Greet Uncle Sam with a Plan

Last month, the BBNA International Tax Blog featured highlights from the first article in our series Uncle Sam Wants You (To Pay Tax) by Chris McLemore and Erin Fraser of Butler Snow LLP, published in Tax Planning International Review. In that piece, the authors flagged some key US income tax pitfalls for Americans living abroad, including the annual U.S. filing obligation (even if no U.S. tax is actually due) and the fact that foreign tax credits may not entirely shield Americans from U.S. tax on their worldwide income – even if they pay more tax in their host countries than they would, were they resident in the U.S.

This month, McLemore and Fraser have written a follow up article for Tax Planning International Review entitled It Pays to Plan Ahead, in which they offer some basic tax planning tips that Americans can deploy to mitigate adverse US reporting and tax consequences associated with living abroad.

They make the following key points: 

  • A U.S. taxpayer is subject to U.S. tax on the gain on the sale of a principal residence in excess of US$250,000. Many other countries, including Australia and the U.K., exempt or defer principle residence gain. Americans who are married to non- U.S. persons may therefore wish to consider owning their residence as tenants in common, rather than jointly, and transferring shares of the property to their non-American spouses in preparation for a sale. Such transfers must be planned carefully to avoid triggering a US gift tax – for example, by taking advantage of the US$147,000 annual exemption for gifts to a non-U.S. spouse. 
  • Many American expats pay higher taxes in their country of residence than they would in the U.S. Foreign tax credits may be carried forward for up to ten years, and may be used to shelter income that is untaxed overseas, such as additional pre-tax contributions to a foreign pension plan. 
  • It may be possible to take advantage of a mismatch between the U.S. tax year (a calendar year) and the tax year in other jurisdictions so as to obtain a foreign tax credit to offset U.S. tax liability on a gain before the foreign tax is actually due.  Such planning takes advantage of the U.S. option to account for foreign taxes on an accrual, rather than a cash basis, i.e., generally, the final day of the foreign jurisdiction’s tax year. Jurisdictions that have a tax year which differs from the calendar year include Australia (June 30 year-end), Hong Kong (March 31), India (March 31), and the U.K. (April 5). 

In sum, while it may not be possible for U.S. expats to avoid their U.S. tax obligations altogether, careful up-front planning can pay dividends – of the tax free (or at least, tax efficient) kind.

Uncle Sam Wants You (To Pay Tax): It Pays to Plan Ahead, by Chris McLemore and Erin Fraser, is published in the May, 2015 issue of BBNA Tax Planning International Review, and is available by subscription on the Premier International Tax Library.  In their next article in the Uncle Sam Wants You (To Pay Tax) series, McLemore and Fraser will write about the implications of U.S. transfer taxes for US expatriates and their families.

by Joanna Norland, Technical Tax Editor, Bloomberg BNA