The Best Deductions and Credits for Self-Employed Expats in 2021
Since the Civil War, the US has employed a citizen-based taxation system, which means all US citizens, including Americans living abroad, have to file US taxes every year. The requirement also applies to self-employed US expats. It therefore makes sense for self-employed expats to make the best possible use of allowable business deductions to reduce their US tax bill.
Filing rules for self-employed expats
All Americans, including self-employed expats, are required to file US taxes every year, even if they’re filing foreign taxes in another country too.
The only Americans who don’t have to file US taxes are those who earn below the minimum filing thresholds The minimum filing threshold for self-employment income is very low at just $400 a year, and lower at just $5 for Americans married and filing separately from a non-US spouse.
Expats’ global self-employment income should be reported on Schedule C.
US self-employment taxes are calculated on Schedule SE and payable on net-profits at a rate of 15.3% on the first $137,700 (in 2020) of self-employment income, of which 12.4% is social security tax and 2.9% Medicare tax. Above this income threshold, only the 2.9% medicare tax is payable.
Avoiding double taxation
Millions of self-employed expats live in countries where they have to pay foreign income tax and social-security taxes.
When they file their US tax return, they can additionally file Form 1116 to claim the Foreign Tax Credit, which gives them US income tax credits up to the same value of the foreign income taxes they’ve paid. For many Americans, this will reduce their US tax bill to zero. American expat parents can also claim the refundable Child Tax Credit, which, if they don’t owe any US tax already, will provide them with a refund.
“If you are a self-employed U.S. citizen or resident, the rules for paying self-employment tax are generally the same whether you are living in the United States or abroad.” – the IRS
Alternatively, Americans living abroad can file Form 2555 to claim the Foreign Earned Income Exclusion, which lets them exclude the first around $110,000 of their earned income from US income tax, regardless of whether they’re paying foreign income taxes or not.
However, neither of these claimable IRS provisions reduces self-employed expats’ US social security or Medicare tax liability, which as not considered income taxes.
The US has signed social security treaties called Totalization Agreements with 27 countries, so self-employed expats who live in one of these countries won’t have to pay social security tax twice, in their country of residence and to the US.
The only way to avoid US social security tax for expats who don’t live in one of these countries is to establish a foreign corporation and arrange to be paid as an employee of the new corporation. While this can definitely benefit some Americans abroad, establishing a corporation comes with other US reporting and tax obligations, so a detailed analysis of the costs and benefits should be made in each case.
The Best Deductions for Self-Employed Expats
US self-employment taxes are due based on net profit, so all expats can reduce their self-employment tax bill by ensuring that they claim all the available, relevant business deductions.
Many expats are surprised to learn about the costs they can deduct:
– Office rental (and utility/services costs) or home office expenses. If you work from home, you can deduct a proportion of your home costs relative to the amount of your home you use primarily for work. This can include a portion or rent, mortgage, services, utilities, internet, taxes, and cleaning.
– Equipment and asset purchase or rental for the business, including computers and hardware (above a certain value, they must be calitalized)
– Any costs incurred promoting the business, including advertising, branding, website, etc
– Any travel costs relating to the business, including accommodation, and 50% of meals while travelling for business
– Legal and professional fees, such as accounting, and local business taxes
– Software, stationary, and office supplies, including antivirus protection and any other business related security
– Training or education, including magazines and books etc for the purpose of evolving your business skills
– Health insurance premiums, including dental, if the policy is in the name of the business of the business owner.
It is important to keep records of all the business expenses you claim, in case you should ever have to demonstrate the deductions to the IRS as part of an audit.
Estimate quarterly payments
US self-employment taxes have to be paid quarterly in estimated payments in advance, calculated as 0.15 times your estimated net earnings.
Payments should be made on April 15, June 15, September 15 and January 15.
At the end of the year, when you file your return, you can either pay any additional due, or receive a refund if you’ve overpaid.
What if you live abroad but haven’t been filing?
There’s a voluntary IRS amnesty program called the Streamlined Procedure that allows expats who are behind with their US tax filing from abroad because they weren’t aware of or didn’t fully understand the requirement to file to catch up without facing penalties.