Filing Expat Taxes with a US Tax Treaty

ving abroad offers so much excitement to an expat’s life, but it can pose tax challenges for US citizens abroad. With US tax filing being mandatory for US citizens abroad meeting a certain filing threshold, double taxation is a major concern for most expats. Fortunately, there are tax benefits and US tax treaties that help to alleviate those issues. That said, this article aims to inform you about how a US tax treaty could affect expats.

Since US tax filing is mandatory for citizens living abroad who meet certain income thresholds, the risk of double taxation is a significant concern for many expatriates.

What Are Tax Treaties?

A US tax treaty is defined as a bilateral agreement made by two countries to resolve issues involving double taxation of passive and active income of each of their respective citizens and residents. These treaties determine how much tax each country can impose on various types of income, such as wages, business profits, dividends, interest, and royalties.

A Real-World Example

Let’s look at a practical example to illustrate how tax treaties work.

The “Savings Clause” and Its Impact

The main thing to remember about a US tax treaty is that they tend to have a Savings Clause:

Most tax treaties have a savings clause that preserves the right of each country to tax its own citizens and treaty residents as if no tax treaty were in effect. However, the saving clause generally excepts specified income types from its application, which may allow you to claim certain treaty benefits even if you are a US citizen or resident.

That said, certain types of income are often exempt from the savings clause, such as certain social security benefits. In these cases, US citizens can still benefit from the treaty and reduce their tax liability.

Types of US Tax Treaties

There are two different models of tax treaties:

The OECD Tax Treaty Model: This tax convention on income and capital is favorable to capital-exporting countries. With this model, source countries are required to give up some or all tax on certain income from residents of other countries. This model benefits two countries if the flow of trade and investment is equal. The OECD model includes 34 countries, including several European countries such as Latvia, Italy, Belgium, Australia, Costa Rica, Korea, The US, and Israel.

The UN Tax Treaty Model: This model, formerly known as the “United Nations Model Double Taxation Convention between Developed and Developing Countries,” favors taxing rights to the country of investment. It typically benefits developing countries by increasing foreign investment by removing or reducing tax barriers.

What Happens If There’s No Tax Treaty?

Unfortunately, the US does not have a tax treaty with all countries, but that does not automatically mean double taxation. There are tax credits specifically for US expats in this very situation.

• Foreign Earned Income Exclusion (FEIE): This allows you to exclude a certain amount of foreign-earned income from your US taxable income (up to Default String in 2024).
• Foreign Housing Exclusion: If you qualify for the FEIE, you can exclude certain housing costs from your US taxable income.
• Foreign Tax Credit (FTC): This credit allows you to offset taxes paid to a foreign government against your US tax liability. The absence of a tax treaty does not eliminate the possibility to claim foreign tax credits on foreign sourced income.

Using these foreign tax credits and exclusions can help lessen US tax liabilities to zero or to a much smaller taxable amount.

State Taxes and Tax Treaties

Each state in the US has its own set of laws and rules regarding state taxes. Some states comply with US tax treaty provisions. Make sure to double-check your state’s official tax guidelines to confirm.

Filing Form 8833 to Claim Treaty Benefits

The process of claiming a US tax treaty is not automatic, but it could be when you use MyExpatTaxes. Instead of manually attaching Form 8833 to your US tax return, our tax software determines whether it’s needed and files it for you. It’s as easy as signing up and answering some questions, and then it’s done.

If you are required to file Form 8833, it must be done correctly, or there could be a $1,000 penalty imposed for each year if the information was not disclosed as property. With a valid reason, the IRS may waive this penalty. For US expats, it’s best practice to always include Form 8833 and file using US expat tax software.

Do You Always Need to Use a Tax Treaty?

You do not need to apply to use a tax treaty even though it can be beneficial for US taxes. Often, US expats can use the FTC, FEIE, and Foreign Housing Exclusion to reduce their tax liability to a considerably lower amount. These benefits can offer enough tax relief that a US tax treaty may not be needed.

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