UAE: How US expats calculate taxes on income earned overseas and back home

Dubai: As a US citizen or holder of a ‘Green Card’ living in the UAE, taking care of your US taxes can be a cumbersome task. Knowing which tax rules affect you and understanding your options can seem like a lot to stay up-to-date with.

For US citizens employed in the UAE, filing taxes in the US comes with new considerations and questions, like the below:

“Do I have additional information to report to the US revenue department (IRS)? How do my UAE financial accounts affect my filing? What options do I have to reduce my tax bill? How do I file US taxes from the UAE?”

Due to all the unique tax rules and requirements for US expats, it can be difficult to navigate the filing process.

Do US expats pay taxes overseas?

As a US citizen, working in the UAE can affect your taxes even if you don’t stay for very long. For example, if you earn income while on a short-term assignment, you’ll need to report that income on your US taxes.

The longer you stay, the deeper your financial roots are in the UAE, and that’s when you’ll have more considerations for your tax filing in the US. You may need to report your UAE financial accounts and assets.

Generally, US taxpayers with more than $10,000 (Dh36,730) in foreign bank or financial accounts are subject to certain filing and reporting requirements. You may also be subject to other reporting requirements if you have assets valued at $200,000 (Dh73,460) and higher.

Do US expats pay taxes back home?

Most expats can eliminate their US tax bill altogether using special tax exclusions available for US expats abroad that the IRS has put in place to help expats avoid double taxation or being taxed twice.

However, even if you don’t end up owing any taxes, expats still need to file a US tax return (ITR) if their income is over the filing threshold.

All US citizens are required to file and pay taxes back home on their worldwide income, regardless of where they live or work. This means that expats often have to file and pay taxes in both the US and their country of residence.

Do US citizens have to declare their overseas accounts in the US?

It is mandatory that an overseas US expat declares foreign bank accounts especially if it produced any income such as interest or capital gains.

There are two different reporting requirements for foreign bank accounts: the ‘FBAR’ and ‘FATCA’ respectively, one or both of which may apply to you.

1. FBAR (Foreign Bank Account Report): Explained

The FBAR (Foreign Bank Account Report) has been around since 1972 and should be filed if your aggregate foreign holdings are worth $10,000 (Dh36,730) or more at any time during the tax year.

FBAR should be filed if you have signature authority over one or more foreign accounts, for example if you are the treasurer of an association or work in the accounting department of your employer and sign for payments.

Starting in 2014 and in succeeding years, the FBAR must be filed electronically. It should be filed by April 15 each year, with an automatic extension to October 15 if you are living abroad.

2. FATCA (Foreign Account Tax Compliance Act): Explained

Parallel to that is FATCA (Foreign Account Tax Compliance Act), if your foreign assets exceed one of the following limits:

• Unmarried or married filing separately living in the US: you should file tax if your aggregate foreign holdings are worth $50,000 (Dh183,651) or more on the last day of the tax year or were more than $75,000 (Dh275,477) at any time during the tax year;

• Married filing jointly and living in the US: you should file tax if your foreign holdings are worth $100,000 (Dh367,303) or more on the last day of the tax year or were more than $150,000 (Dh550,955) at any time during the tax year;

• Unmarried or married filing separately and living abroad: you should file tax if your foreign holdings are worth $200,000 (Dh734,607) or more on the last day of the tax year or were more than $300,000 (Dh1.1 million) at any time during the tax year;

• Married filing jointly and living abroad: you should file tax if your foreign holdings are worth $400,000 (Dh1.5 million) or more on the last day of the tax year or were more than $600,000 (Dh2.2 million) at any time during any tax year.

Starting January 1, 2015, foreign banks, under FATCA, have been reporting directly or indirectly to the IRS, so it is especially important that you file taxes correctly.

If your aggregate foreign bank account holdings exceed the threshold for one or both of these reporting requirements (FBAR and/or FATCA) you would be well advised to consult an international tax expert.

How can you mitigate your US tax when living abroad?

If you qualify as an US citizen residing abroad (basically having lived at least one year abroad), there are two methods by which you can reduce your US tax by a substantial amount.

These are the ‘Foreign Earned Income Exclusion (FEIE)’ and the ‘Foreign Tax Credit’ methods. You can use either or both of these methods as will be explained below. However, neither of these methods excuses you from filing if your income was above the filing threshold.

• Method #1: Foreign Earned Income Exclusion (FEIE)

For the last tax year, the exclusion amount was $108,700 (Dh399,258). What this means is that if, for example, you earned $113,000 (Dh415,052) in 2021, you can subtract $108,700 (Dh399,258) from that leaving $4,300 (Dh15,794) as taxable by the US.

But this $4,300 is taxable at tax rates applying to $113,000 (known as the ‘stacking rule’). The exclusion applies only to foreign earned income. Other income, such as pensions, interest, dividends, capital gains, US-sourced income, etc., cannot be excluded with FEIE. You are liable for full US tax on these incomes.

• Method #2: Foreign Tax Credit

The other method for reducing your US tax bill is the ‘foreign tax credit’ method. If your income was taxed by a foreign country, you can subtract that tax from your US tax, in most cases substantially reducing your US tax bill.

But keep in mind that, you can only claim a foreign tax credit for foreign taxes on the same income that the US is taxing. The fraction of your foreign taxes that can be taken as a tax credit is determined by the ratio of non-excluded income to total income. Here's an example, using the same figures as above.

Swedish taxes on 100,000 euros ($113,000 or Dh381,242) are 11,660 euros, which equals $13,176 (Dh44,452) at a tax rate of about 30 per cent. Fraction of foreign taxes that can be taken as credit can be calculates using the below formula: ($113,000 - $108,700) / $113,000 = 0.038

Net Swedish tax that can be taken as credit: (0.038 x $13,176) = $501 (Dh1,840). This net Swedish tax can be subtracted from your US tax: ($946 - $501) = $445 (Dh1,634) which should be paid to the IRS.

In this particular example, you would actually be better off by just using the foreign tax credit alone and not claiming the FEIE. If you do this you wouldn't have to pay anything in US taxes (Swedish tax $13,176 is greater than US tax $6,835). In addition, the foreign tax credit can be applied (in some cases) against tax on unearned income as well (pensions, interest, capital gains, etc.).

So you see that by judiciously combining the FEIE with the foreign tax credit or by applying only the foreign tax credit you can substantially reduce or even get your US tax bill down to zero. Again, this is only an approximate calculation to serve as an example of how the system works.

Key takeaways: Checklist to remember

• When US expats move abroad, you may need to pay taxes to your host country in addition to your US taxes. However, in the UAE your income isn’t taxed.

• However, in countries elsewhere, even if US expats need to file taxes, they can use ‘foreign tax credits’, as explained above, to avoid paying twice as much.

• If you are a US expat moving abroad mid-year, once you qualify for the Foreign Earned Income Exclusion (FEIE), as elaborated above, you’ll be able to exclude an amount of your taxable income to reduce your US tax bill.

• After moving to a foreign country, many US expats can increase tax savings by excluding housing expenses such as rent, utilities, and property insurance.

• The IRS requires US citizens and green card holders living abroad to file a Foreign Bank Account Report (FBAR) (explained above) for financial assets that exceed certain thresholds. Bear in mind that failing to file can cause expensive fines.

• Another factor experts remind is that moving abroad doesn’t necessarily mean you will get out of paying US individual state taxes. If you own property, have a driver’s license, or are registered to vote, you may be required to pay taxes in some states in the US.

• When it comes to taxes, it is always recommended that consulting a tax professional prior to your move abroad can make filing quicker and easier.