US citizens must pay income tax regardless of where they work. However, they can exclude up to $80,000 of foreign income by demonstrating they are a bona fide resident or physically present in a foreign country. This can be requested using Form 2555 or 2555-EZ. The source of income does not affect eligibility. A tax burden example is given. It is recommended to speak to a certified public accountant for complex tax situations.
First, it’s important to note that if your tax situation is particularly complex, it’s always a good idea to speak to a certified public accountant to ensure you take full advantage of the tax laws. Earning foreign income as a US citizen is a bit of a complicated process, and applying for an exemption can be a bit tricky. However, in some situations it may be straightforward and you may be able to easily calculate the exemption yourself.
All US citizens are required to pay income taxes, regardless of where they live or work in the world. However, to accommodate citizens who could pay taxes abroad, the United States has developed a very useful procedure to avoid paying too much tax: the exclusion of foreign income.
Exclusion from overseas earned income can be up to $80,000 US Dollars (USD), which a United States citizen can exclude from their federal income taxes each year. To be eligible for this exclusion, you must be able to demonstrate that you are a bona fide resident of or physically present in a foreign country. Obviously they also have to work abroad. The exclusion can be requested using Form 2555, or in some cases the shorter Form 2555-EZ.
To be eligible to apply for a foreign income exemption, you only need to work in a foreign country. Where you get paid and where you get paid from doesn’t affect whether or not you have foreign income. If you’re a US resident, but are paid by a German company into a German bank account, it’s still considered national income and is taxed normally. Conversely, if you work in the United States, but the employer you work for is a US company and your income is transferred to your US bank account, you are still eligible for a foreign income exemption.
The calculation showing your total tax burden is best demonstrated by an example: Let’s say you’re working for a large international company as a hotel consultant. You work five days a week, with holidays and sick leave, for a total of 220 working days a year. You are paid a salary of $55,000 USD each year and on top of that you have received a small salary of $10,000 USD to cover your rent. Even though most of the time you worked was spent overseas, you returned to the US occasionally to work at home, for a total of 18 days. So to calculate your US tax burden you would take the number of days worked there (18) and divide it by the total number of days worked (220) and multiply it by your total income plus wages ($65,000 USD), resulting in into a tax burden of $5,400 USD on which you will have to pay taxes.
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