Q&A: Are lottery winnings in a foreign country taxable in the US?

Posted by Don W on September 25, 2010 under Expatriate Taxes, Foreign Bank Account Reporting (FBAR)

Q: I am a US citizen living in England.  If I were to win the UK lottery (which is tax free) – would I still be liable to pay taxes to the U.S?  I file U.S. taxes each year along with the foreign earned income form.

A: Yes, foreign lottery winnings are taxable by the IRS in the US (though they are generally exempt from the particular state income tax).  Do remember that if the aggregate value of of your foreign bank accounts exceed $10,000 at any time during the calendar year you have a legal requirement to file form TD F 90.22.1– please see the IRS FAQ page on FBAR (Foreign Bank Account Reporting).

Q&A: If I take a cruise departing from the States, how will it affect my Physical Presence Test?

Posted by Don W on August 2, 2010 under Expatriate Taxes

Q: I am a US expat living in Brazil.  I am trying to find some data on US expats taking cruises. I recall something about if a cruise departs from a US port, it will still be considered as time in the US and would count against the physical presence requirements. I have checked the IRS website as well as the State Dept Travel website, but I have been unsuccessful in finding the answer to this question.

A: If you are living in Brazil, then your tax home is Brazil.  That doesn’t change because you are on a cruise for a week or two. In this instance, you are still outside of the US and you have established a tax home already.

However, all bets are off if you are wondering if you can live on a cruise ship and also qualify for the Foreign Earned Income Exclusion.

The Physical Presence Test has two parts:

  • Tax Home
  • 330 days

You must meet both.  For more information on this test check out the Foreign Earned Income Exclusion section of the Expat Tax Basics page on our main site.

Q&A: I’m a partner in two offshore companies — how do I file?

Posted by Don W on May 13, 2010 under Business Tax Issues

Q: Hello, I am a U.S. citizen living in Europe and I am a partner in 2 separate companies here, with 50% in one and between 30% and 50% in the other. I am very confused and have several questions.

  1. As I live full time abroad, I get a 2-month extension for filing until June 15th, correct?
  2. What forms do I need to include with my 1040? As I understand it, I need the 2555 and the 5471?
  3. As I am a partner and receive distribution of earnings rather than a salary, this does not qualify as foreign earned income so I cannot elect the foreign earned income exclusion, correct? So would I still need the 2555 form?
  4. Income taxes and SS are taken from my earnings here. Do I qualify for US tax credit?

A: I will answer your questions in the order you presented them.

  1. Yes, you an get automatic extension until June 15th.
  2. From what you have presented you will need at the very least Form 2555, Form 1116 and
  3. If you are receiving distributions — and NOT dividends — for work done then yes, it does qualify as Earned Income.  Additional details about your situation would help us to provide a more specific answer.
  4. Income taxes and Social Security are two different issues.  If you paid income tax you probably qualify for the Foreign Tax Credit (see number 1).  Social Security is governed by whether or not there is a Totalization Agreement with the country in which you are residing.  If there is, then, generally, you are only required to pay into one system.  But you must pay into one or the other.

Q&A: I don’t think I’m actually an expat. Do I need to file?

Posted by Don W on under Expatriate Taxes, First Time Filing as an Expat

Q: Hi, I’m American but I live in the Netherlands and am married to a Dutch citizen.  I am not an expat, as I’m on a highly skilled migrant visa and I work for a Dutch company, earning euros. I’ve been told that I need to file a tax return in the US– can you advise?

A: Because you are a US citizen living and working abroad, you are an expat.  Let me qualify that – by our definition you are an expat!

All US citizens are required to report their worldwide income each year.  You do have to file.

Based on what your question it looks like you will have to file Married Filing Separate instead of Married Filing Joint.  If your husband is a non-resident alien with no exposure to the US then you must file MFS.

There’s good news, though:  the IRS provides two tools to help reduce, or eliminate, double taxation.  The first is the Foreign Earned Income Exclusion, which if you qualify, allows you to exclude up to $91,500 for the 2010 tax year.  The second tool is the Foreign Tax Credit.  This, potentially, gives you a dollar-for-dollar credit against your US taxes for taxes paid to foreign country.

It is more complex than that and various factors can determine the outcome.  But, that is the gist of it.

Our web site has a great deal of information about expat filing requirements on our Expat Tax Basics page.

Q&A: I’ll be working in another country but paid by my company in the US– what do I need to know?

Posted by Don W on under Expatriate Taxes, Relocation and Taxes

Q: I would like some information regarding expatriate tax as related to my somewhat unique situation. My company is planning to send me to the Dominican Republic to work with our offshore partners. Here are the specifics of my situation:

  • I will be working in the Dominican Republic for 1-3 years
  • I will be paid by my company in the US
  • My company has not incorporated in the Dominican Republic
  • I will simply be working with companies in the DR but will be working for and getting paid by my company in the US.
  • I plan to travel to the US at least twice each year, probably around Christmas and the 4th of July.
  • What are my options? Thanks again in advance for any information you can provide.


