year vs Prior Year Non-Compliance
- 9 Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)
- 10 Need Help Finding an Experienced Offshore Tax Attorney?
- 11 Golding & Golding: About Our International Tax Law Firm
Do Americans Abroad Residing in a Tax-Free Country Pay U.S. Taxes?
Unlike almost every other country across the globe, the United States follows a worldwide income taxation model for individuals who are considered U.S. persons for tax purposes. Typically, this involves U.S. Citizens, Lawful Permanent Residents, and foreign nationals who meet the Substantial Presence Test. If an individual taxpayer falls into any of these three categories then they (generally) have to pay U.S. taxes on their worldwide income, even if the income is sourced in a foreign country and even if they live in a foreign country. So, what happens to Americans who move to a tax-free country, are they still required to pay US taxes?
The short answer is yes, taxpayers who are US persons for tax purposes and live in a tax-free country are still required to pay US taxes on their worldwide income. Typically, the only way around this for individuals is if they:
Are neither a U.S. citizen nor lawful permanent resident and do not meet the substantial presence test,
Are a resident that qualifies for a treaty election, or
They formally expatriate from the United states so they are no longer a US person for tax purposes.
Even though technically just because the taxpayer lives in a foreign country that is tax-free does not exempt them from U.S. tax, they may still be able to avoid (or minimize) US taxes as follows:
Foreign Earned Income Exclusion
If the American qualifies for the foreign earned income exclusion, then even though they live in a tax-free country they may be able to exclude upwards of $110,000 from taxes on their U.S. tax return. Still, it is important to note that the taxpayer must file the tax return and claim the foreign earned income exclusion. In other words, the Taxpayer cannot simply avoid filing the return just because they make less than the exclusion amount, because how does the IRS know a person makes less than the exclusion amount — unless they file the tax return and claim the exclusion?
There is an additional supplementary exclusion for foreign housing, and taxpayers who file their tax returns jointly can each claim the foreign earned income exclusion. So, when mixed together in a pot, a qualifying American couple can still exclude upwards of $250,000 a year.
No Substantial Presence or Exception
If the taxpayer was only required to be a US person for tax purposes because they met the substantial presence test, then they can typically avoid having to pay U.S. tax on their worldwide income if they do not meet the substantial presence test. Likewise, even if they do meet the substantial presence test, they may qualify for some of the exclusions or possibly the closer connection exception. Like the foreign earned income exclusion, taxpayers are still required to file certain forms such as a 1040NR — along with Form 8840 or Form 8843.
Most of the foreign countries that the U.S. has entered into tax treaties with are not tax-free jurisdictions. But, if the taxpayer does reside in a tax-free country that has entered into a tax treaty with the United States, and the taxpayer is able to show that they meet the foreign resident election requirements under the treaty, then they can elect to be treated as a foreign person for tax purposes and avoid being taxed by the United States on their worldwide income. Thus, instead of filing a Form 1040, they file a Form 1040-NR to report their U.S.-sourced income only. These types of treaty elections can be red flags, so taxpayers should be sure to meet the requirements before filing.
Are You Out of Compliance?
For taxpayers who may have misunderstood the U.S. tax and reporting requirements for Americans who live overseas — even when they live in tax-free countries — the IRS has developed various amnesty programs to safely assist taxpayers with getting into compliance with missed tax return filings, incorrect tax return filings, and unreported international information reporting forms such as the FBAR, Form 8938 and Form 3520.
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.