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Income Tax

The Hidden Costs of Claiming the Foreign Earned Income Exclusion

The Hidden Costs of Claiming the Foreign Earned Income Exclusion

by | Mar 3, 2023 |

Many U.S. expats have learned to use and cherish the Foreign Earned Income Exclusion (FEIE), a provision in the U.S. tax code allowing workers to exclude up to $120,000 (for 2023) of their non-U.S. salary for Federal taxation. If nothing else, the FEIE stands out for its absolute simplicity in an otherwise endlessly convoluted tax code: anyone deriving income from a foreign employer can claim the FEIE by filing form 2555, and there are remarkably few exceptions and caveats. It is one of the few “breaks” that expats get in their otherwise needlessly complex financial lives, so it’s perhaps no surprise that it represents the go-to, default option for most U.S. taxpayers abroad when it comes to avoiding double taxation. For the majority of expats, claiming the FEIE each year will absolutely be the right thing to do. However, in this article I will consider some of the drawbacks of using the FEIE, and consider instances where claiming the FEIE may actually have hidden costs. Once these costs are factored in, the same taxpayer may actually find that claiming the FEIE is not the optimal tax strategy.

Hidden cost #1: Missing out on unused foreign tax credits

Interestingly, many expats who use FEIE don’t actually need it, and could use the mechanism of tax credits to avoid double taxation instead (claiming credits in one country for taxes paid in the other). Expats in high tax jurisdictions in particular probably pay enough in foreign taxes to fully offset any potential U.S. tax liability, even without excluding any income.  Other higher income earners may also use a combination of the two approaches: the FEIE up to the statutory limit, and tax credits for the remainder of their income. The benefit of the tax credit approach is that any unused foreign credit can be rolled over for 10 years, and, therefore, may be used in the future to offset potential U.S. tax liability. While using foreign credits is not always easy (indeed many foreign tax credits end up expiring), certain situations such as moving to a low tax country, or using certain pension withdrawal strategies, may give rise to very attractive opportunities for an expat to capitalize on their unused foreign tax credits. Using the FEIE may reduce or completely eliminate these opportunities.

Hidden cost #2: Losing the ability to contribute to an IRA

Excluding your income from federal taxation sounds great, but if you exclude all of your income, you may be making yourself ineligible for IRA or Roth IRA contributions, which require the presence of employment income as the primary criterion for eligibility. As a result, you could be missing out on the opportunity for tax deferred or even tax exempt growth afforded by IRAs and Roth IRAs. The benefit of making such contributions will vary greatly depending on your personal circumstances and country of residence, and some expats may not benefit from them at all. For a more detailed discussion on IRA contributions for expats please refer to my previous article on the topic: 

https://usexpatinvesting.com/educational-materials-for-ex-pats/can-i-contribute-to-an-ira-as-an-american-expat/

Hidden cost #3: not receiving refundable tax credits

For expat parents who may qualify for child care tax credits, using the FEIE may have another hidden cost: it will make you ineligible for the refundable portion of that credit. In practice, this could mean missing out on the opportunity to receive USD $1,400 per child annually paid to you in cash, due to specific tax rules making FEIE claimants ineligible for tax credit refunds. Filers who simply claim foreign tax credits are unaffected and remain fully eligible for this tax credit, including the refundable portion. 

Given the drawbacks outlined above, it is clear that while the FEIE is intuitively attractive for its efficient and straightforward nature, careful analysis may reveal certain shortcomings that could very well prompt some expat taxpayers to reconsider its use in favor of the tax credit approach. Unfortunately, the IRS does not let taxpayers simply flip-flop between credits and the FEIE. Once the FEIE election is revoked, it cannot be claimed again for at least 5 years, and will require a specific written request and IRS approval to re establish.* For many taxpayers, that convoluted procedure alone may justify the added cost of using the FEIE, and in all cases it is clear that revoking the FEIE should only be done after very careful consideration and consultation with your accountant and advisor.

* https://hodgen.com/flip-flopping-the-foreign-earned-income-exclusion/

ABOUT THE AUTHOR

Headshot of financial advisor Syl Michelin in a blue suit with white button up shirt and gray background

Syl Michelin, CFA®

US EXPAT FINANCIAL ADVISOR

Syl Michelin is a Chartered Financial Analyst and fee-only, fiduciary financial advisor who works with cross-border families and American expatriates. 

You should always consult a financial, tax, or legal professional familiar about your unique circumstances before making any financial decisions. This material is intended for educational purposes only. Nothing in this material constitutes a solicitation for the sale or purchase of any securities. Any mentioned rates of return are historical or hypothetical in nature and are not a guarantee of future returns. Past performance does not guarantee future performance. Future returns may be lower or higher. Investments involve risk. Investment values will fluctuate with market conditions, and security positions, when sold, may be worth less or more than their original cost.

