Don't Mess With Taxes

Welcome to Part 8 of the ol' blog's series on 2021 tax inflation adjustments. 
We started with a look at next year's income tax brackets and rates.
That first item also has a directory, at the end of the post,
of all of next year's tax-related inflation updates.
In today's post, we look at the tax considerations
of U.S. taxpayers living and working abroad.
Note: The 2021 figures in this post apply to that tax year's returns to be filed in 2022.
For comparison purposes, you'll also find 2020 amounts that apply to this year's taxes, due April 15, 2021.

Every year, InterNation asks the millions of Americans who've relocated internationally what locale they consider the best to live. For 2020, the annual Expat Insider Survey repeat winner is Taipei, Taiwan. But regardless of where in the world U.S. expatriates go, they still have to deal with the Internal Revenue Service. (Taipei skyline c. 2015 by ynes95 via Wikipedia Commons)

The coronavirus pandemic has slowed the peripatetic tendencies of millions of Americans. Transcontinental excursions have been delayed and, in many cases, scrapped.

The U.S. residents who have settled abroad, either to fulfill a lifelong dream or advance their careers with international companies, also have hunkered down for the most part. Visits with family and friends in the United States have been put on hold as COVID-19 continues to flare up globally.

But there's one connection that even a worldwide health crisis can't severe. Most Americans who go abroad still must deal with the Internal Revenue Service.

When it comes to individual taxpayers, Uncle Sam still relies on a worldwide tax system. That means the IRS collects a portion of citizens' or resident aliens' incomes regardless of where in the world they earn their money.

There are, however, some tax provisions that can help U.S. workers abroad. And like many parts of the Internal Revenue Code, they also are affected by inflation.

Excluding foreign-earned income: The most notable tax break for U.S. taxpayers working abroad is the foreign earned income exclusion, or FEIE. This allows those who meet certain requirements to legally avoid paying U.S. tax on some of their foreign wages.

Since inflation is a global phenomenon, it's only fitting that this U.S. tax exclusion amount is adjusted annually for inflation.

For the 2021 tax year, it's $108,700. That's $1,100 more than the 2020 FEIE amount of $107,600.

To claim the FEIE, you must meet all three of the following requirements:

• Your tax home must be in a foreign country.
• You must have foreign earned income.
• You must be either
• A U.S. citizen who is a bona fide resident of a foreign country or countries for an uninterrupted period that includes an entire tax year, or
• A U.S. resident alien who is a citizen or national of a country with which the U.S. has an income tax treaty in effect and who is a bona fide resident of a foreign country or countries for an uninterrupted period that includes an entire tax year, or
• A U.S. citizen or a U.S. resident alien who is physically present in a foreign country or countries for at least 330 full days during any period of 12 consecutive months.

These same requirements also apply to the other major tax benefit allowed Americans working in another country, the foreign housing exclusion or deduction.

Housing tax break, too: Overseas workers also might be able to exclude (or deduct if self-employed) from gross income a certain amount of housing costs.

But since we're are talking about the Internal Revenue Code, it's not as simple as just writing off your London flat's rent. There's plenty of added math.

First, start with your residential expenses. And note that the IRS says they must be reasonable. If you decide to go lavish with the global version of Elvis' Graceland (Thank you, thank you very much), Donald J. Trump's gold-plated Manhattan apartment (which he's held onto even though he's transitioned to full-time Florida Man) or the Rocky Mountain estate pictured below, the excessive costs won't pass the tax man's muster.

Walden House and its separate guest house sit atop Whiskey Ridge in the Vail, Colorado, area. The secluded 11,869-square-foot main home boasts 9 bedrooms, 9 full and 2 half baths and is surrounded by 175 total acres. (Image courtesy Concierge Auctions)

But even more plebian accommodations also have tax limits. Specifically, a housing ceiling and a base amount are used to calculate an overseas taxpayer's ultimate tax break for his or her residential costs abroad.

The IRS generally sets a ceiling of 30 percent of the annual inflation-adjusted FEIE.

For 2021, that will be $32,610 ($108,700 x 30%). The 2020 housing exclusion is $32,280 ($107,600 x 30%).

