How Entrepreneurs Can Save on Taxes by Working Overseas

From freelancers to entrepreneurs, the self-employed have the freedom to set their own schedules, choose their clients, and work on projects they are passionate about. Even for those who have moved their business online, self-employment means having complete control over where, how, and when you work.

However, these benefits come at a cost. Self-employment makes filing taxes more complex and can increase tax liability compared to other types of employment. To offset these costs, adventurous entrepreneurs should consider relocating their home offices to their preferred overseas destination in order to lower their tax burdens through special tax credits for U.S. expatriates. (Of course, you need to make sure you can travel safely while following all current precautions for Covid-19.)

Basics of self-employment tax

The self-employed are treated as both an employer and an employee for tax purposes. This means that they are responsible for paying half of the Social Security and Medicare taxes that employers normally withhold from salaries.

The self-employed tax rate is 15.3 percent and covers social security (12.4 percent) and Medicare (2.9 percent) contributions. If the person’s income is over $ 200,000 ($ 250,000 for married couples filing together), they must pay Medicare an additional 0.9 percent (a provision added by the Affordable Care Act).

Self-employed people who earn $ 400 or more in the tax year must file a U.S. tax return. This means that most freelancers and contractors should be prepared to file a tax return every year. Self-employed taxpayers must use Schedule C when preparing their tax returns to report profits or losses on their business. Depending on the structure of your business, additional forms may also be required, which can make filing confusing and costly.

Tax breaks for Americans living abroad

The US Tax Code contains special provisions for Americans living abroad that can help offset some of the cost of self-employment tax. These include the exclusion of foreign income, the foreign tax credit and the exclusion of foreign housing:

  • Foreign income exclusion allows qualified expat taxpayers to exclude up to $ 107,600 from taxation in 2020 ($ 108,700 for 2021).
  • Foreign tax credit grants Americans working overseas dollar-for-dollar credit for taxes paid to a foreign country.
  • With the exclusion of foreign living space, certain housing costs abroad can be deducted.

It is important to note that these tax breaks cannot be used directly to eliminate or reduce self-employment taxes, which are calculated on your full income (before credits or exclusions are applied). However, these cuts can help to minimize the general income tax liability of the self-employed.

How to qualify

To qualify for these tax savings, you must provide evidence that you live overseas. Specifically, you must be outside of the US for at least 330 days of a 365 day period – or you have to live outside of the US for a full year with no intention of returning (in which case there is no specific requirement for the number of days you are outside of the US).

The IRS strictly enforces the requirements for both tests. Therefore, it is important that self-employed Americans fully understand them before moving abroad. If you miss the requirement by just one day, you will not be able to qualify for any of these expat tax breaks.

Understand the tax implications before you move

Note that while relocating your freelance job or business to a tropical island overseas can help you qualify for tax breaks, it can also trigger additional tax requirements like overseas financial reporting. In addition, you need to consider the current travel environment. Make sure you research and follow the latest coronavirus pandemic health and safety measures for both your current location and your destination.

If you decide that moving abroad is right for you and your business, make sure you understand the tax implications so that you can maximize your savings and minimize filing confusion.

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