How to tax the United States on digital nomads? The advantages that the United States offers to individuals who have American citizenship but work abroad on a permanent basis.
To understand the advantages and disadvantages of the U.S. tax regime for digital nomads. How can you plan ahead to make the most of your global job opportunities if you are a U.S. citizen.
In recent years, the number of digital nomads – that is, U.S. citizens and Green Card holders who work while travelling abroad – has been increasing. Technological progress has certainly allowed millions of people to live where they want, working with customers from all over the world. However, you should know that the United States, from this point of view, offers digital nomads who have U.S. citizenship an important favourable tax regime.
In fact, many U.S. citizens have the opportunity to become digital nomads (working remotely while travelling in different countries). Some of them mistakenly assume that if they just travel from one country to another, they will avoid the taxation of their income.
You must know, in fact, that the United States is one of the few countries in the world that tax its citizens based on their citizenship and not on the basis of their place of residence (tax). Below, I want to go and explain to you why digital nomads who have a U.S. passport can legally reduce their tax burden.
$ 107,600 US taxable income exclusion for digital nomads
U.S. citizens who meet three requirements are entitled to the so-called “exclusion of income from work abroad”. In particular:
-The first requirement is to have foreign earned income which can be briefly described as income received for services performed in a foreign country.
-The second requirement is that the tax domicile of the person concerned must be in a foreign country. The United States Internal Revenue Service (IRS) defines the term “tax domicile” as “the general area of the main office of your business, work or service, regardless of where you keep your family home”.
-The third requirement is that the individual must:
-Reside continuously in one or more foreign countries for a period that includes a full fiscal year;
-Be a citizen or citizen of a country that has a double tax treaty with the United States and must reside in one or more foreign countries for an uninterrupted period that includes a full tax year. This is the Bona Fide Residence Test (B.F.); or
-Be physically present in one or more foreign countries for at least 330 full days over a period of 12 consecutive months. This is the physical presence test (PPT).
The texts of physical presence ppt
While the two criteria (Bona Fide Residence Test and Physical Presence Test (PPT)) may seem similar, they are actually quite different in terms of how they apply to your U.S. taxes.
The PPT essentially means that a person has left the United States and has not returned for more than 35 days during the twelve consecutive months. This clause is not based on a calendar year. This test simply refers to any twelve-month period (i.e. April to April or September to September). Also, note that it does not refer to consecutive days.
So a digital nomad would be considered ineligible if he made several 2-7 day trips to the United States totalling over 35 days during the twelve-month period in question. The key to satisfying the “physical presence test” is to have spent less than 35 days in the United States during a 12 month period.
Two other important things about the ppt
1-The 330 days of the year spent outside the United States must be spent on the actual land territory of another state. Therefore, if you spend time in international waters (ie on a ship), it does not count towards the number of days spent outside the United States;
2-The days you arrive and leave the United States (even if you are only transferring flights) count towards the days spent in the United States. For example, if you arrive in the United States on July 1 and leave on July 10, you should count a total of 10 days spent in the United States.
For digital nomads: The B.F. test is likely not to apply because you are not moving to a single country where you take steps to establish residency.
The $ 107,600 US tax exemption for digital nomads
U.S. citizens who meet the three requirements above are entitled to a foreign earned income exclusion of USD 107,600 for 2020. Such US citizens also have the right to deduct or exclude certain amounts related to housing.
U.S. citizens living abroad are subject to U.S. income tax in excess of the exclusion of overseas earned income.
To avoid this, it is possible, for example, to incorporate a non-US company that will pay them a salary not exceeding the amount of the exclusion of foreign earned income. For example, if the foreign company earns $ 200,000 annually and pays $ 107,600 a salary to the U.S. citizen, the rest of the company’s earnings ($ 92,400) can be deferred or reinvested in tax, without the need to pay U.S. taxes on them.
Of course, to plan options like this, the advice is to rely on experienced international tax professionals.