 

AS PORTUGAL’S EXPAT POPULATION BOOMS, ITALY AND GREECE JOIN THE COMPETITION

AS PORTUGAL’S EXPAT POPULATION BOOMS, ITALY AND GREECE JOIN THE COMPETITION

by | Feb 15, 2023 |

Over the past few years, our Expat Group at Walkner Condon has covered the success of Portugal’s Non-Habitual Residence (NHR) program extensively. As a former expat who lived in Portugal before returning to the states in 2011, finding other Americans living in Portugal (well, Lisbon at least, as I can’t say I was laying back and enjoying the calmer life of the Algarve, which at that time was known mainly as a British expat enclave) was difficult. However, over the past handful of years, the transformation of Portugal into a key in-demand destination for Americans (retirees but also non retirees) has been absolutely stunning. According to Forbes, the number of Americans living in Portugal rose 45% in 2021 from the prior year. And 2022 got off to an even hotter start, with VISA-motivated investment by Americans more than tripled in the first quarter of 2022 over the first quarter of 2021, according to SEF, the Portuguese Immigration and Border Service. The American Expat trends in Portugal certainly show no sign of slowing. Rising housing prices in the U.S., a favorable Euro/USD exchange rate and the popularity of remote work have no doubt added kerosene to the NHR fire!

Portugal’s NHR success story has not gone unnoticed by other fiscally-challenged EU member nations that would like to attract more talented and/or wealthy expats to immigrate and contribute to their economies and tax rolls. It should come as very little surprise that Italy and Greece have prepared to enter the competition for these expats, whether they be citizens that fled in years past for better opportunities elsewhere, or foreigners looking for attractive low-cost living options in Southern Europe with enticing scenery, warm climates, rich in cultural tradition and, of course, tax breaks. 

Perhaps as the influx of expats in Portugal continues to crowd its beaches and inflate the once-attractive housing market, it’s time to consider these relatively new tax programs in Italy and Greece and compare them with each other and with Portugal’s NHR program. Obviously, the competition for the would-be expat’s visa application comes down to more than tax arithmetic, but understanding a few key features of the Italian and Greek tax programs for expats should prove to be a valuable launching point into further inspection and study of these countries as potentially viable competitors of Portugal for expats moving forward. Accordingly, we’ll briefly outline some key tax features introduced in Italy, and then we’ll take a similar look at what Greece is doing to entice attractive expats.

ITALY’S TAX INCENTIVES: A TALE OF THREE REGIMES

While Portugal’s NHR program offers, for the most part, the same thing for everyone (the exception applying to Portuguese-based earnings, where incentives are afforded only to workers in only certain professions), Italy takes a completely different approach: three distinct tax incentive regimes. Any would-be expat shopping for a program will therefore study each of these three regimes and determine whether one of them would fit the bill. The highlights (NOTE: only a cursory overview) of each of these three regimes are set out individually below. Like most things I’ve learned about the Italian tax system in general, they’ve designed this with complexity and special rules and exceptions abound.

The Impatriati Regime – Calling all Digital Nomads/Remote Workers, Self-Employed Businesspersons, Freelancers or Others Landing Employment in Italy

The Impatriati Regime looks to attract people moving their tax residency to Italy that are willing to commit to Italian tax residency for two years. Eligibility requires that you have not been a tax resident of the country for the two prior years. The regime is designed for workers – those who are going to earn taxable income – because the Impatriati regime tax incentives apply to employment (or self-employment income).

The main tax incentive is that participants are taxed on only thirty percent (30%) of their employment or self-employment income. If the participant moves to one of the southern regions of Italy, the employment/self-employment incentive improves for the participant, as they will be taxed on only ten percent (10%) of their self-employment income. Note that these incentives do not reduce the applicable required Italian social security contributions, nor do they apply to capital gains taxes. The incentives are designed to reduce active income from employment, not passive income nor pension income. It is important to note that there is NO CAP on the amount of income that can be reduced per this regime.

The Impatriati tax incentives last for five years. However, the regime can be extended for another five years under certain conditions: (a) the individual has at least one minor child, or (b) the individual, their partner, or their child purchase a home in Italy the year preceding the beginning of their participation or thereafter. However, the amount of income-tax-exempted income is reduced from 70% (or 90% if applicable) to 50% during this extended period, unless the participant has three or more minor children (which I guess that’s one way to combat the aging population crisis!).

The Fixed Tax Regime – Attention Ultra-High Net Worth Individuals

Completely different from the Impatriati regime’s incentives that focus on employment/self-employment income, this regime (we’ll call it “Fixed” or “UHNW”) focuses on income generated from offshore sources and caters to a very select group of potential immigrants.  This program applies to foreign sourced income generated abroad that would otherwise subject Italian tax residents to income taxes or capital gains taxes. It also applies to inheritance or gift taxes that would otherwise apply to gifts given or received or inheritances received from abroad.

The incentive is considerably more straightforward than those in the Impatriati regime: the participant pays a fixed €100,000 annually and no further taxes are due on the above-referenced income, capital gains, gift or inheritance items. Additional family members can be included in this regime for an additional €25,000 annually. 

Membership in this regime has further privileges. First, it lasts for fifteen (15) years. Second, it exempts participants from paying wealth taxes on their offshore assets. Finally, it even excludes participants from having to make a declaration to the Italian tax authorities on their offshore assets.

While this regime does not reduce Italian taxation on Italian-sourced income (normal rates apply), the Fixed/UHNW regime might be particularly attractive to affluent expats with substantial investment portfolios and/or foreign-source income.

The Flat Tax Regime For Foreign Pensioners

To qualify for the Flat Tax regime, you have to be retired, or at least receiving a pension income. The pension can be public (e.g., Social Security) or private (e.g. 401k or IRA). Participants must not have been an Italian tax resident in any of the previous five tax years. Significantly there is also an important geographic/demographic restriction to participate in this regime:  the participant must establish residency in a municipality with less than 20,000 inhabitants in the Southern regions of Italy. Therefore, extensive exploratory visits to remote locations in Southern Italy are highly recommended before planning to participate in this regime.