A:
The MOST important thing to remember is whether or not you will qualify for the Foreign Earned Income Exclusion. That is where the 330 day rule comes from.

All the time you return for meetings, vacation, medical emergencies, etc. count against it.  Are you going to be paying taxes in the Dominican Republic? If so, you will also be eligible for the Foreign Tax Credit.

You can also find a great deal of information on our Expat Tax Basics page on our main site.

Q&A: Is it better to be a contractor or an employee of a foreign corporation, for tax purposes?

Posted by Don W on February 22, 2010 under Business Tax Issues, Expatriate Taxes

Q: I’m an American citizen considering a 3 month contract with a Japanese company. I would be working in Japan and they would pay me as a contractor, not an employee. Right now I’m a sole proprietor.

Would it be better for tax purposes to incorporate (LLC or S Corp)? Would I pay any taxes in Japan? We’re also discussing a longer term contract where I would be in Japan for 270 days per year. Would I be better off as an employee or a contractor?

A: The short answer is an LLC or S Corp would pass through just like a sole proprietorship. Unless you would be making large sums it would not really be worth it, from a basic tax perspective. There may be legal or industry specific issues which make them attractive options.

The employee or contractor question is a tricky one. The big difference is whether you pay into US Social Security or into the Japanese system. Employees of foreign corporations are generally not required to pay into US system because they are paying into the foreign system. Those self-employed would be required to pay into the US system. Both statuses are eligible for the Foreign Earned Income Exclusion, for which you must meet the Physical Presence Test to qualify. However, self-employed taxpayers must pay Self-Employment Tax. This is comprised of the employee and employer portions of Social Security and Medicare. These taxes are not eligible to be excluded. It is possible to have all of your foreign income excluded and still have to pay Self-Employment Tax. We invite you to visit the Expat Tax Basics page on our main site for more information.

Tax returns for those filing as self-employed can be more complex– something to take into consideration.

Q&A: I’m about to be an Expat. What are some of the basics I need to know?

Posted by Don W on February 12, 2010 under Expatriate Taxes, First Time Filing as an Expat

Q: I’m moving to Portugal for up to four years beginning in May of this year. I’m looking for some assistance with my tax return and an estimate of what I’ll need to set aside for my U.S. taxes each year.

A: There are a couple of issues up front that you should consider.

First, if you want to claim the Foreign Earned Income Exclusion, you will need to meet the Physical Presence Test. This means being outside the US 330 out of 365 day period. Most expats tend to file extensions in their first year so that they can be eligible for the exclusion. Please visit our Expat Tax Basics page on our main site for more information.

Second, you are basically required to pay into a social security system. The US has Totalization Agreements with countries to ensure that you are not having to pay into two systems, but you must pay into one.

Third, we recommend that you contact an Portuguese tax expert as well. We use the information from Portuguese tax returns to calculate for tax paid. You can also find more information on taxation by country in the Foreign Tax: Country-Specific Sites section of our Self-Help Links page on our main site.

Q&A: My income is suddenly above the exclusion threshold. What now?

Posted by Don W on January 29, 2010 under Expatriate Taxes

Q:  I hold dual citizenship in the USA and Canada. I immigrated to Canada from the US and have been residing in Canada permanently since that time. My income is derived solely from my employment salary. At present, my wife (Canadian citizen) and I jointly own a house which we live in. We are still paying a mortgage on this property. Aside from our pension funds through our employers, we do not hold any other investments.

Up until the end of financial year 2008, my Canadian earnings have been below the exclusion threshold (when converted to US dollars). However, in 2009, my earnings exceeded that exclusion threshold for the first time. My understanding is that, provided my home country income tax is higher than it would have been in the US, I should be allowed to claim credits which eliminate my taxable income for US reporting purposes. Could you please help me understand the details and requirements better?

A: Unfortunately, regardless of whether your income was below the Foreign Earned Income Exclusion amount, as a US citizen you have an annual obligation to file a US tax return.

Second, individual taxpayers must be on a calendar year tax year. Other types of entities can have fiscal years that do not end on December 31st, but all individuals do. What we do for clients who are in countries that are not calendar year is to compile an annual income and taxes paid by month. This way we can have the correct calendar year amounts. We also convert the currency based on an annual monthly average for the particular year.

Third, unless your wife has an ITIN (similar to a Social Security Number– for more information please see this IRS page) and intends to report her worldwide income you will be required to file Married Filing Separate rather than Married Filing Joint.

