Increasingly, American citizens are moving overseas to advance their careers, to retire abroad, or for family reasons. Living in another country is exciting but brings forth many new challenges. This includes adapting not only to a new culture, but also a new financial, tax, and legal system. Just like back home, advice from professionals is vital when it comes to managing personal finances to ensure that you’re on the right side of the law while remaining as tax efficient as possible in a new country.
American Expat Financial Planning and Investment Issues
Careful attention must be paid to the personal finances and investments of American citizens living abroad and specialized U.S. expat investing advice should be sought. While many cross-border investments and transactions may appear standard to a U.S. person, they could create unforeseen tax “traps” in the United States and/or a foreign tax jurisdiction. Numerous factors, such as changing U.S. tax laws and expat brokerage account restrictions, have made American expat investing increasingly difficult. Fortunately, American expat financial planning and expat investing issues can be successfully managed with a knowledgeable American expat financial advisor.
U.S. Citizenship Based Taxation and FATCA
It is critical to remember that a U.S. citizen or permanent resident (green card holder) will always remain taxable by the United States. This is true even if you are living and paying taxes in another country; the United States imposes taxes based on citizenship, not residency. The passage of the Foreign Account Tax Compliance Act (FATCA) and the surrounding media attention has been instrumental in making more U.S. citizens living overseas aware of their tax obligations. Fortunately, the U.S. tax code provides methods to alleviate the effects of being taxed in two different jurisdictions. Managing investment accounts to mitigate double taxation is one critical element of successful American expat financial planning.
How to Manage your Investments as an American Expat
The most cost- and tax-effective approach to investing while abroad is using U.S.-based investment products. U.S. financial markets offer incredible access to diverse, low-cost investment options compared to other international financial markets. These superior investment products are also the most tax-compliant investment option for American taxpayers living abroad.
Purchasing foreign mutual funds or other pooled foreign investment products is a common and costly mistake made by U.S. taxable investors. Foreign mutual funds will be classified as Passive Foreign Investment Companies (PFICs) by the IRS. PFICs must be reported on a complicated U.S. tax form (Form 8621) and are punitively taxed. American citizens should avoid the PFIC problem by using only U.S. registered investments, such as mutual funds or exchange-traded funds (ETFs), to invest tax efficiently.
Unfortunately, many major U.S. financial institutions restrict accounts of Americans living outside of the United States. This is largely due to FATCA and perceived compliance risks by large financial institutions. However, many companies that focus on retail clients will still be able to offer brokerage services to Americans living abroad. It is important for American expats to work with the right investment custodian and U.S. expat financial advisor to ensure headaches are avoided down the road.
U.S. Expat Investing Advice and Financial Planning
Understanding citizenship-based taxation, knowing about FATCA, and navigating U.S. brokerage account restrictions are some of the basic investing issues American expats must confront. However, living overseas as an American citizen brings forth many more financial planning pitfalls and opportunities. Below are some common American expat financial planning issues:
Ownership of Foreign Mutual Funds (PFICs) – As discussed above, owning a foreign mutual fund (PFIC) is a common and costly mistake made by American expats. Using U.S. domiciled funds through an expat-friendly U.S. brokerage company is the preferred way for American expats to save and build wealth.
Foreign Pension Plans – Many American expats contribute to foreign pension plans. Certain countries have bilateral tax treaties with the United States that simplify the U.S. tax reporting and allow the taxpayer to deduct contributions and defer taxes. However, most countries do not recognize pension plans in a tax treaty and special attention will be needed for U.S. tax reporting.
U.S. Retirement Account Contributions – American expat contributions to an IRA, Roth IRA, or 401k account may not always be beneficial. If a taxpayer lives in a country with higher tax rates than the United States, they may not be able to claim a deduction on their local tax return and contributing to an IRA will cause double taxation. However, in a low-tax or no-tax country, an IRA contribution will often make sense and reduce the overall taxes owed. American expats should determine if an IRA or Roth IRA contribution is tax efficient while living abroad.
Foreign Currency – Understanding currency issues is essential for expats who may be earning a salary in a foreign currency but planning for retirement back in the United States. It is important to match future life expenses (retirement, college, home purchase, etc.…) with current assets denominated in the right currency. American expats who are planning a retirement abroad should save considerably on investments tied to their local country of residence.
International Estate Planning – U.S. citizens will also always remain subject to the U.S. estate tax. Given increased U.S. estate tax exemptions, this is less of a concern for many Americans domiciled in the United States. However, countries around the world have vastly different systems of taxing estates/inheritances and distributing wealth at death. Understanding the domicile and residency requirements of a local jurisdiction is essential for long-term American expats. It is always recommended to revisit your estate plan when moving across borders to avoid any unintended consequences. Please review our article on U.S. expat estate planning.
U.S. Tax Obligations – Even if an American expat does not owe taxes, they are still required to file an annual U.S. tax return. It is recommended to use an accountant who specializes in American expat taxes. An accountant who does not normally work with Americans living abroad may miss certain deductions and tax credits that can cause an overpayment of U.S. taxes.
Local Country Tax Obligations – In addition to staying current on U.S. taxes with the IRS, American expats must also pay attention to their home country tax obligations. Every country has unique tax rules, deadlines, and obligations. It is vital that expats understand how their investments will be taxed by their country of residence.
Foreign Spouses and Gifting to Non-Americans – American expats often marry a non-U.S. citizen spouse who may not be subject to U.S. tax. Careful attention must be paid to titling of financial accounts, structuring investments between spouses, and estate planning. In certain instances, shifting assets into the name of a non-resident alien spouse may provide some U.S. tax advantages. However, careful attention must be made to the amount of gifts as the unlimited marital deduction does not apply to non-resident alien (NRA) spouses.
Conclusion: Building Wealth as an American Expat
Navigating multiple financial and tax systems is a complex undertaking. This requires a deep understanding not only of each jurisdiction’s legislation, but most importantly how they interact with one another. Many financial advisors may only be familiar with one jurisdiction and overlook issues that will create complexity in the other. There are many myths that can often be dispelled following discussion with a cross-border financial planning expert. With careful planning and the right advice, American expats can invest their savings efficiently and build long-term wealth while living abroad.
Round Table Wealth Management is an experienced American expat financial advisor. We work with clients globally on tax efficient investing and financial planning. Please contact us today if these American expat issues are relevant to your personal financial situation.