Get to know the authorDual citizenship can create a gateway to extra freedoms – increasing travel possibilities and opening up new economic opportunities.
And yet, one added responsibility associated with holding two passports is potentially dealing with two separate tax systems (in the smartest way possible!). Today’s article aims at dispelling the myths surrounding US taxes for dual citizens as well as what expats can do to reduce their US tax burden overseas.
Do dual citizens need to file a US tax return?
Yes! Even if you’re a passport holder of another country who hasn’t lived in the US for years, you must file a tax return with the IRS. The US applies citizenship-based taxation, which means that expats must declare their worldwide income regardless of their country of residence.
Added pressure for those abroad to get (and stay) compliant with US taxes emerged when Congress introduced the Foreign Account Tax Compliance Act (FATCA) in 2010. Now, international banks are required to report US expats’ financial information to the IRS each year.
Are there ways that dual citizens can avoid double taxation?
Now, if you’re an American with dual citizenship living overseas, you may ask yourself:
“Does this mean I must pay taxes twice on the same income?”
Fortunately, in most cases, that won’t be the case. The IRS has various tax relief programs to reduce your US tax burden. And even better — in many situations, you won’t even have to pay any taxes to the US!
Here’s a look at a couple of the most commonly used US tax tools:
Foreign Tax Credit (FTC)
The Foreign Tax Credit (FTC) allows you to claim tax credits based on the foreign taxes you’ve already paid, therefore reducing your US tax liability.
Let’s say you owe $10,000 in US taxes to the IRS. However, as a dental surgeon in Chile, you’ve already paid $9,500 in Chilean income taxes.
As a result, you can claim up to $9,500 in tax credits – bringing your US tax payable to $500. If you work in a country with a higher tax rate than the US (such as Finland), the FTC makes a great deal of sense, and you likely will not pay any US taxes at all.
Read More: How to Claim the Foreign Tax Credit (FTC) with Form 1116
Foreign Earned Income Exclusion (FEIE)
The Foreign Earned Income Exclusion (FEIE) is another provision aimed at relieving expats of the burden of double taxation.
How? It allows you to exclude the first $112,000 of your income (and the maximum limit is adjusted each year to align with inflation).
So let’s say, for example, that you’re a web developer in Germany making $80,000 a year. You can exclude all that foreign income from your US tax return when claiming the FEIE! In order to do so, however, you must pass either one of these two tests:
Physical Presence Test:
You must prove to the IRS that you’ve spent at least 330 whole days outside of the United States (within any consecutive 365-day window).
The IRS considers a whole day to be 24 hours, beginning and ending at midnight. Let’s say you are a resident of France, but on May 27, 2022, you decided to hop on a plane at noon to get to Spain. In this case, the IRS won’t count the day as a full day.
Bona Fide Residence Test:
The Bona Fide Residence Test requires you to prove economic and social ties to your new home country. Documents that can help confirm this include proof that you’re paying foreign taxes, utility bills, or your permanent residency card.
Read More: The Foreign Earned Income Exclusion – What Is It? | Bright!Tax
Foreign Housing Exclusion (FHE)
The Foreign Housing Exclusion (FHE) allows an expat’s housing expenses to increase their excludable foreign income on their US tax return.
Here’s a quick list of housing expenses you can exclude under the FHE:
- – Rent
- – Utilities
- – Property insurance
- – Furniture rental
Pro tip: This is a great tool for US expats earning more income than the annual FEIE limit! Accounting for your housing expenses can help further reduce your taxable income. You file your FHE claim on the same tax form as the FEIE (Form 2555). However, you must qualify for either the Bona Fide Residence Test or Physical Presence Test to take advantage of this provision.
Read More: The Foreign Housing Exclusion: A Brief Guide for US Expats
What other reporting obligations do dual citizens have?
You may have to file more than just a tax return as a dual citizen overseas. If at any point during the year you hold more than $10,000 across all overseas financial accounts combined, you must also file the Foreign Bank and Financial Accounts (FBAR) report.
You file the FBAR with Form (FinCEN) 114. The type of financial accounts you must declare in the form include:
- – Bank accounts
- – Mutual funds
- – Brokerage accounts
Read more: FinCEN Form 114: How to file the FBAR | Bright!Tax
What do I do if I’m behind on my taxes?
If you’re reading this article and realize that you have never filed a US tax return as a dual citizen, this news might come as a shock.
But there’s no need to worry — the IRS has an amnesty program called the Streamlined Filing Procedure to help expats who are behind on their taxes catch up without any penalties.
At Bright!Tax, we’ve helped thousands of US expats worldwide catch up on their taxes through the Streamlined Filing Procedures program with complete peace of mind. Feel free to reach out to one of our trusted CPAs to learn more!
