Regardless of where you live, if you are a US citizen residing abroad, you must file a US federal tax return and pay US taxes. In other words, you are subject to the same income tax regulations as persons who live in the United States.

Do US citizens pay tax on foreign income?

Yes - Americans who earn foreign income are required to pay taxes if they meet certain filing thresholds. These thresholds are generally equivalent to the standard deduction for your tax filing status. 

As a U.S. citizen, you must pay taxes. If you are paid by a foreign employer overseas, you are still required to file your expat taxes. Depending on their last state of residence, some U.S. citizens living abroad also have to file state income taxes.

How much US tax do I have to pay if I work abroad?

Foreign income is taxed at the same marginal rate as income earned within the United States in the US tax code.

This implies that if your total income, regardless of where it was earned (and in what currency), exceeds any of the minimum levels, you as an American living abroad or a Green Cardholder will be required to submit a US federal tax return.

The IRS expects you to submit a tax return even if you did not live in the United States at any point during the year and earned all of your income in another country. Depending on where you lived previous to relocating abroad, you may also be required to file a state tax return.

Helpful resource: Tax preparation checklist

Avoiding Double Taxation on Income Earned Outside the U.S.

One concern with this tax structure is that an individual might be taxed twice on their earnings - once in their present resident country and once in the United States.

This circumstance is particularly significant for an American who lives overseas full-time and may be taxed as a resident in another country.

The overseas earned income exclusion is a provision in the US tax code that helps to prevent this unfavorable outcome. Individuals can deduct $107,600 ($108,700 for 2021) of income earned abroad from their US tax liability under the 2020 FEIE.

The Foreign Tax Credit is another tool for avoiding double taxation. In this situation, if Americans earning money abroad have paid or accrued tax to a foreign government, they may be able to decrease their US tax liability below the FEIE's limits.

What makes this provision complicated is that it only applies to particular forms of income, and each foreign country has its own set of concerns.

Reporting Foreign Bank Accounts to the IRS

Foreign bank accounts are still subject to IRS inspection, particularly if there was any income from interest and/or capital gains. Due to recent legislation, foreign bank accounts are subject to two different reporting requirements. They are the "FBAR" and "FATCA," both of which may be applicable to you.

FBAR (Foreign Bank Account Report)

FBAR (Foreign Bank Account Report) forms have been required since 1972. You must file them if you have foreign holdings of $10,000 or more or if you sign for payments from more than one foreign account, such as if you are the treasurer or accountant at your work.  From 2014 onward, the FBAR must be filed electronically with the Treasury Department as FinCen Form 114. The form should be submitted by April 15th each year (at the same time as Form 1040, but separately) with an automatic extension to October 15th if you live abroad.

Form 8938, FATCA (Foreign Account Tax Compliance Act)

Form 8938, FATCA (Foreign Account Tax Compliance Act) is also required to be filed with your Form 1040 if you have foreign assets exceeding $50,000.

Under FATCA, foreign banks have been reporting directly or indirectly to the IRS since January 1, 2015, so filing Form 8938 correctly is especially important.

Form 8938 example for foreign bank accounts, US citizens living abroad

How To Reduce US Income Taxes While Living Abroad

Even though expats are subject to U.S. income taxes, there are some special credits or exclusions that can reduce or eliminate these taxes completely. These are the foreign tax credit and exclusions from income.

Foreign tax credits and exclusions from income may not be claimed simultaneously. One or the other must be chosen.

Foreign Tax Credit

The credit is only available for foreign income taxes and excess profits taxes (or taxes paid in lieu thereof). If, for example, you go shopping for souvenirs or rent a country estate, you will not be credited for foreign value-added taxes, sales taxes, or property taxes.

Only the portion of your U.S. income tax derived from foreign income is eligible for a foreign tax credit. This amount is equal to the lesser of the amount of foreign income tax you paid, or an overall limit determined by IRS formula.

If you want to deduct foreign income taxes instead of taking a credit, you can do so as an itemized deduction on your Schedule A. However, it's usually better to take the credit. 

Exclusion from Income

Expats can exclude from gross income, if they qualify, foreign earned income up to an annual threshold ($105,900 in 2019, up from $103,900 in 2018), and foreign housing costs that exceed 16 percent of the foreign earned income exclusion with a cap of 30 percent.

Is there any benefit to using the foreign tax credit over the exclusions from income? The exclusions can be used regardless of whether you are subject to income tax in a foreign country. If your foreign tax obligation is small, the exclusions can be better than the foreign tax credit.

What else do Americans who live abroad need to know about US taxes?

In addition to your earned income, you'll need to record a number of other items while submitting your US federal tax return. You must also disclose any overseas accounts or assets that exceed a particular valuation threshold, according to the IRS. Even tax-deferred payments to overseas retirement funds, which may appear to be tax-free, may be taxable!

You must understand everything you need to know about doing US taxes while residing overseas, especially when it comes to filing US taxes.

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