Do Expats Pay Taxes in Both Countries?

The United States taxes its citizens and green card holders on their worldwide income, regardless of where they live or earn it. This unique approach often leads individuals living and working abroad to question if their income is subject to taxation in both their country of residence and the U.S. However, U.S. tax law and international agreements include provisions to prevent double taxation on the same income.

Understanding US Worldwide Taxation

The United States operates a “citizenship-based taxation” system. This means U.S. citizens and green card holders must report all worldwide income to the Internal Revenue Service (IRS), regardless of their location or income source. This differs from most countries, which tax individuals based on residency.

A “U.S. person” for tax purposes includes U.S. citizens, lawful permanent residents, and individuals meeting the substantial presence test. This test generally classifies someone as a U.S. resident if they are present in the U.S. for at least 31 days in the current year and 183 days over a three-year period, calculated by a specific formula. U.S. persons are subject to U.S. federal income tax on their worldwide income.

Failing to comply with U.S. tax filing obligations can result in significant penalties. Penalties for not filing certain informational forms, such as those related to foreign financial accounts, can be substantial.

Key Strategies to Mitigate Double Taxation

To alleviate potential double taxation for U.S. citizens and residents living abroad, the U.S. tax system provides several mechanisms. These include the Foreign Earned Income Exclusion, the Foreign Tax Credit, and income tax treaties.

Foreign Earned Income Exclusion (FEIE)

The Foreign Earned Income Exclusion (FEIE) allows qualifying individuals to exclude a specific amount of foreign earned income from U.S. taxation. For 2025, the maximum exclusion is $130,000. If both spouses qualify and elect the FEIE, they can each exclude this amount.

To qualify for the FEIE, an individual must have foreign earned income, a tax home in a foreign country, and pass either the Bona Fide Residence Test or the Physical Presence Test. Foreign earned income includes wages, salaries, professional fees, or self-employment income for services performed abroad. Passive income, such as interest, dividends, or rental income, does not qualify.

The Bona Fide Residence Test requires an individual to be a bona fide resident of a foreign country for an uninterrupted period including an entire tax year. This test focuses on the taxpayer’s intent to reside in a foreign country, demonstrating ties to that country.

The Physical Presence Test requires an individual to be physically present in a foreign country for at least 330 full days during any 12-month period. To claim the FEIE, qualifying individuals must file Form 2555, “Foreign Earned Income,” with their U.S. tax return.

Foreign Tax Credit (FTC)

The Foreign Tax Credit (FTC) allows U.S. taxpayers to subtract foreign income taxes paid to a foreign country directly from their U.S. tax liability. This credit is typically a dollar-for-dollar reduction in U.S. tax, advantageous when foreign tax rates are higher than U.S. rates.

The FTC is often more beneficial than the FEIE for individuals with high foreign tax burdens or passive income, as passive income does not qualify for the FEIE. The credit is subject to limitations, ensuring it only offsets U.S. tax on foreign-source income. Taxpayers claim the FTC using Form 1116, “Foreign Tax Credit (Individual, Estate, or Trust).”

Choosing Between FEIE and FTC

Choosing between the Foreign Earned Income Exclusion and the Foreign Tax Credit depends on individual circumstances. The FEIE reduces taxable income, while the FTC directly reduces U.S. tax liability. Factors to consider include the amount of foreign earned income, foreign taxes paid, eligibility for the foreign housing exclusion, and future foreign residency plans.

If foreign taxes paid are low or non-existent, the FEIE might be preferable. If foreign taxes are high, the FTC could be more advantageous, potentially eliminating U.S. tax liability on foreign income.

Tax Treaties

The United States has income tax treaties with many countries to prevent double taxation and resolve tax residency issues. These agreements establish which country has the right to tax specific income types. Most U.S. tax treaties include a “saving clause” that preserves the U.S. right to tax its citizens and residents as if no treaty existed.

Despite the saving clause, tax treaties offer benefits. They include “tie-breaker rules” to determine a single country of tax residency when an individual is considered a resident by both countries. Treaties can also reduce withholding taxes on certain income, such as dividends and interest, and provide specific exemptions for income earned by students, teachers, or researchers.

Additional Reporting and Tax Considerations

Beyond income tax mitigation strategies, U.S. expats face additional reporting requirements and tax considerations related to foreign financial assets and other income types.

Foreign Bank Account Reporting (FBAR)

U.S. persons with a financial interest in or signature authority over foreign financial accounts must file a Report of Foreign Bank and Financial Accounts (FBAR) if the aggregate value of these accounts exceeds $10,000 at any point during the calendar year. This reporting is done on FinCEN Form 114 and is submitted electronically to the Financial Crimes Enforcement Network (FinCEN).

The FBAR is a reporting requirement, not a tax, but non-compliance can lead to severe penalties. Penalties for non-willful or willful violations can be substantial.

Foreign Account Tax Compliance Act (FATCA)

The Foreign Account Tax Compliance Act (FATCA) is a reporting requirement aimed at preventing tax evasion by U.S. persons holding financial assets outside the United States. FATCA requires certain U.S. taxpayers to report specified foreign financial assets on Form 8938, “Statement of Specified Foreign Financial Assets,” filed with their annual income tax return.

FATCA reporting thresholds vary by residency and filing status. For U.S. citizens living abroad, the threshold for single filers is $200,000 on the last day of the tax year or $300,000 at any time. For married individuals filing jointly and living abroad, thresholds are $400,000 on the last day of the tax year or $600,000 at any time. Both FBAR and FATCA involve reporting foreign financial accounts, but they have different thresholds, cover different asset types, and are filed with different agencies.

State Tax Obligations

U.S. expats may also have state tax obligations, depending on state-specific residency and domicile rules. State tax residency is determined by factors like the location of their permanent home, time spent in the state, and their “center of vital interests.” Some states may consider an individual a resident even if they live abroad, particularly if strong ties to the state are maintained. Individuals should review their former state’s residency rules to determine if a filing requirement exists.

Social Security and Medicare Taxes

U.S. Social Security and Medicare taxes, known as FICA taxes, generally apply to wages earned by U.S. citizens and residents employed abroad by American employers. The U.S. has “Totalization Agreements” with several countries to prevent double Social Security taxation.

These agreements ensure individuals generally pay Social Security taxes to only one country. For self-employed expats, U.S. self-employment tax, including Social Security and Medicare components, applies to net earnings over a certain threshold, even if income is excluded under the FEIE.

Foreign Pensions and Investments

Taxation of foreign pension plans and investment income for U.S. expats can be intricate. Foreign pension plans are often subject to different rules and treaty provisions. Income from foreign investments, such as interest, dividends, and capital gains, is generally taxable in the U.S. on a worldwide basis.

The interaction of U.S. tax laws with foreign tax laws and applicable tax treaties requires careful analysis. Complexities can arise with passive foreign investment companies (PFICs) or controlled foreign corporations (CFCs), which have specific U.S. reporting and taxation rules.