How is self-employment income taxed as an expat?
Self-employed expats and digital nomads are subject to the same tax rules as any other American living abroad, which requires all U.S. citizens to file and report their worldwide income, no matter where they live.
This also means self-employed expats are subject to the same self-employment taxes as US residents, also known as the “self-employment tax”.
In other words, a self-employed expat or digital nomad will basically be subject to two forms of US taxation:
- Regular income tax
- Self-employment tax
This distinction is important, because the common expat tax breaks are typically only available to use against the regular income tax, not the self-employment tax.
What is the self-employment tax?
Self-employment tax refers to additional tax (over and above regular income taxes) applied to self-employment income, and specifically refers to the combination of Social Security and Medicare tax.
The self-employment tax rate is 15.3%. The rate consists of two parts:
- 12.4% for Social Security – applied only on the first $137,700 (2020) of self employment income
- 2.9% for Medicare
What expat tax breaks are available for self-employment income?
For the regular income tax, self-employed expats can still take advantage of the same expat tax breaks available to any other American living abroad, which means that the Foreign Tax Credit and Foreign Earned Income Exclusion are both available for self-employed expats and digital nomads!
Foreign Tax Credit – The Foreign Tax Credit, or FTC, is a non-refundable credit that will reduce your U.S. tax liability dollar-for-dollar for taxes you paid to a foreign country. Simply put, if you paid taxes to a foreign country, you can claim these foreign taxes as a credit against your U.S. taxes. If you paid mor taxes to a foreign country, than usually you will owe no U.S. tax on that income.
Foreign Earned Income Exclusion – The Foreign Earned Income Exclusion, or FEIE, is one of the tax breaks available for U.S. expats to eliminate or reduce any U.S. tax liability on income earned from living and working abroad.
How can Expats reduce their US self-employment tax?
Unfortunately the Foreign Tax Credit or Foreign Earned Income Exclusion cannot be used to reduce what you would owe for self employment tax. However, if you are paying foreign social security or equivalent tax in the foreign country you reside in, you may not have to pay US self employment tax if the country you are paying foreign social security tax to has a totalization agreement with the US.
If the country you are paying foreign social security tax does have a totalization agreement with the US, then you do not need to pay US self-employment tax, but you will need to obtain a “certificate of coverage” from the foreign government, and keep it in your records for when you file your yearly US tax return.
What is a Totalization Agreement?
Totalization agreements, are commonly known as social security agreements. They are international treaties that establish the rules on how countries should recognize and tax an expat’s social security contributions. This helps prevent US expats from having to pay into multiple social security systems out of the same income stream
What countries have a totalization agreement with the US?
- Australia
- Austria
- Belgium
- Brazil
- Canada
- Chile
- Czech Republic
- Denmark
- Finland
- France
- Germany
- Greece
- Hungary
- Iceland
- Ireland
- Italy
- Japan
- South Korea
- Luxembourg
- Mexico (pending approval)
- Netherlands
- Norway
- Poland
- Portugal
- Slovak Republic
- Slovenia
- Spain
- Sweden
- Switzerland
- United Kingdom
- Uruguay
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