If you’ve ever desired to live and work abroad, federal tax savings could help you do it.
Welcome to the digital age, where fast internet speeds, affordable long-term rentals, generous mileage points programs, and more make a work-travel lifestyle possible -- provided you’re in the right industry, of course. Freelancers currently working from home, we’re talking to you. Employers seeking to offer this unique benefit, well, you listen up, too.
There is a little-known provision in the tax code that can help you fund this unconventional lifestyle -- to the tune of about $16,000. Meet the Foreign Earned Income Exclusion (FEIE).
FEIE says that if you meet one of two criteria, you can exclude $104,100 of your earned income from your federal taxes. If you earn $104,100, this will save you about $16,400 in federal income taxes each year.
This is tax-free money that you can use any way you like -- essentially helping you either pay or offset the costs of living and working remotely abroad.
How do you qualify for FEIE?
To qualify for FEIE, you need to take either the Physical Presence Test or the Bona Fide Resident Test.
The Physical Presence Test says you have to be inside a foreign country for 330 days in a 365-day period; these are full days, i.e., 24 hours that end at midnight. This is how most "digital nomads" or "location-independent professionals" qualify for FEIE.
The Bona Fide Resident Test is a bit more complex. It requires you to live in a foreign country for one full calendar year before you can qualify, and then it's based on your actions and your intentions. Your actions must show that your life is in the foreign country, for example, by buying a house or opening bank accounts.
The foreign country you're staying in needs to see that you are planning to live there full time, and you are not intending to move back to the U.S. in the foreseeable future. Most self-employed individuals and first-time expats qualify for FEIE using the Physical Presence Test.
Now, before you jump up from your desk and run to buy your plane tickets, there are a few more things you should know:
- If you are paying self-employment tax, you will still be required to pay this before you can apply FEIE, meaning it's a cash expense.
- This may not have much impact on your state taxes, so depending on which state you live in, you may still be required to pay state taxes.
- The Physical Presence Test is an all-or-nothing test. If you are inside a foreign country for only 329 days, then sorry, you don't qualify. That said, it is a rolling 330 days, it can start January 1, March 28, or any other day of the year.
- Only "earned income" qualifies for the exclusion. Rental income, dividend income, pension income, retirement accounts, etc. do not qualify as "earned," so you cannot exclude them.
- Any U.S. citizen can qualify for FEIE, and if you are married your spouse can also qualify, which would increase your tax-free earnings potential to $208,200.
- Most foreign countries will not tax you if you live there less than 183 days per year, but you should check the rules for the countries you choose to live in.
If you have the desire to work and live abroad, this is an excellent option for you to lower your federal taxes and use the savings to fund your adventures. Be sure to consult with us before you make the jump, however. IRS regulations have a way of producing costly mistakes. We’ll help you run the numbers to determine if federal savings and amazing travel could be yours.
Assuming it works out, where do you want to go? Leave your comments below!
