Since we moved to Paris in February, we’ve become much more familiar with taxes living abroad. This may be of interest to anyone who is thinking of living or retiring to another country. I will share the situation for me as a US citizen living in France, but the basics will apply to most countries.
If you thought US taxes were complex, things get really difficult when you add in a foreign tax system and then have to figure out how they will interact together. Given this complexity, this article should be considered just a primer on basic terms and not used as individual tax advice. You need a tax professional who has experience with US clients living abroad.
In general, US citizens have to pay US income taxes on their global income, regardless of where you live. You don’t get out of US taxes by going abroad. But you may be able to reduce your US taxes and that is what we will discuss. Also, there are many other tax considerations besides the annual income tax bill to understand.
If you spend more than one-half of the year in France (183 days), they will likely consider you a Tax Resident of France. This makes you subject to full France income taxes, which is levied on your global income. If you live in France less than half the year and are not a tax resident, you would still be subject to France taxes on any French derived income.
If all your income sources are from the US, you could potentially live abroad for just under half of the year and not become a Tax Resident. And then you would only have to file US taxes. Currently, as a US tourist, you can stay in the European Union for up to 90 days out of the rolling previous 180 days. Make sure you fully understand the “rolling 180 days” part – it is not based on a calendar year. If you can stay a tourist and not become a tax resident, this will make your life much simpler!
Avoiding Double Taxation
For a US citizen living abroad, you have the problem of double taxation. Your income will be taxed by your resident country and then it will be taxed again by the US. Thankfully, there are tax treaties with 70 countries which provide some benefit and there are several ways to reduce or eliminate the double taxation. Still, you will need to file a US tax return even if you don’t end up owing any US taxes.
Foreign Earned Income Exclusion
The US tax code allows for a citizen to exclude up to $120,000 (2023) in Foreign Earned Income from being taxable on your US taxes. This is doubled to $240,000 for couples who are married filing jointly and who both have foreign wages. You must live abroad for 330 out of the past 365 days. For someone whose income is below the FEIE threshold, you could end up with zero taxable income for the US. You would calculate this exclusion on IRS form 2555 “Foreign Earned Income”.
The FEIE does not apply to any US wages or to any US capital gains, dividends, interest, rent, or other US sourced income. So if you have US wages or income, those earnings are still taxable outside of the FEIE amounts.
In addition to the FEIE, there is also a US tax exclusion for foreign housing expenses, which has a cap of 30% of the FEIE, or $36,000 for 2023. If you reduce your US taxable income to zero through the FEIE and/or housing exclusion, please note that you will be ineligible to make any IRA contributions. (Because your taxable income is zero.)
Foreign Tax Credit
Alternatively, you may be able to claim a credit on your US tax return for foreign taxes paid. The FEIE may take many people’s taxable income to zero and you can stop right there. However, US citizens who make more than the FEIE thresholds, or who have some US-sourced income, may still owe US taxes. And in those situations, applying the Foreign Tax Credit may be preferable. Please note that you have to choose either the FEIE or the Foreign Tax Credit, but cannot do both.
In my situation, we will probably end up using the Foreign Tax Credit. That’s because we have both US and France sources of income (US for me and France for my wife). And since the French taxes will likely be higher than the US taxes, it may take our US tax bill to zero.
Except for one thing: although France taxes us on global income, they exclude Real Estate income. They believe that all real estate income should be taxed locally. And indeed, if you buy a rental property in France, they will charge you income tax on that property even if you never set foot in the country or become a tax resident. As a result, our AirBnb Properties in Hot Springs will remain solely taxed in the US.
One challenge with using the Foreign Tax Credit is that it requires that you finish your foreign taxes before you complete your US tax return. For many, this will require filing a US tax extension past April 15th. And once you are beyond April 15th, you have passed the window to make Traditional or Roth IRA contributions or to calculate 401(k) profit sharing amounts. You may not be able to determine your eligibility until you complete your tax return, so you might miss out on some opportunities.
In France, the payroll tax for Social Security is 20%. That is much higher than the US contribution of 7.65% for Social Security and Medicare. However, the French contribution includes all social programs, including Health Insurance, unemployment, maternity leave, as well as “retirement” Social Security.
Although 20% is 12% more than what we would pay in the US, we don’t have any health insurance expenses in France. And so it may be fairly comparable to what we would pay in the US for total costs. As a self-employed person in the US, we might pay $1,200 a month for a family plan with a $5,000 deductible. That’s a $19,400 annual expense we don’t have in France. And the medical system here is excellent.
We just had a baby girl a month ago, and I have no complaints about the value we have received. I will say that the social charges here are a great deal if you have a modest income, but if you have a very high income, you may feel that you are paying in more than you are getting back.
Social Security Vesting
There is one problem for us, however, with social security taxes abroad. Just like the US Social Security, the French retirement system has a 10-year vesting period. Only after you have contributed for 10 years do you become eligible to receive a retirement pension. We do not plan to stay in France for 10 years, so all the money we will pay into their Social Security will not come back to us later in retirement.
Our French earnings are not credited toward the US Social Security system either. US Social Security benefits are calculated based on your highest 35 years of inflation adjusted earnings. We are effectively losing these years of contributions. We are paying in France for no future benefit, while losing the years that could have been added to the US benefits. There’s no 401(k) in France, so no other employer retirement contributions, either.
If you are considering working abroad, make sure you understand its impact on your future benefits! We have enough in ongoing savings and investments for this not to be a major problem, but it is an opportunity cost that we are missing by working outside the US.
Besides wages, there are other tax events which could become major pitfalls when living abroad. Here are a few things which could become huge tax bills for US citizens in other countries.
- Home capital gains. In the US, we have a $250,000 capital gains exclusion on the sale of your primary residency. France does not. If your US house sale closes a week after moving to France, it occurred while you are a tax resident of France! Maybe you have a $100,000 capital gain which is ignored in the US but now taxable in France. Sell your house before you move! Or keep it.
- Gift Taxes. Large gifts to children or others are fine in the US with a lifetime Gift/Estate tax exemption of $12.92 million. Not so in France. Gift taxes could be 20% and apply with thresholds dependent on the relationship. There are even gift taxes between spouses! The French gift tax exemption is only 31,865 Euros per 15 years.
- Trusts not recognized. Based on Civil, not Common Law, France does not recognize trusts for tax purposes. Don’t set up US Trusts before becoming a tax resident abroad.
- Inheritance Taxes. If you are in France for more than six years, you are subject to inheritance taxes. These are paid by the recipient, unlike US Estate Taxes, which is paid by the Estate. The US threshold is $12,920,000 before any Estate taxes are due. In France, inheritance taxes start at 5% at 8072 euros, but steps up to 45% tax on amounts above 1,805,677 euros (2023).
If you are contemplating working or retiring outside the US, taxes living abroad can be complex. Luckily, you’re not the first one to do this. You will want to have tax advisors in the US and in your new country who have experience navigating these complex rules. And having a Wealth Manager who understands the tax implications of your portfolio construction is very important, too.
When my wife’s employer offered her a position in their Paris office, it was an offer we could not refuse! It has been a remarkable opportunity. If you could have the chance to live or work overseas, I would encourage you to see if it is possible. The taxes are a headache and will take a bit more time, but I do think it will be worth it for the experience. Certainly part of achieving the Good Life is being able to fearlessly make the choices to live your life as you dream it could be!