This is a guest article by Hugo Lesser @ Bright!Tax
A lot of entrepreneurs choose to run their small business from abroad. For some it's a way to get around work visa requirements, for others it may be a tax savings decision, and many are simply drawn to the expat lifestyle.
Unfortunately for you, the IRS still needs to get theirs. If you're a U.S. citizen, you need file a federal tax return each year.
There are a few critical steps you can take to minimize your tax liability, and several important considerations that are unique to expat tax returns.
Use your expat status to reduce tax liability
You're not going to escape the IRS, but to their credit they are accommodating toward expats.
There are some key exclusions that allow you to partially reduce or entirely eliminate your U.S. tax liability.
The most common is the Foreign Earned Income Exclusion (FEIE), form #2555.
The FEIE allows expats, who can prove that they’re living abroad, to exclude the first $100,000 (inflation adjusted) in earnings each year.
The threshold for expat living abroad is as follows, per the IRS website:
"You are considered to live abroad if you are a U.S. citizen whose tax home is in a foreign country and you have been present in a foreign country or countries for at least 330 days out of a consecutive 12-month period."
If you're in a foreign country with a higher income tax rate than the U.S., then consider the Foreign Tax Credit (FTC) form #1116.
With the FTC you can claim a dollar for dollar tax credit for any income taxes you've already paid abroad, and potentially eliminate your entire IRS tax bill.
Bonus: The FTC credits rollover for future use.
Deadlines still apply so you have until June 15th to file, with a further extension available until October 15th upon special request.
Single-member LLC's are your wallet's best friend
Limited liability corporations registered in the U.S. with a single owner are considered ‘disregarded entities’ by the IRS.
Huh? Well, that means they don’t require separate corporate reporting, and any revenue or expenses can be included on the owner’s personal tax return.
There's a catch though, you need to "elect" to be considered a disregarded entity by filing a special form, form #8832 (#8858 in subsequent years).
Doing that allows you to use the personal exclusions mentioned above against your corporate profits.
The IRS knows your bank account balance
You're required to report any foreign bank or investment accounts if the total value of their combined balances is over $10,000.
Any bank account that you have control or signatory authority over qualifies, including small business accounts, even if the account isn’t in the your name.
For example: if you have a personal savings account and control over your small business account, and the two balances combined had a value of over $10,000 at any time during the tax year, you will need to file a Foreign Bank Account Report (FBAR).
Foreign banks report their U.S. clients’ account details to the U.S. government, so the IRS knows who should be filing. Penalties for not filing are substantial.
If you ignore this requirement, you will get penalized. From the IRS website,
"For willful violations, the inflation-adjusted penalty may be the greater of $124,588 or 50 percent of the balance in the account at the time of the violation, for each violation".
If business is good, the IRS wants to know
The Foreign Account Tax Compliance Act (FATCA) requires expats to report their foreign assets (not including tangible assets such as property) if they are worth a total of at least $200,000 at any time during the tax year.
Qualifying assets include savings and investments, and small businesses.
If your investments and the value of your small business pass this threshold, you should report them.
You're still going to pay for Social Security
Sole proprietorships and single owner LLCs registered in the U.S. are required to pay Social Security taxes.
If your business is registered abroad on the other hand, you aren’t.
Certain countries have Totalization agreements with the U.S. A totalization agreement means that you won't be penalized with a requirement to contribute to two separate social security programs.
There are dozens of countries that qualify including, but not limited to: Australia, Canada, Denmark, France, Germany, Ireland, Japan, Norway, Poland, South Korea, and the United Kingdom.
You can view a complete list of Totalization Agreements here.
In countries with Totalization, you can opt to have your foreign social security taxes credited toward your U.S. future social security benefits.
Filing U.S. taxes as an expat small business owner can be complex, and this article is not comprehensive.
The IRS offers an overview of the rules and required forms, just remember that mistakes can be costly.
As with anything tax related, consult a licensed professional for your specific needs.