For those retirees, or semi-retirees, comfortable with those limitations, very attractive tax incentives await. First, participants will enjoy a flat tax of seven percent (7%) on their foreign-source income, including pension income and also capital gains on otherwise taxable foreign investments/property. Second, participants are exempt from any applicable wealth tax. Finally, participants also are not required to declare their offshore (foreign) assets. Ordinary Italian income and capital gains rates will apply to Italy-source income.

This regime’s incentives last for ten (10) tax years, so this fits right between the time limitations of the best incentives in the Impatriati regime and the Fixed/UHNW regime. For retirees looking for some of the lowest cost destinations Italy has to offer in order to kick back and enjoy a peaceful retirement environment with a warm climate for a decade, the Fixed Regime may indeed prove to be an ideal tax incentive regime. Thereafter, taxes revert to regular Italian rates on all (worldwide) income (or wealth) from all sources.

GREECE – LAST TO THE PARTY BUT EXTREMELY COMPETITIVE

Much like Italy, Greece’s economy has suffered tremendously for quite some time, and particularly so with the onset of the pandemic. Another key similarity to Italy and Portugal:  the existing tax regime for residents was highly unlikely to make it a choice destination for retirees and/or high net worth expats (45% marginal tax rate on income over €35,000). With that in mind, Greece has also joined the tax reform race to attract a much-needed injection of wealthier foreigners and expatriate nationals. The approach by Greece is almost a carbon-copy of the Italian reforms discussed above, but differences will be noted below.

Tax Relief for Expats on Earned Income from Greek Employment and Self-Employment

Originally, this tax incentive program was created in 2020 to benefit persons gaining tax residency in Greece in order to work for Greek companies or foreign companies with a permanent establishment in Greece.  In 2021, special provisions were added to provide these tax incentives to self-employed expats to attract the growing masses of “digital nomads” who could work remotely from almost any country to provide their services to clients. The Visa process for digital nomads would naturally be different and Greece may still be working out the wrinkles, so you may need some expert assistance from an immigration expert in Greece (whatever one would call the equivalent of an Italian “commercialista”).

The key tax benefit of these programs is a huge tax break on earned income:  Under the programs, Greece will levy taxes on only 50% of annual earned income for the seven (7) year duration of the program. There are several conditions to these incentives:

  • Applicants were not a tax resident of Greece for at least five of the previous six years before transferring tax residency to Greece;

  • Tax residence is transferred from an EU member state or EEA (EU plus Iceland, Liechtenstein and Norway) or from a country with which Greece has an administrative cooperation agreement on taxes with Greece (this includes the USA as these countries have a valid income tax treaty in place for over 50 years);

  • The applicant provides services in Greece in the context of an employment relationship with a Greek legal entity, a permanent establishment of a foreign entity in Greece, or (post 2021) through self-employment business activity; and

  • The applicant must commit to remain a tax resident of Greece for a minimum of two years.

As you can see, the Greek tax regime for expat employees/self-employed is very similar to the Italian Imperiati regime. The Imperiati regime appears more generous in terms of tax reduction for the first five years and can be extended for an additional five years on level terms for the Greek program, but only if additional requirements are met. On the other hand, the Greek tax incentives last seven years with no possibility of extension. Interestingly, Portugal’s NHR program lasts ten years and provides a flat tax of 20% on Portugal-source earned income, but only for certain professions, which can change over time, which makes it less comprehensive when it comes to domestic source earned income.

 

Ultra-High Net Worth Fixed Tax Regime a/k/a “Non-dom Investor” Status

Just like Italy, Greece has added a Fixed or UHNW tax option, whereby participants moving to Greece may pay exactly €100,000 annually for a maximum of fifteen (15) years, and can add any relative into the deal for another €20,000 per person per year.  This will relieve the participants of any further income tax obligations from non-Greece sources. Furthermore, participants are not subject to Greek inheritance, gift and parental grant taxes as well. And, unsurprisingly, the non-dom status also relieves participants from having to declare their income earned abroad. 

To qualify for non-dom status in Greece, two important conditions must be met:

  • Prior Non-Residents Only:  Applicants must not have been tax residents of Greece for seven of the prior eight years to qualify; and
  • Investment in Greece:  Applicants must show that they, or their relatives, directly or indirectly (through an entity of which they are a majority owner) invest at least €500,000 in real estate, businesses or transferable securities/shares of entities based in Greece.

Accordingly, while the term and the tax bill is identical to the Italian Fixed/UHNW regime, the key difference is that Greece is requiring a substantial investment in Greece to apply. Of course, anyone with overseas income at a level that makes paying Greece €100,000 each year for taxes on that income a “deal” will likely have no issues buying a residence there for over the €500,000 investment threshold.

 

The Flat Tax Regime For Foreign Pensioners a/k/a “Non-dom Pensioner” Status

Greece also has a non-dom regime for  foreign pensioners, which, like the Italian flat tax regime for pensioners, enables participants to pay a flat rate of seven percent (7%) on all of their foreign-source income to Greece.  To qualify, there are two key conditions for this program:

  • The applicant cannot have been a tax resident of Greece for five of the prior six tax years before transferring their tax residence to Greece; and
  • The transfer of residency must come from a state with which Greece has an agreement on administrative cooperation regarding taxation (includes the U.S.) in force.

