Double taxation - guide 2024 | US Expat Tax Service (2024)

Ines Zemelman, EA

21 Mar 2024

Disclaimer

This article is for informational purposes only and does not constitute legal or tax advice.

Always consult with a tax professional for your specific circumstances.

In the world of taxation, one term that often causes confusion and concern is "double taxation".

This concept, while seemingly straightforward, can have significant implications for both individuals and businesses, particularly those operating across international borders.

In this article, we will delve into what double taxation is, how it works, and explore some strategies to avoid it.

What is double taxation?

Double taxation refers to the phenomenon where the same income is taxed twice. This can occur in two main scenarios:

  1. when income is taxed at both the corporate and personal level,
  2. when the same income is taxed in two different countries.

How double taxation works

Double taxation typically occurs in one of two ways.

The first is through corporate income being taxed twice. This happens when a corporation pays income tax on its earnings, and then its shareholders also pay income tax on the dividends they receive, which are paid out of the corporation's after-tax earnings.

The second way double taxation can occur is on an international level. This happens when a taxpayer resides in one country and earns income in another. Both countries may lay claim to tax the income, leading to double taxation.

This is particularly relevant for expatriates, who may be required to pay taxes in both their home country and the country where they are currently residing and earning income.

International double taxation

International double taxation is a major concern for expatriates and multinational corporations.

The US is one of the few countries that taxes its citizens on their worldwide income, regardless of where they live or earn their income.

This means that American expats are potentially subject to double taxation– once by the country where they earn their income, and again by the United States.

NOTE! There are mechanisms in place to prevent this kind of double taxation. Tax treaties between countries, the Foreign Earned Income Exclusion (FEIE), and the Foreign Tax Credit and more (we’ll cover them all in detail here below).

Examples of double taxation

To better understand the concept of double taxation, let's consider a few examples:

1. Corporate double taxation

A corporation in the United States earns $1 million in profits. It pays a corporate income tax on these profits.

Then, when the after-tax profits are distributed to shareholders as dividends, the shareholders must also pay personal income tax on these dividends.

2. International double taxation

An American expatriate living in Germany earns income from a job in Germany. They pay income tax on this income to the German government.

However, as the United States taxes its citizens on worldwide income, the expat must also report this income to the IRS, potentially leading to double taxation.

Business entities and double taxation

When it comes to business entities, double taxation primarily affects C corporations, often referred to as C-Corps.

This is due to the fact that C corporations are legally considered separate entities from their owners, who are the shareholders.

This separation leads to a two-tier taxation system.

First tier

The first tier of taxation occurs at the corporate level. When a C corporation generates profits, these earnings are taxed according to the prevailing corporate tax rate.

As of the current tax year, this rate stands at 21%, and it applies irrespective of the corporation's annual earnings.

Second tier

The second tier of taxation comes into play when these after-tax profits are distributed to shareholders in the form of dividends.

At this stage, the dividends are subjected to personal income tax, which varies based on the shareholder's federal income tax bracket.

This bracket is determined by several factors, including the shareholder's filing status (single, head of household, married filing jointly, or married filing separately) and the total amount of dividends received.

Exclusions

However, not all business entities are subject to double taxation.

S corporations, partnerships, and sole proprietorships, for instance, are classified as "pass-through" entities.

In these business structures, the income earned by the business is not taxed at the corporate level. Instead, it "passes through" to the owners, who then report it on their personal income tax returns.

This pass-through mechanism allows these types of businesses to avoid the double taxation experienced by C corporations.

Can I avoid double taxation?

Yes, there are several strategies that can be used to avoid or minimize double taxation.

These include:

  1. Choosing a pass-through entity: As mentioned above, S corporations, partnerships, and sole proprietorships are not subject to double taxation. If you are starting a business, choosing one of these entity types can help you avoid double taxation.
  2. Paying salaries instead of dividends: Since salaries are considered a business expense, they are not subject to double taxation. By paying out profits in the form of salaries rather than dividends, a corporation can avoid double taxation.
  3. Tax treaties: Many countries have tax treaties in place to prevent double taxation. These treaties often provide rules for which country has the right to tax certain types of income.
  4. Foreign tax credits and exclusions: For UStaxpayers earning income abroad, the IRS offers foreign tax credits and exclusions that can help mitigate the impact of double taxation.
  5. Foreign Earned Income Exclusion (FEIE): The FEIE allows UStaxpayers to exclude a certain amount of their foreign earned income from their UStaxable income each year. For 2024, the maximum exclusion amount is $126,500.
  6. Housing exclusion or deduction: In addition to the FEIE, US taxpayers living abroad may also qualify for a housing exclusion or deduction.

NB! Remember, every individual's tax situation is unique, and the information provided here is general in nature.

It's always a good idea to consult with a tax pro who is familiar with the tax rules of both the US and the foreign country where you are living or doing business.

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FAQ

1. Is Double Taxation Legal?

Yes, double taxation is legal and often occurs when income is taxed at both the corporate level and personal level. Double taxation also occurs in international business scenarios where income is taxed in two different countries.

2. How does an LLC avoid double taxation?

An LLC, or Limited Liability Company, avoids double taxation through its unique legal structure. Unlike a C corporation, which is taxed separately from its owners, an LLC is considered a "pass-through" entity for tax purposes. This means that the income earned by the LLC is not taxed at the corporate level. Instead, the income "passes through" to the owners, who report it on their personal income tax returns.