Then the excludable/deductible housing amount is affected by what the base housing amount, which also is a percentage of the annual FEIE amount. The exact figure is 16 percent, making the 2021 amount $17,392 ($108,700 x 16%). The 2020 amount is $17,261 (107,600 x 16%). 

To use the exclusion, your qualifying housing costs must exceed the applicable tax year’s base 16 percent amount, or to use realty speak, the expense floor. When they do, you can exclude (or deduct) the total of your qualifying expenses up to the maximum amount allowed for the tax year.

More relief in higher-rent locales: All of us HGTV House Hunters International fans know that sometimes it's hard to find the kind of residential bargain that the IRS will reward.

Not to worry. There's also tax help for U.S. citizens and resident aliens who live and work in countries with higher housing costs.

The Department of State tracks the cost-of-living worldwide and grants an allowance to employees officially stationed in a foreign area where the cost of living, exclusive of quarters costs, is substantially higher than in Washington, D.C.

The IRS follows this list and, based on the housing data, allows U.S. taxpayers in those designated locales a potentially larger housing exclusion.

That means a U.S. worker who for all of 2020 rents a home in expat-favored Taipei with its higher cost of living, can exclude from income the difference between $46,188 (the IRS announced limitation for that Asian nation's capital) and this year's $17,261 base housing amount, or $28,927 in housing costs.

That's a very nice jump from the basic $15,019 housing exclusion allowed U.S. taxpayers working this year in locales with less costly housing.

What about next year's higher international housing costs? We won't know the IRS' 2021 take on pricier residential areas around the world until next spring. That's typically when the State Department and IRS release those figures.

UPDATE: The Internal Revenue Service on Feb. 26, 2021, issued Notice 2021-18, the updated adjustments to the limitation on housing expenses for U.S. taxpayers abroad. Per the process, the adjustments are made on the basis of geographic differences in housing costs relative to housing costs in the United States.

The amounts in the notice's table of international housing costs show the amounts, both annual and per day, of adjusted limitations that can be claimed in lieu of the otherwise applicable basic limitation in 2021 of $32,610.

There's also an important note about latest foreign housing figures. The IRS says that if the limitation on housing expenses is higher for taxable year 2021 than the adjusted limitations on housing expenses provided for 2020 (you'll find those a couple paragraphs earlier in the linked phrase "potentially larger housing exclusion," which takes you to last year's Notice 2020-13), qualified taxpayers may apply the adjusted limitations for taxable year 2021 to their 2020 taxable year.

More foreign tax info: Whatever reason you're headed abroad, enjoy soaking up another country's culture (and great food!). And use these tax breaks to make sure you pay the U.S. Treasury less so that you can spend those tax savings exploring your expatriate home.

You can read more about foreign tax issues in general in IRS Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad. Right now, the 2019 tax year version is still online but the 2020 version should replace it shortly.

The IRS also has special pages with details on the foreign earned income exclusion. You also should check out the IRS' interactive tool where you can see if you're able to exclude income in a foreign country.

There's also the IRS page with more on the foreign housing exclusion, another one for U.S. taxpayers living abroad and the always poplar FAQs about international individual tax matters.

Finally, you also might find these blog posts about global taxes of interest:

• American expatriates don't like paying U.S. taxes
• Nationalism, globalism and worldwide tax competitiveness
• Special circumstances (like living abroad) give some taxpayers more filing time
• Expat tax break could net larger COVID-19 relief payment
• U.S. tax changes help country rank among world's lowest taxed nations

Bon voyage and c'est la taxes!

Nearing the end of the inflation journey: As the box that prefaced this international tax considerations post notes, this is part of the ol' blog's annual inflation adjustments series. I know the trip has been interrupted a lot this year — Thanks, pandemic! Not really; there's no reason at all to thank COVID-19 for anything. But you get what I mean. — so I really appreciate you sticking with me.

You can get a consolidated look at all the previous and upcoming 2021 inflation changes at the directory at the end of the series' first post on changes to next year's income tax brackets.

We've got two to go. Hang in there. There might be a few more pit stops for breaking tax news, but we will bring this tax inflation trip home before the end of this year.