As in Portugal’s NHR program, participants in the non-dom regime for pensioners in Greece must declare all of their worldwide income annually, whereas the Italian pensioner regime does not require the declaration of offshore income. 

There is certainly one feature of the Greek program that is superior to both Portugal’s NHR program and the Italian fixed rate tax regime: its longevity. Retirees wishing to not revert to the high tax rates of Western Europe after ten years will no doubt appreciate the fifteen year duration of this tax incentive program. Another critical advantage over the corresponding Italian tax incentive regime is that Greece’s program does not impose geographic/demographic restrictions. If you are a retiree who prefers an urban community, the Greek program may be a better option for you.

CONCLUSION:  LET THE BATTLE FOR EXPAT DOLLARS BEGIN!

This brief explanation of key features, conditions and restrictions of the newer expat tax incentive programs introduced in the last few years in Italy and Greece are both a testament to the success of Portugal’s NHR program for attracting foreign wealth and investment and a strong entry from these fellow EU nations in the competition to attract vital expat residents. The relatively low cost of living, favorable climates, and historical cultural attractiveness are advantages that all have traditionally shared, but their traditional tax regimes did little to enhance the attraction of residency in any of these Western European gems.  With the population explosion of expats in Portugal, property values and, therefore, the expat’s cost of living are on the rise. It may be time for would-be expats, digital nomads and retirees, to focus on these newer programs and broaden their horizons to consider all that Italy and Greece have to offer with a more level fiscal playing field. After all, these expat tax incentive programs appear to share more similarities than differences.

Remember that this is not intended to be an all encompassing comparison of the pros and cons of immigrating to any of the above-mentioned countries that are offering special tax concessions through their programs. Consider this a launching point for further inquiry and research. For example, consider other potential taxes that might affect your decision and which may depend on your unique objectives and financial/familial situation. Inheritance taxes, property taxes, etc. may dramatically alter the financial attractiveness of these destinations depending on your circumstances. Additionally, immigration eligibility and steps to obtaining the ability to become resident, and the costs involved in the immigration process for any of the above-mentioned countries are very important considerations, but are well outside the scope of this article. 

If you are contemplating a move from the United States to live an expat adventure, in Portugal, Italy, Greece, or elsewhere, your financial planning and investment management needs are about to change dramatically, but we’re here to help expats manage through the inevitable complexities. Consider reaching out to me or one of my colleagues, Sylvain Michelin and Keith Poniewaz. You can find a way to schedule a no-obligation consultation with us, and much more useful information regarding expat financial and investment topics, on our website.

ABOUT THE AUTHOR

Headshot of financial advisor Syl Michelin in a blue suit with white button up shirt and gray background

Stan Farmer, CFP®, J.D.

US EXPAT FINANCIAL ADVISOR

Stan Farmer, J.D., is a Certified Financial Planner™ (CFP®) and fee-only financial advisor who specializes in working with U.S. expats and Americans living outside the U.S.

What to Know about U.S. Estate and Income Tax for Foreign Investors

What to Know about U.S. Estate and Income Tax for Foreign Investors

by | Sep 7, 2022 |

Disclosure: Any specific examples listed are solely intended for educational purposes and are not intended to be tax advice. Please consult with a tax professional for specific information related to your situation.

There are many reasons for foreign investors to hold investment accounts in the United States. With its long history of property rights, efficient and regulated capital markets, and plenty of affordable investment options, the U.S. consistently ranks as one of the best global destinations for wealthy international investors.

As attractive as the U.S. may seem, foreign investors also need to be aware of potential pitfalls. In this article, I will focus on investments in financial assets, such as portfolios of stocks and bonds held through U.S. institutions, as opposed to real estate. 

In principle, the U.S. is wide open to foreign investors, and there are no laws (whether federal or state) preventing foreign nationals from holding investment accounts. However, for various reasons (complexity, risk…), many brokerage firms, banks, and financial advisors may choose to limit their services to U.S. residents, or at least apply strict restrictions on services to non-U.S. clients (such as minimum asset size requirements). So finding the right investment partners already requires some familiarity with the U.S. investment landscape. 

U.S. Estate Tax for Non-Americans

Once you’ve found the right provider, your next concern should be the U.S. estate tax. Foreigners are only subject to U.S. estate tax on U.S. assets. But, in most cases, they only benefit from a measly USD 60,000 exemption (compared to USD 12.06 million for U.S.-domiciled individuals). Therefore, if a foreign account holder dies with investments in U.S. stocks worth USD 1,000,000, their potential U.S. estate tax liability would be USD 376,000, corresponding to a tax rate of 40% on amounts in excess of USD 60,000. 

As scary as this outcome may seem, it is entirely avoidable.

Investing in Non.-U.S. Situs Assets

One of the simplest ways to avoid it is not to invest in assets that are not subject to U.S. estate tax, which can be done even in a U.S. investment account. For example, investments in non-U.S. exchange-traded funds, or mutual funds (such as UCITS funds registered in Ireland or Luxembourg), are not considered U.S. situs and are not subject to U.S. estate tax upon the death of the non-resident owner. Likewise, ADRs of foreign companies, even if traded on the New York stock exchange, would not be subject to U.S. estate tax. More surprisingly, publicly-traded bonds are also not deemed to be located in the U.S. for the purpose of estate tax assessment, meaning that U.S. treasury bonds (possibly the most American of all American assets!) would not subject the owner to U.S. estate tax. 

