Taxes and Living Abroad: To File or Not to File?

February 25, 2005

FOR U.S. citizensliving in foreigncountries,there is little or norelief in income taxfiling requirements.Often weare faced withnew requirementsand situations,and given wrongadvice from fellowcitizens.As a professionalU.S. incometax preparerspecializing in U.S. citizens living in foreigncountries, I have provided in this columnanswers to some frequently askedquestions.Now that I am living in Costa Rica, do Ineed to file a U.S. income tax return?Most U.S. citizens must file an annualincome tax return on their worldwideincome. As a general rule, imagine youwere still living in the United States – ifyou would be filing a return there, youprobably should file one from here. It isbetter to file than not. Where you live hasno bearing on your filing requirements.My only income is from a Costa Ricancompany, and I pay taxes to Costa Rica.Do I have to include this income on myU.S. tax return?U.S. citizens must include all worldwideincome on their tax returns. Thisincome could qualify for the $80,000 foreignearned income exclusion, but theexclusion is not automatic. You mustinclude the income on your tax return andthen exclude it by using IRS form 2555. Ifyou do not meet the requirements for theexclusion, then the tax you paid to CostaRica could possibly be taken as a foreigntax credit.I live in Costa Rica and work for a U.S.company. Does this income qualify forthe $80,000 foreign earned incomeexclusion?If you meet the other requirements forthe foreign earned income exclusion, thewages you receive from your U.S. employercan also be excluded. Your employer isstill required to withhold Social Securityand Medicare on your wages.I have my own small business in CostaRica and work as a self-employed person.My business is not incorporated.Does this income qualify for the foreignearned income exclusion?Yes. This income can qualify for theexclusion just as if you were working for aU.S. employer. Caution: The exclusion isfor federal income tax only. You will stillbe required to pay self-employment tax(Social Security and Medicare taxes) onyour profits.I receive dividends from a Costa Ricancompany. Are the dividends “foreignearned income,” and do they qualify forthe exclusion?No. The foreign earned income exclusiondoes not apply to income such asinterest, dividends, capital gains, pensions,annuities and gambling. The exclusionapplies strictly to earned income – in otherwords, your wages, salaries, bonuses, commissions,fees and other compensation forservices rendered.Note: If you own 10% or more of a foreigncorporation, you are required to filewith your individual income tax return IRSform 5471 (Information Return of U.S.Persons with Respect to Certain ForeignCorporations).I receive interest from my Costa Ricanbank account. Do I have to report thisinterest on my U.S. income tax return?Yes. U.S. citizens must include in theirincome monies received worldwide. Thisincludes interest and dividend income. Inaddition, if the aggregate value for yourforeign accounts is greater that $10,000 atany time during the year, a Report ofForeign Bank and Financial Accounts mustbe submitted to the U.S. TreasuryDepartment.I transferred money from the UnitedStates to Costa Rica. Is there anythingspecial that I need to do?If a U.S. citizen has a financial interestin or signature authority over anyfinancial accounts, including bank, securitiesor other types of financial accountsin a foreign country, and if the aggregatevalue of these accounts exceeds $10,000at any time during the year, the accountsmust be reported to the U.S. TreasuryDepartment.Last year I got married to a Costa Ricancitizen. Can I file a joint return with myspouse, who is not a U.S. citizen?Yes, but in doing so, you make theelection to report your income and yourspouse’s income worldwide. If your spousedoes not work, or has very little or noincome, it could be to your advantage tofile a joint return. If your spouse does nothave a taxpayer identification number, onemust obtained.My Costa Rican wife has a child from aprevious marriage. The child is livingwith us. Can I claim the child as adependent on my tax return?To be claimed as a dependent, thedependent must be a U.S. citizen or a residentof the United States, or, in certaincases, a legally adopted child of a U.S.citizen.I have been living in Costa Rica foryears and have not filed a tax return.What should I do?It is to your advantage to seek professionalhelp to determine whether or notyou need to file.My business is incorporated as a CostaRican S.A. (sociedad anónima, incorporatedcompany). Currently it is not makinga profit, and I am not receiving apaycheck. Does this have to be includedon my tax return?Yes. If you own 10% or more of a foreigncorporation, you are required to filewith your individual income tax returnIRS form 5471 (Information Return ofU.S. Persons with Respect to CertainForeign Corporations). This includesinactive S.A.s and corporations not makinga profit.For more information on U.S. taxation,call U.S. Tax & Accounting Service at 288-2201 or e-mail ustax@lawyer.com.

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