Finally, we are not experts in any tax systems except the US.  We always encourage our clients to retain our counter-parts in the host country. Please see the Tax Links section off our Self-Help Links page on our main site for useful information on specific countries.

Q&A: My mortgage interest is almost the same as my income. Can I claim the interest and reduce the tax deduction?

Posted by Don W on under Expatriate Taxes

Q: I am a retired teacher living in England. I own a primary home and a holiday home in England. I am aware that my mortgage interest is deductible on my IRS form I submit from England. The question is: My mortgage interest is just about equal to my U.S. pension. That is the only income that I have from the U.S. My wife and I work over here and live off of that income. Our foreign income is below the 87,500 cut off so it is not taxable in the U.S. Can I claim all of the mortgage interest off of my pension income or must some of it be allocated to my foreign income therefore lowering the deduction from my pension?


A:
The Foreign Earned Income Exclusion reduces your total income first. Then, if you still have income you then subtract any adjustments. Then, you subtract out the Itemized Deductions. So, you can claim all of your mortgage interest on your Itemized Deductions, but you will only get the benefit if your Adjusted Gross Income (AGI) is positive.

There is a substantive issue for you and that is that pensions do not qualify for the Foreign Earned Income Exclusion. Only Earned Income is eligible. Please check out this link to an IRS page that explains further: http://www.irs.gov/businesses/small/international/article/0,,id=96811,00.html

My interpretation of the facts presented is that you are not eligible for the Foreign Earned Income Exclusion. You must report your pension on your US tax return and you should report your mortgage interest on your tax return. Based on what you have said, you should not have any tax liability because your mortgage interest is almost equal to your pension. Add in your two Personal Exemptions and you should have a Taxable Income of zero or less.

You do need to file however. And, if you have been claiming the Foreign Earned Income Exclusion in the past you may have to amend your returns and file correctly.

Q: I am a retired teacher living in England. I own a primary home and a holiday home in England. I am aware that my mortgage interest is deductible on my IRS form I submit from England. The question is: My mortgage interest is just about equal to my U.S. pension. That is the only income that I have from the U.S. My wife and I work over here and live off of that income. Our foreign income is below the 87,500 cut off so it is not taxable in the U.S. Can I claim all of the mortgage interest off of my pension income or must some of it be allocated to my foreign income therefore lowering the deduction from my pension?

A: The Foreign Earned Income Exclusion reduces your total income first. Then, if you still have income you then subtract any adjustments. Then, you subtract out the Itemized Deductions. So, you can claim all of your mortgage interest on your Itemized Deductions, but you will only get the benefit if your Adjusted Gross Income (AGI) is positive.

Q&A: Just found out that I should have filed. I want to avoid the bureaucracy but I don’t want to get in trouble. What should I do?

Posted by Don W on under Expatriate Taxes, First Time Filing as an Expat, Foreign Bank Account Reporting (FBAR)

Q: I worked in China for three years. While there I deposited my salary in a bank account and when I left the country I left money sitting in the account. While in China I filed and paid Chinese taxes.

After returning to the US, I learned that I was supposed to file taxes in both China and the US. I hate dealing with tax documents, so I did the easiest thing I could and just filed the missing years in the US as zero income.

Later, I learned that I was supposed to report the money I earned in China in the tax returns. I’d now like to access some of the money sitting in my account in China. I don’t want the hassle of re-filing tax returns and I don’t want to be double-taxed on the money.

The reason I’m asking this questions is because I recently got in touch with the Chinese bank to update my contact information and let them know I was living in the US. They sent me a form asking if I wanted to declare the account to the US government on a W-9 form.

I want to go through as little paperwork, expense and bureaucracy as possible. Therefore I’m not inclined to file a W-9 and declare the account to the government. Is the IRS going to come after me for money laundering?


A: It is clear from your question that you know you are not in compliance.  You know that you need to correct your prior years returns. And, you may need to file form TDF90-22.1(PDF)  which is used to report foreign bank accounts under your control IF your combined foreign balances ever equal $10,000 or more on any given day–sometimes referred to as FBAR (see IRS FAQ).  The penalties for not filing TDF 90-22.1 are very large.

You want to resolve this so you can access your funds without any concern for future actions against you. Amend your prior year returns to report any interest/dividends you received each year in your Chinese accounts. Determine if you have to file Form TDF 90-22.1.

It is important to note that you are not penalized unless you owe money.  So, it is possible that you would be fully covered by the Foreign Earned Income Exclusion and Foreign Tax Credits.  For more information on these, visit our Expat Tax Basics page on our main site.

You won’t know until you redo your tax returns.  Would you rather spend a few hours on your own, or pay a professional to do it, and know for certain that the issue has been put to bed or always wondering if you are going to get caught?

Compliance is always the easiest road because you get peace of mind.