Creating a Corporate or Trust Structure

With some careful planning, it is possible to design investment portfolios that avoid the pitfall of U.S. estate tax, even if held at a U.S. institution. If this option isn’t available, another strategy may involve the creation of some form of corporate or trust structure to hold investments. For example, many foreign nationals will choose to open their U.S. accounts in the name of an offshore investment company. Once in place, the company can invest in U.S. situs assets such as U.S. stocks. If the owner of the offshore company dies, ownership can be transferred to their heirs without subjecting their estate to U.S. taxes. The general principle at work here is that while the underlying investments may be in U.S. shares, the company itself is a foreign entity, and therefore not U.S. situs.

While these types of structures aren’t necessarily cumbersome to create, they do require careful consideration and planning, so investors should consult their legal counsel to ensure proper procedures are followed. 

Estate Tax Treaties with the U.S.

With all that said, there may be no need for clever portfolio construction, or for sophisticated corporate structures, if you happen to live in one of the 15 countries to have signed a bi-lateral estate tax treaty with the U.S. In many cases, such treaties will allow residents of the foreign nation to claim a larger U.S. estate tax exemption than the default USD 60,000. Or (depending on the specific treaty), may otherwise limit the scope of U.S. estate tax to very specific assets, such as immovable property. 

Foreign countries with estate tax treaties are:

  • Australia
  • Austria
  • Canada
  • Denmark
  • Finland
  • France
  • Germany
  • Greece
  • Ireland
  • Italy
  • Japan
  • Netherlands
  • South Africa
  • Switzerland
  • United Kingdom

U.S. Income Tax for Foreign Investors

What about income tax? Unlike U.S. investors, foreigners who hold U.S. accounts do not have to file with the IRS every year. Instead, they are subject to withholding at source on the U.S. investment income they collect in the form of dividends. The default rate of withholding is 30%, but once again, with a bit of planning and know-how, this outcome can be mitigated.

To start with, depending on where you live, the 30% at source withholding on U.S. dividends may not be much of an issue. Since many countries have a tax rate higher than 30%, many investors will be able to claim a credit on their local tax return and simply pay the difference. In this case, the U.S. withholding will not result in any net increase in the investors’ tax liability. 

If that isn’t good enough, additional relief from withholding tax may be available under the terms of the various income tax treaties between the U.S. and the investor’s country of residence. The U.S. currently has 58 such treaties with foreign countries, many of which provide reduced withholding rates on dividends. For example, an investor from Norway may avail themselves of a 15% rate (instead of the standard 30%) by making a claim under article 8.2 of the USA/Norway income tax treaty. The procedure for making the claim is fairly simple and involves completing section II of form W8Ben and submitting it to the institution holding your account. 

Finally – as was the case with the estate tax – income tax withholding can be avoided by simply not holding U.S. assets. An investor could select funds or shares specifically incorporated in foreign jurisdictions and hold them through a U.S. account.  A portfolio composed, for example, of exchange-traded funds listed on the London Stock Exchange may enjoy the dual benefit of avoiding exposure to both U.S. estate tax and U.S. income tax withholding (though various tax withholdings may take place within the fund itself, dispensing on the underlying investments…).

 

Conclusion

In summary, while foreign investors can greatly benefit from holding all or part of their investment portfolio in the U.S., there are various potential mistakes to avoid, relating to both estate and income tax. Don’t hesitate to reach out to our team at Walkner Condon to discuss your specific circumstances.

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Top 5 Destinations for U.S. Expats in 2022

Top 5 Destinations for U.S. Expats in 2022

by | Feb 1, 2022 | ,

I’ve given myself a fun assignment this time around as we look forward to 2022. No worries about where the stock market may be heading after a great bull run off of the panic lows brought on by the pandemic in early 2020. No wondering what sectors or asset classes look primed to perform, or fizzle, in 2022 in this article. What a relief to not have to worry that my market predictions committed to writing will come back to haunt me next year… Those are all on my mind every day, of course – occupational hazard! On this occasion, I’ve decided to turn my focus to dreams of ideal expat lifestyles instead.

I thought it might be a good time to consider where investors might decide to go and live off of the nest egg they’ve accumulated over their lives, particularly after the good market years we’ve had. Or where they might go after cashing out on the massive appreciation in the U.S. homes. Lately, the employment numbers are suggesting that many, including a surprisingly high number of Americans that are still in their traditional “working” years, have decided not to return to the office and prefer retirement, or some form of quasi/semi-retirement, instead. I talk to such people on a weekly, usually daily basis, so I have at least some perspective to offer on the subject.

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As an expat financial advisor, I get the privilege of helping Americans game plan for these types of life-changing moves. This can be incredibly satisfying work, meeting so many different people with diverse backgrounds, financial circumstances, and lifestyle objectives and helping each one of them map out a sustainable long-term plan that allows them to accomplish their dreams of living their new adventure abroad. I thought it might be worth discussing some of the top destinations where Americans, still working or in retirement, seem to be going, and just comment on a few of the considerations that might factor into their planning once they decide on these new residence countries.

This is by no means an exhaustive list of great destinations for expats, and I’ll admit there is a bias toward destinations both within our advisory experience and that offer financial efficiency (bang for the buck) on top of quality of life that will intrigue potential American expats. Additionally, the options needed to include a couple of great places to work (office or remotely) and not just retire. Accordingly, I’ll discuss five top destinations in alphabetical order rather than any particular ranking.

