Living Virtually – Tax Deductions You Need to Know About
While the events of the last year brought much turbulence to our daily lives, the fact is that life as an expat has still never been more interesting. With so many people working from home or telecommuting from distant lands, as well as improved technology and communication tools such as Zoom, not to mention the COVID-19 pandemic forcing us out of our offices and comfort zones, working and living virtually has become a necessity for many people.
And, while the Tax Cuts and Jobs Act of 2017 eliminated some tax deductions for individuals, such as being able to deduct unreimbursed employee expenses and moving expenses on the federal return, as an expatriate working remotely, you still have some options available to you in terms of reducing your tax footprint.
The biggest tax deduction when working remotely is the Foreign Earned Income Exclusion (FEIE). A lifesaver for U.S. expats living overseas, the FEIE allows a taxpayer to exclude up to $107,600 for tax year 2020 and up to $108,700 in tax year 2021 from federal taxes. This is a huge break for American citizens or green card holders since it allows you to dramatically reduce (and in many cases, eliminate) your federal income tax. To qualify for the FEIE, you will need to have been a bona fide resident of a foreign country for an uninterrupted period that includes an entire tax year or be physically present in a foreign country for at least 330 days during a 12-month period. Please note, however, that the FEIE applies only to federal income tax, and not self-employment tax. Also, foreign-earned income refers to wages or salaries, and not dividend income or capital gains.
A deduction available to those who are working remotely from the comfort of their home is the home office deduction. To take advantage of this deduction, you need to be regularly using part of your home exclusively for conducting business. For example, if you have a spare room in your house, you may use that for business and take the home office deduction. Additionally, this space must be your principal place of business. What is great about the home office deduction is that it includes expenses such as rent, utilities, and even repairs. However, the amount of deduction is based on the percentage of your home that you use for business. For instance, if you have a 1,500 square foot house or apartment, but the square footage used for business is 150 square feet (the size of a room), then the expenses are pro-rated according to the percentage of business use. Typically, this deduction is only available to you if you are self-employed. However, some states, such as California and Hawaii, allow this deduction on the state return.
Related to the previous deduction, if you moved to another state or country, you may be able to take a deduction for moving expenses on a state return. To take a deduction for moving expenses on your state return, you must meet two tests: the time test and the distance test. The time test means that you need to have started your new job and work full-time for at least 39 weeks within the first 12 months after your move. The distance test means that your new place of employment needs to be at least 50 miles away from your old home than your old place of employment. For those of you who move overseas, it will be quite simple to meet this test. As in the previous paragraph, you are unable to take this deduction on the federal return, but some states, such as New York, New Jersey, California, and Hawaii, still allow this deduction on the state return.
Finally, if you pay income taxes to another government, you may be able to take the Foreign Tax Credit (FTC) on your tax return. This is a very useful credit, especially if you live in a high-tax locale. What is nice is that the FTC can be combined with the FEIE to provide huge tax savings in the U.S. For instance, if your total income exceeds the exclusion limit of the FEIE, you may use the FEIE in its entirety, and then, on the other tranche of income, use the FTC. However, please note that you are unable to use the FEIE and the FTC on the same income. Let us say you live in a foreign country, pay income tax there, and your earnings for the year 2021 are $200,000. In this scenario, you can exclude the first $108,700 from U.S. taxes by using the FEIE, and then, for the remaining $91,300, you can use the FTC.
These are among the most common deductions and credits available to those who live and work virtually, but everyone’s situation varies. If you are a digital nomad or remote employee, and you are looking for ways to maximize your earnings and minimize your tax burden, it behooves you to get in touch with experts who are well-versed with helping expats. Please reach out today for more tips and advice on how to get more deductions while working virtually.