US Expat Taxes for Americans Living in Mexico – What You Need to Know
There are an estimated 1,000,000 Americans living in Mexico.
There are plenty of good reasons for moving to Mexico: the climate, the people, the colorful culture, the cuisine, the beaches, the markets, the cost of living… the list goes on and on. As an American expatriate living in Mexico though, what exactly do you need to know about filing US expat (and Mexican) taxes?
All US citizens and green card holders are required to file a US federal tax return to the IRS, regardless of where in the world they live or where their income is generated.
US taxes – what you need to know
If your annual, global income exceeds US$12,550 (per individual) in 2021 ($12,400 in 2020), or $400 of self-employment income, or just $5 of any income if you are married to but filing separrately from a foreigner, then you are required to file Form 1040. While any tax you may owe is still due by April 15, expats get an automatic filing extension until June 15. This can be extended still further online until October 15 in needed.
If you have financial assets abroad worth over US$200,000, you should also file form 8938 declaring them.
If you have more than US$10,000 in total in foreign financial accounts, including all of your foreign registered bank and investment accounts, at any time during the tax year, you should also file FinCEN form 114, better known as an FBAR (Foreign Bank Account Report).
Thankfully, there are several ways in which Americans living in Mexico can reduce their US tax bill (most often to zero). The two primary ones are the Foreign Earned Income Exclusion, which allows you to exclude the first around US$110,000 from US income tax if you can demonstrate that you are resident in Mexico, and the Foreign Tax Credit, which gives you a dollar tax credit for every dollar of tax you’ve already paid in Mexico.
“Residents must pay taxes for their worldwide income, non-residents must pay only for income earned from Mexican sources.” – Santander
The Foreign Tax Credit is typically a preferable option if you pay more tax in Mexico than you would in the US, as you can carry the excess tax credits forward for use in future years.
Both of these IRS provisions must be actively claimed by filing the right forms, so if your global income exceeds the minimum IRS thresholds mentioned above, you still have to file a US tax return.
The United States – Mexico Tax Treaty
The United States – Mexico Tax Treaty covers double taxation with regards to income tax and capital gains tax, however due to a Saving Clause, the benefits are limited for Americans expats in Mexico. The treaty does ensure though that no one will pay more tax than the higher of the two countries’ tax rates though, and it also defines where taxes should be paid , which normally depends on where the income arises.
The way for US expats to avoid double taxation on their income arising in Mexico according to the treaty is to claim the US Foreign Tax Credit when they file, as descrived above.
For income arising in the US, Americans in Mexico can claim Mexican tax credits to the same value as US taxes paid to the IRS.
To claim the US Foreign Tax Credit, expats must file form 1116 when they file their federal tax return. By doing this, the vast majority of US expats in Mexico won’t end up owing any US income tax.
The US-Mexico Tax Treaty also has a clause that allows the Mexican government to send US expats’ Mexican tax information directly to the IRS, as well as their Mexican bank and investment account balances. Furthermore, the Mexican government can collect fines on behalf of the IRS, and penalties for not filing US federal returns and FBARs can be steep.
To claim a provision in the United States – Mexico Tax Treaty (other than claiming US tax credits), expats should use IRS form 8833.
Furthermore, the IRS doesn’t fully exempt capital gains from selling a primary residence. As such, US expats in Mexico should always consult with a US expat tax specialist to ensure that they understand the implications of buying or selling their home or Mexican investments.
Mexican taxes – what you need to know
Mexican tax returns are due on April 30, while estimated taxes owed should be paid on a monthly basis by the 17th of the month following the date the money was earned The Mexican equivalent of the IRS is called the SAT (Servicio de Administración Tributaria), or it is sometimes known as ‘Hacienda’.
There’s no capital gains tax in Mexico, but if you sell a property your gain after allowable costs is considered income.
Mexican income tax rates range from 1.92% to 35%. An American is considered a tax resident in Mexico if they have a home there, though if they have a home in another country too, where the majority of their income is sourced and the primary place of their business activities will be taken into account.
We strongly recommend that if you have any doubts or questions about your tax filing situation as a US expat living in Mexico, that you contact an expat tax specialist.
Expats in Mexico who are behind with their US tax filing because they were unaware of the requirement to file from abroad can catch up without facing penalties under an IRS amnesty program called the Streamlined Procedure, so long as they do so before the IRS contacts them about it.