Are You an American Living Abroad? Here Are the Essential Tax Facts to Consider

It can be logical to assume that because you've moved out of the country, you no longer have to pay taxes on any money you earn. It can be logical... but it is also incorrect.

Nearly all United States citizens must file a Federal Tax Return every year. This is true regardless of where in the world they are or why they happen to be there. The IRS still wants to know about all money you're making worldwide, including but not limited to things like wages, salaries, interest payments, dividends that you receive, rental income, and more.

Having said that, it's equally important to note that most people don't end up actually owing taxes under these circumstances. Credits like the Foreign Earned Income Exclusion, the Foreign Tax Credit, and others can help offset or even totally erase any liability you may have.

That, of course, is far from a guarantee. This is why, if you're an American that happens to be living abroad for any appreciable length of time, there are several critical things to consider when it comes to your taxes moving forward.

Expats and Filing Taxes: Breaking Things Down

One of the most important things to understand about being an American living abroad and filing for your taxes is that credits like those outlined above don't just happen automatically.

If you are someone who qualifies for the Foreign Earned Income Exclusion, for example, you need to go out of your way to elect to use it. You do this by filing Form 2555.

You should know that it isn't just anyone that gets to use the Foreign Earned Income Exclusion. To qualify, you need to pass one of two tests: the Physical Presence test, or the Bona Fide Residence test.

The Physical Presence Test is relatively straightforward. You simply need to be physically present inside the country that you now live in for at least 330 out of 365 consecutive days. The logic is that if you're able to meet that requirement, you likely are a true resident of that country.

The Bona Fide Residence test is a bit different. It requires you to have lived outside the United States for A) at least one full calendar year, and B) you can have no present intention of moving back to the United States. This is essentially designed to prevent contractors who spend months at a time working in a foreign country from taking the credit when they know they are not "residents" due to the inherently temporary nature of their employment.

Given the Physical Presence Test is based on 330 out of 365 consecutive days, not a calendar year, the 330 days will almost always include portions of 2 calendar years. That's okay because the IRS allows you to file for an extension, Form 2350, which gives you until October 15th to meet the 330 out of 365 qualifying period. When the qualifying period includes portions of 2 calendar years the maximum exclusion must be prorated between the two years. The maximum exclusion for 2023 is $120,000, up from $112,000 in 2022.

Additional Considerations About Living Abroad and Paying Taxes

Another important thing to keep in mind about being an American while living abroad has to do with any potential state taxes that you might have to pay. As is true when you move from state to state, many will continue to tax you long after you've left unless you "permanently sever ties" with the location in question. This means that even if you move out of the country, there is a very real chance that you could still have to file a state tax return.

Many states can and will often continue to seek taxes if you have a valid driver's license or other form of state identification. Some even continue to charge if you have a spouse or child who lives there, if you're still registered to vote there, if you have an open bank account there, and more. California, New Mexico, South Carolina, and Virginia are known for this type of thing so be sure to check into the state tax implications before you just assume you don't have to pay them.

Finally, there's been so much talk about the potential money you could owe in taxes while living abroad that it's important to mention the benefits you might receive as a part of the situation, too. Be aware that it is possible to continue to receive Social Security benefits, for example, even if you retire in another country. There are only a select few countries where this does not apply including Cuba, North Korea, Belarus, Kazakhstan, Moldova, and Tajikistan, along with a few others.

Even though you won't receive payments during your time in these countries, you can file for back payments if you end up moving to any country that is not on that list. However, none of this happens automatically and you must know that it is an option to take full advantage of it during your time outside of the country, regardless of how long that might be.

Overall, the complicated nature of living abroad and paying taxes in the United States underlines the importance of bringing in a professional if this is something you don't feel you can accurately do yourself. Just because you're out of the country doesn't mean someone won't be there for you. Thanks to the Internet you can make sure they have all of your important financial records so they can take care of all the hassle on your behalf. They can also help you avoid a lot of the late fees and other financial penalties that you might be subject to if you make mistakes.

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