Maritime International Advisor

New Taxes for US Expats

US legislators have voted to amend the tax laws governing US citizens living abroad. This has come as a shock to many Americans, as the consequences can be quite painful.
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Summer 2006 - US legislators have voted to amend the tax laws governing US citizens living abroad. This has come as a shock to many Americans, as the consequences can be quite painful.

Unlike most other countries, Americans are taxed on their citizenship, rather than residency. They must pay taxes just as if they were living in the USA, except for some special exemptions. They get a credit for taxes paid to the country in which they reside plus they also get a US $80,000 credit against taxes owed. This credit has now been raised to US $82,400, a rather paltry amount, giving the inflation erosion over the past years. The good news is that it is finally going to be indexed to inflation.

The bad news for Americans is in the way the taxes are now to be calculated on housing allowances. The exemption for housing used to be almost unlimited. Now, it is capped at $11,536 although some small changes to the exemption can still be allowed, depending on differences in living costs in various countries. A further problem is in the way the tax rate is to be applied on investments.

A further problem is in the way the tax rate is to be applied on investments. Social security, pension income, interest income and other investments will now be taxed at a higher rate.

In the past, this income was taxed as if it was the only income earned, after taking out the foreign earned income and housing exclusions. Now, the tax will be levied as if the income was earned on top of the exclusions. This will push the income into the higher tax brackets.

One important point: Capital gains and qualifying dividends are still taxed at 15%, meaning that expats in higher tax brackets should maximize this type of investment, over interest income.

The hardest hit taxpayers will be US expats in the lower tax areas of the Middle East, South East Asia (particularly Hong Kong) and parts of the Caribbean. Since US expats receive a credit for tax paid in the country of residency, those in the higher tax countries of Europe, may find that local taxes will offset some of the increased US tax.

For example, reports that in Bermuda, a single higher income US taxpayer could see a typical increase up to a startling $20,000. In Saudi Arabia, a US taxpayer with $150,000 in base pay, $30,000 in taxable employer paid housing expenses and $15,000 in interest income, would be $9,500 worse off. In Hong Kong the increased tax bite could be over $20,000.

Many officials seem to believe that employers will pick up the increased tax bill. This may be the case in the short term and with respect to key senior employees. In the long run however, employers are certain to turn to other nationalities such as Canadian and British citizens, who only pay tax to the country in which they reside, if they have no Canadian or British source income.

If such a trend indeed occurs, US companies overseas will increasingly be managed by non-US citizens and US participation in foreign companies will decline. Would this not lead to a decline in US influence in the global economy outside of the US? Only time will tell.

US expats are advised to consult their tax advisor to prepare for the 2006 tax year and to begin negotiations with their employer, to try to offset these increased taxes.

Those who might wish to minimize taxes by taking advantage of the 15% tax on capital gains and dividends, through entering the US equity markets can contact Maritime International Ltd. We are familiar with a number of prominent US brokers and investment houses and can assist you in opening an account.

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