By Dan Yue, Senior Associate
Working abroad is a great opportunity to see the world and experience a different culture, all while still earning an income. But it’s important to remember that there are current tax regulations involved with reporting foreign income, which can become quite complicated. The following is a list of questions you should ask yourself when reporting your foreign income on your tax return.
What kind of foreign income is taxable on my tax return Form 1040?
As a U.S. citizen or resident alien, you must include all of your foreign-source earned income, including your foreign wages, commissions, and all income from foreign trusts and foreign bank and security accounts. In other words, you are taxed on your worldwide income.
Will I suffer a double taxation burden?
The quick answer is no. You could either get a foreign earned income exclusion or claim a foreign tax credit or deduction.
Foreign Earned Income Exclusion:
Generally, you are qualified to claim the foreign earned income exclusion if both of the following apply: you meet the tax home test and either the bona fide residence test or the physical presence test. If you qualify, you won’t pay taxes on up to $100,800 of your wages and other foreign earned income in 2016.
To meet the tax home test, your tax home must be in a foreign country throughout your period of bona fide residence or physical presence whichever applies.
To be considered a bona fide resident, you must be a U.S. Citizen or resident alien:
- That resides in a foreign country for the entire tax year without interruption.
- That does not make a statement to the foreign government denying residence status.
- That intends to make a home in the foreign country for an indefinite period of time – which you then must apply a facts-and-circumstances test to determine where you intend to make your home.
To pass the physical presence test, you must be a U.S. Citizen or resident alien in which both of these conditions must apply:
- You must be present in a foreign country for at least 330 full days.
- Those 330 full days must be within a consecutive 12-month period.
Foreign Tax Credit and Deductions:
Generally, you are able to choose to take either a credit or deduction for all qualified foreign taxes. The foreign tax credit is intended to relieve you of the double tax burden when your foreign income is taxed by both the United States and the foreign country.
Should I report all of my foreign financial accounts to the IRS if I don’t have foreign income?
There are two forms you may be required to file once your foreign interest passes the reporting threshold:
FBAR Form 114
FBAR means Report of Foreign Bank and Financial Accounts. You will need to file Form 114 if the maximum account value of a single account or aggregate of the maximum account values of multiple accounts exceeds $10,000 at any time during the calendar year reported.
Form 8938
The general rule is you are required to file Form 8938 on the specified foreign financial assets in which you have an interest in even if none of the assets affect your tax liability for the year. These assets would include the following:
- Financial accounts maintained by a foreign financial institution
- Foreign financial assets such as stocks, interest in a foreign entity and any financial instrument or contract not issued by a US person that are not held in an account maintained by a financial institution.
- You would face a different reporting threshold dependent upon your tax filing status. For instance, if you are married filing jointly, you satisfy the reporting threshold only if the total value of your specified foreign financial assets is more than $100,000 on the last day of the tax year or more than $150,000 at any time during the tax year.
Preparing and filing your year-end taxes can be an intricate time consuming process and adding foreign income implications can make that process even more complicated. If you have questions about your foreign income tax reporting requirements, please consult with your CPA.
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