COSTA RICA

When I think about retiring abroad on a tight budget, my mind immediately turns to our southern neighbor (Mexico), and their neighbors (Central and South America). Many of the positives that expats can find in Costa Rica apply to a good deal of the countries in the region. However, we’ve narrowed the list to five countries and the Americas deserve a spot, and it goes to Costa Rica.

One thing that may concern would-be expats is political/military stability. No one wants to buy a property abroad and then find their new residence country embroiled in civil war or border conflicts – talk about disrupting the quality of life! As far as that risk goes, Costa Rica seems like a Latin America best bet in terms of political/military conflict and is often hailed as the “Switzerland” of Latin America. Let’s assume that’s not for the great skiing and hot chocolate and simply because Costa Rica has no military and, instead, focuses on education and healthcare.

From a tax perspective, Costa Rica seems better than Switzerland … by a long shot. If the U.S. expat’s income comes from all U.S. sources, they should not incur Costa Rican income taxes. If the expat is working while resident in Costa Rica, the income tax rates in Costa Rica are usually lower than effective U.S. tax rates. Since U.S. citizens and permanent residents (green card holders) still have to pay income taxes, but can use the foreign earned income exclusion and/or foreign tax credits to offset U.S. tax liabilities, working in a lower-tax country like Costa Rica isn’t likely to increase the overall income tax burden for Americans by much, if at all. Property taxes are also pleasantly low, at 0.25% of the property value.

But what also makes Costa Rica truly attractive is that those after-tax dollars go further than they would in your typical tropical or oceanfront paradise. Costa Rica is famously affordable in terms of good housing (renting or owning) and your other typical expenses to enjoy a suitable quality of life. The healthcare system in Costa Rica is considered quite good and affordable. Once an expat becomes a legal resident of Costa Rica, they can participate in a government-run health system by choosing either to pay cash or purchase private insurance. Either way, expect the prices of good healthcare to be lower – much lower, than here. Finally, Costa Rica is known to have a relatively straightforward residency program for expats, which might check another very important box for Americans looking to venture abroad.

FRANCE

France offers a wide range of lifestyle choices from the bustling cultural epicenter of Europe (Paris) or vibrant Lyon, to less urban, pastoral fare throughout the nation and, of course, the relaxing and sublime Mediterranean southern coast. There is something for everyone’s budget in France in terms of where to live, and great food and wine to make whatever lifestyle the expat wants all the better! The variety of regions within France is truly magnificent, including Spanish influences in the West and German influences in the East. Living in the center of Western Europe also opens the door to affordable and convenient trips to the rest of the continent, too!

READ: 5 THINGS FOR EXPATS MOVING TO FRANCE

French taxes would normally give Americans a fair amount of sticker shock. If you live and work in France, there’s no getting around that issue. However, and to the surprise of many, France can be a very, very attractive option for U.S. expats in retirement. The secret ingredient to an affordable francophile retirement lies in the fine print of the income tax treaty between the U.S. and France. Americans enjoy substantial treaty relief from French income taxes on most of their U.S.-source income – from their pensions and Social Security to their dividends and capital gains on U.S. stocks, their interest payments from U.S. bonds, and their rental income from U.S. properties to boot! A word of caution for affluent Americans who want to spend the entirety of retirement in France: the inheritance tax treaty is not similarly generous. If leaving a legacy to your family is a priority, keep that in mind. If it is not, France is calling you, but perhaps leave your tacky American tourist outfits behind.

MALAYSIA

We’re big fans of diversification at Walkner Condon and it seemed unfair to ignore Asia’s treasure trove of quality expat offerings. If you pursue the publications on best destinations to live, it’s clear that Asia has many quality offerings, including Vietnam, Thailand, Singapore, Hong Kong, Taiwan, and, of course, Malaysia. Based on a sampling of expats that I talk to, the pandemic has altered the atmosphere in Singapore in terms of visa processing and genuine openness to immigration. When it comes to Hong Kong and Taiwan, the current positioning of the Chinese government is hard to ignore. Accordingly, while I have great fondness and familiarity with these destinations, I can’t give them a current top-five ranking. 

Malaysia edges out the neighboring competition for consideration as a top-five expat destination in the world and the Asian representative on our list for 2022. It has a highly educated population with a tremendous healthcare system. Kuala Lumpur may be one of the most underrated (and/or least discussed) cities in the world – a financial/economic powerhouse that offers a high quality of life and great opportunities to work. A recent survey of 15,000 expats ranked Kuala Lumpur as the best city for expats, citing its relative affordability, livability, and ease of settling into life there. For those seeking refuge in natural beauty, from green pastoral hillsides to beaches and unspoiled islands, Malaysia has something unique to offer you.

One of the attractions from our perspective is the territorial approach to income taxation in Malaysia. For a U.S. expat living in Malaysia, this means that income generated outside of its borders will not be subject to Malaysian income tax. This is a recurring theme in our rankings and for good reason – Americans always have to deal with U.S. federal taxes no matter where they live, so why not find a country of residence that does not add to the burden! While those who work in Malaysia will be subject to taxes on their earnings, the Malaysian income tax system is progressive but relatively compatible with U.S. federal income tax rates (30% maximum on income above approximately $500,000), so the net tax burden of Malaysian taxes should be minimal for most expats working there.

Other strengths of Malaysia include the fact that expats give the country high marks for ease of immigration (the visa process) and transition. You can get by with English in most places, too. If you decide to move there, you’ll find a population that is very accepting of expats. It’s been a haven for Americans and Brits in particular for decades, so you may find a social community to help guide you as you transition to life abroad, too!

