U.S. EXPATS AND IRS TAX REFUNDS
A number of clients have asked us whether a U.S. expat can receive a tax refund from the IRS despite living overseas. While the answer to this question can be nuanced depending on the circumstances, the general rule is that living overseas does not preclude an expat from entitlement to a refund that is otherwise due to the individual.
A tax refund may be available, for instance, when (1) the taxpayer has refundable credits or (2) when there has been previous tax withholding on payments to the individual.
REFUNDABLE CREDITS
In order for a tax return to result in a refund, the taxpayer needs to have so-called “refundable credits” that exceed his or her tax liability.
A common example of a refundable credit is the additional child tax credit of $1,000 per qualifying child, which may be reduced depending on your overall adjusted gross income. While the credit is not affected by the fact that you live overseas, it becomes unavailable if you use the Foreign Earned Income Exclusion to reduce your taxable income. The credit is not made unavailable, however, if you instead utilize foreign tax credits to reduce your taxable income.
Another example is the earned income credit, which is a credit for certain low-income taxpayers. An expat’s use of this credit is quite limited, because you (or your qualifying child) must have lived in the U.S. for more than half of the filing year to qualify for the credit. Like the additional child tax credit, it becomes unavailable if you use the Foreign Earned Income Exclusion to reduce your taxable income.
PREVIOUS TAX WITHHOLDING
In addition to refundable credits, an expat taxpayer may also find that he or she is due a refund because of previous so-called “backup withholding” on U.S. source payments. In general, U.S. source passive-type payments such as interest from a bank or dividends from an investment will be subject to backup withholding (generally at the rate of 28%) by the payer under a number of circumstances, which are delineated in IRS Publication Topic 307 – Backup Withholding. According to the publication, these circumstances include:
- You do not give the payer your tax identification number (“TIN”) in the required manner.
- The IRS notifies the payer that the TIN you gave is incorrect.
- The IRS notifies the payer to start withholding on interest or dividends because you have underreported interest or dividends on your income tax return. The IRS will do this only after it has mailed you four notices over at least a 120-day period.
- You fail to certify that you are not subject to backup withholding for underreporting of interest and dividends.
If income tax has been withheld through backup withholding you should generally be able to claim it back on your tax return for the year in which you received the income.
SECURING YOUR REFUND
Tax refunds are not uncommon for our clients because of the beneficial tax provisions afforded citizens overseas, such as the Foreign Earned Income Exclusion and foreign tax credits. Many of our clients dreading a heavy tax bill are pleasantly surprised to find that a tax refund is actually due to them. To learn more about our firm and our tax return process, please feel free to get in touch with us.