3. Can I be taxed on the same income in two states?

Yes, it is possible to be taxed on the same income in two states, particularly if you earn income in one state but reside in another. However, most states offer tax credits for taxes paid to other states, which can help mitigate the impact of being taxed twice on the same income.

4. Do US dual citizens pay double taxes?

U.S. dual citizens may face the possibility of double taxation, as the U.S. taxes its citizens on worldwide income, regardless of where they reside. However, the U.S. has tax treaties with many countries and offers foreign tax credits and exclusions to help mitigate the impact of double taxation.

Double taxation - guide 2024 | US Expat Tax Service (2024)

FAQs

Do US expats get taxed twice? ›

The US is one of the few countries that taxes its citizens on their worldwide income, regardless of where they live or earn their income. This means that American expats are potentially subject to double taxation – once by the country where they earn their income, and again by the United States.

How can US expats avoid double taxation? ›

Expats can use the Foreign Earned Income Exclusion (FEIE) to exclude a certain amount of foreign income from US taxation. The maximum exclusion amount changes each year. For the 2023 tax year, the FEIE exclusion limit is $120,000 and will increase to $126,500 for the 2024 tax year.

What is the overseas tax exemption for 2024? ›

For tax year 2024, the maximum exclusion is $126,500 per person. If two individuals are married, and both work abroad and meet either the bona fide residence test or the physical presence test, each one can choose the foreign earned income exclusion. Together, they can exclude as much as $253,000 for the 2024 tax year.

Does the IRS go after expats? ›

Further, expatriated individuals will be subject to U.S. tax on their worldwide income for any of the 10 years following expatriation in which they are present in the U.S. for more than 30 days, or 60 days in the case of individuals working in the U.S. for an unrelated employer.

Do retired expats pay US taxes? ›

Leaving the United States does not exempt U.S. citizens from their U.S. tax obligation. While some retirees may not owe any U.S. income tax while living abroad, it is likely they must still file a return annually with the IRS. Filing requirements are generally the same wherever one resides.

Are US citizens liable for expat tax? ›

Yes, it is mandatory. Despite not owing taxes, US expats are still required to file a US tax return. This is mandatory for all US citizens and green card holders who meet the minimum income thresholds, regardless of where they live or where their income is earned.

How do US taxes work for expats? ›

If you are a U.S. citizen or resident living or traveling outside the United States, you generally are required to file income tax returns, estate tax returns, and gift tax returns and pay estimated tax in the same way as those residing in the United States.

Do expats get social security? ›

If you earned Social Security benefits, you can visit or live in most foreign countries and still receive payments. Look up the country on the SSA Payments Abroad Screening Tool to be sure you can receive your payments.

What are the tax benefits of the expat? ›

This expat benefit allows you to avoid double taxation by excluding up to a certain amount of foreign earned income from your US taxes. In 2024, for the 2023 tax year, you can exclude up to $120,000 of foreign earned income.

What is the new tax law for 2024? ›

For single taxpayers and married individuals filing separately, the standard deduction rises to $14,600 for 2024, an increase of $750 from 2023; and for heads of households, the standard deduction will be $21,900 for tax year 2024, an increase of $1,100 from the amount for tax year 2023.

What is the tax exemption for expats in the US? ›

Expats can use the Foreign Earned Tax Exclusion (FEIE) to exclude foreign income from US taxation. For the 2023 tax year, the maximum exclusion amount under the FEIE is $120,000. To qualify for the FEIE, you must meet the standards of the physical presence test or the bona fide residence test.

What is the 330 day rule? ›

Generally, to meet the physical presence test, you must be physically present in a foreign country or countries for at least 330 full days during a 12-month period including some part of the year at issue. You can count days you spent abroad for any reason, so long as your tax home is in a foreign country.

Are expats more likely to be audited? ›

And while IRS audits are generally rare, the chances do increase for expats. In fact, according to IRS data, Americans living overseas are 10 times as likely to be audited as taxpayers living in the US.

Do US expats get audited? ›

Sometimes, when expats make an honest mistake on tax returns or other forms, they're audited. What may seem like a simple error to you can be a big deal to the IRS. So, it's important to keep careful records, which you can hand over to your tax CPA for American expatriates if you're audited.

Can IRS track my foreign income? ›

In accordance with FATCA, more than 300,000 FFIs (Foreign Financial Institutions) in over 110 countries actively report account holder information to the IRS. Alternatively, you may be audited or be outed by a pesky whistleblower.

How much are US expats taxed? ›

For example, self-employed US expats and those who work for a US-based employer must file an expat tax return. For the 2023 tax year, the rate for expat employees is 7.65%. Self-employed expats, however, are responsible for both the employer and employee contribution, meaning that the total is double, (15.3%).

How do taxes work for American expats? ›

The United States subjects your worldwide income to U.S. income tax, regardless of where you live. To make this easier, the Internal Revenue Code offers certain foreign income tax credits, tax deductions, and income exclusions, potentially reducing your U.S. tax bill each year.

Do you pay more taxes as an expat? ›

U.S. taxes are based on citizenship, not country of residence. That means it doesn't matter where you call home, if you're considered a U.S. citizen, you have a tax obligation this tax year. Your expat tax filing requirement doesn't change even if you're paid by a foreign employer overseas.

Can you be taxed twice? ›

Key Takeaways. Double taxation refers to income tax being paid twice on the same source of income. This can occur when income is taxed at both the corporate level and the personal level, as in the case of stock dividends. Double taxation also refers to the same income being taxed by two different countries.

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