PORTUGAL

Portugal has a long tradition as a favorite host to European (particularly British) retirees who want to remain in Europe but desire a friendly culture with an attractive budget so they can stretch their pensions further. Over the past couple of years, Americans have finally caught on to the fantastic value and tremendous quality of life that beckons in Portugal. Without any doubt or close second on or off of this list, Portugal has trended higher and higher for Americans looking to move abroad. 

READ: WHAT TO KNOW FOR EXPATS MOVING TO PORTUGAL

Portugal offers one of Europe’s greatest concentrations of English-speaking expats along the southern coastline (especially the Algarve region). But Americans seem to be moving in droves to Lisbon, the beautiful coastal area of Cascais just to the north of Lisbon, Coimbra and Porto as you journey further north, and Setubal should you prefer to live just West of the capital. Moreover, Portugal has become more than a retirement destination for Americans, but also for younger families that have careers that allow them to perform their work from anywhere (e.g., consultants and “digital nomads”). Portugal ranks high on Europe’s relative affordability scale, with very reasonable and good health care. Like France, Portugal has a relatively laid-back culture where people enjoy long, relaxing meals with good wine and a general zest for life.

This infusion of expats to Portugal is no accident. Rather, it is the byproduct of a concerted effort by the Portuguese government to inject their economy with affluent foreigners. At the heart of that effort is an immigration policy that includes a Golden Visa program, whereby foreigners wanting to live in Portugal make investments in property or Portuguese-based funds that are committed to developing the country. The other important component is, not surprisingly, very friendly taxation policies to make living in Portugal more financially attractive. First, Portugal has abandoned death taxes and has neither an estate tax nor an inheritance tax. Retirees looking to leave a legacy to their families will find this advantageous to the estate planning dilemma presented in most western European countries. Second, and perhaps more significantly, Portugal has rolled a tax regime that is wildly popular with expats known as the “non-habitual resident” (NHR) program.

Originally, Portugal’s NHR program enabled expats to avoid Portuguese income taxes on almost all non-Portugal source income. There are exceptions beyond the scope of this discussion. It is noteworthy that the NHR program was slightly modified in 2020 to place a 10% flat tax in Portugal on foreign pension (e.g., 401k, defined benefit pensions, IRAs, and Social Security) distributions. However, for Americans, who pay U.S. income tax on their income from all worldwide sources, the 10% Portuguese income tax on pensions produces a foreign tax credit that reduces U.S. income liability by the amount paid to Portugal, so this is usually not a true fiscal burden for U.S. expats that wish to retire in Portugal. The tax break also extends to those who wish to live and work in Portugal, because the NHR program will lower the Portuguese tax on wages/earned income that is Portuguese-sourced to an attractive flat rate of 20%. 

The NHR program is available to be claimed during your initial year of Portuguese tax residency and extends for the first 10 years of tax residency. Thereafter, expats remaining for longer will be subject to normal Portuguese tax rates on income from all worldwide sources. Those tax rates currently run progressively higher than comparable U.S. federal income tax rates, so plan accordingly. For those envisioning a retirement that begins with an overseas adventure and plenty of travel around the European continent, Portugal and its NHR program are more than worthy of further investigation!

UNITED KINGDOM (UK)

Dreaming of retirement in a tropical paradise? Looking to learn a new language and immerse yourself in a completely different culture? If the answer to these questions is a “hard no,” then the United Kingdom may be your best bet as the overseas destination of choice. Besides the kinship with America, if you were concerned over the last few years that Brexit would destroy the nation … so far, it hasn’t.

The Palace and the Bridge of Westminster in London at sunset - the United Kingdom

FIVE THINGS TO KNOW FOR AMERICANS MOVING TO UK

It’s no surprise that the United Kingdom remains, as always, a haven for U.S. expats. It’s simply an easier cultural transition, and the amount of business transacted between the former colonies and Britain means that immigration between the two allies solidifies the UK as an attractive landing spot for Americans abroad. Of all the residence countries that my clients call home, it is also the one where the “dual national” status – holding both the U.S. and residence country passports – is most common. Much like the United States, the United Kingdom offers a diversity of urban, suburban, and rural locations, and the cost of living can vary dramatically depending on the lifestyle that best suits the expatriate. 

The United Kingdom also offers the expat adventurer some potential tax relief through the remittance basis of taxation. That’s sometimes helpful because UK income taxes are usually more onerous than American expats may be accustomed to. However, this tax status is complex with a myriad of special rules. To be brief and overly general about the remittance basis of taxation, expats can elect freely in any of their first seven years as a UK tax resident to pay UK income taxes on only (1) their UK-source income, and (2) the income that they remit (bring over) to the UK. If an expat is either (a) planning on staying in the UK for a relatively short period, and/or (b) has the bulk of their income coming from non-UK sources, this can be an attractive incentive indeed. Otherwise, if you are (a) working in the UK, and/or (b) planning to remain in the UK longer term, the remittance basis of taxation may not be your cup of tea. Be sure to work with a very good tax expert that can advise on your U.S. and UK income taxes before deciding on whether to make that election and how to navigate your money movement across the Atlantic thereafter!

Sorry if the last paragraph made your head hurt or put you to sleep … the financial advisor in me precludes an article fit for a travel magazine. At the end of the day, our international team loves learning about our clients’ collective and unique experiences living abroad and we aim to help them stretch their accumulated wealth as far as possible wherever they may settle. Taxes, housing costs, general cost of living, healthcare quality, and cost all should factor into the analysis. There are so many great choices to consider for an American contemplating a move overseas, so we recommend both an open mind and that the would-be expat does their homework ahead of time. Let us know if we can help in that regard.

The Palace and the Bridge of Westminster in London at sunset - the United Kingdom

2022 INVESTMENT & MARKET OUTLOOK GUIDE

This piece is part of Walkner Condon Financial Advisors’ 2022 Investment & Market Outlook Guide. You can read the entire guide by clicking the image above or by clicking here.

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Moving to France from the U.S.: Five Things for U.S. Expats to Know

Moving to France from the U.S.: Five Things for U.S. Expats to Know

by | Dec 23, 2020 |

The US embassy in Paris estimates that over 150,000 Americans reside in France, and the country remains a popular destination for Americans, both on a temporary and permanent basis. Whether you are making the move for family, professional or lifestyle reasons, there are a number of things to consider before you leave. This short article will cover five important topics that may make France a more ideal place for Americans to settle than its high tax reputation may indicate: income, wealth and inheritance taxes, Assurance Vie and trusts.

Income Tax May Not Be As Bad as You Think

Most people naturally think of France as a typical high-tax western European jurisdiction, with generous social benefits coupled with punitive income tax rates. While this is generally true, the reality is more nuanced for Americans living there. In many ways, France is a bit of a reluctant tax haven for American expats. Certain provisions in the France-USA double taxation treaty allow Americans living in France to effectively exclude a lot of their US-sourced retirement and investment income from French taxation. This is particularly useful for American retirees, who may be able to use treaty benefits to live in France while really only paying US taxes.

No More Wealth Tax

For a long time, France was known as a prominent member of the small group of countries that apply a wealth tax as part of their fiscal arsenal. I still speak to Americans who worry about wealth taxation if they decide to relocate to France. The good news is: France no longer has a wealth tax. Everything changed with the 2018 Macron tax reform, which largely rescinded the wealth tax, but not completely. The traditional French wealth tax was replaced with something called “Impôt sur la Fortune Immobilière” (IFI), which is a tax imposed specifically on real estate wealth. Functioning much like a national property tax, IFI could still represent a significant liability if you happen to be heavily invested in real estate, but for the average American professional or retiree it’s unlikely to amount to any meaningful sums.

Death and Taxes, and Death Taxes

As benign as income and wealth taxation may seem for US expats in France, there is no sugar coating the fact that living in France may expose Americans to the dreaded “droits de successions”, France’s inheritance tax. Compared to US estate tax, French inheritance tax is a completely different beast: while a US estate enjoys an 11.58 million dollar exemption per person, the beneficiary of a French estate only gets a EUR 100,000 exemption in the case of first-degree relatives (children and parents) and likely much less for more distant relations. In the most extreme cases, inheritance tax rates can go up to 60% for transfers to unrelated inheritors. 

Learn What “Assurance Vie” Means

Regardless of your French proficiency level, there are two words you may want to quickly familiarize yourself with if you are considering moving to France: “Assurance vie”. While the term translates literally into “Life Insurance”, a french Assurance Vie has nothing to do with what we would call life insurance in the US. Instead, the Assurance Vie works more like a tax-advantaged retirement account. It’s almost impossible to talk about French financial life without mentioning its most ubiquitous investment vehicle. French residents have collectively squirreled away over 1,656 billion euros in Assurance Vie, representing roughly 40% of total French savings. If you ever walk into a French bank, or interact with any French financial services provider, it’s likely that they will try to sell you an Assurance Vie.  In most cases, these products are not suitable for Americans, so be very careful. A French Assurance Vie will often involve underlying investment in non-US registered mutual funds, which may be taxed punitively in the US (see IRS rules on Passive Foreign Investment Companies, or PFICs, for more information).

Trusts Don’t Travel Well

They just don’t. Over the years we’ve repeated this motto to a number of clients in various parts of the world, but this is especially true in France. In 2011, on the back of the UBS tax evasion scandal, French authorities introduced new regulations aiming to clarify the taxation of foreign trusts. The new set of rules also introduces specific disclosure requirements for anyone involved in any sort of French-connected trust arrangement (broadly defined as any trust having French resident grantor, trustee, beneficiary or holding French situs assets). The new rules eventually led to the creation of a public register of trusts, which included names of settlor, trustee and beneficiary, and was publicly available through the French tax administration website, all in the name of transparency. In 2016, the French constitutional court ruled that the public nature of the trust register violated fundamental rights to privacy, and public access to the register was suspended. While trust data is no longer public, the reporting requirements remain in place, and an American moving to France with a US trust will be required to make certain disclosures to French fiscal authorities, or face hefty fines for non-compliance. The required disclosures include a recurring annual filing, as well as an event-based filing to disclose any changes made to the trust. Beyond disclosure requirements, trying to reconcile US trust provisions with Napoleonic French civil law is likely to feel like the proverbial square peg in a round hole, and could create more problems than it solves. If you plan to move to France and retain existing trust arrangements, be sure to seek legal advice. 

Whether you are already residing in France or contemplating moving there as a U.S. expat and are looking for someone to help you with wealth management, please feel free to reach out to Walkner Condon Financial Advisors to discuss your specific situation.

 

Syl Michelin