Living abroad is becoming an increasingly attractive option for US Americans each year as it offers many lifestyle benefits. In addition, being a bona fide resident in a foreign country has a major tax benefit, the Foreign Earned Income Exclusion (FEIE).
If you are new to expat taxes and need help with your US tax return, you can schedule a consultation with us.
This exclusion allows the taxpayer to exclude up to $105,900 (2019) of income they earn while living abroad from US income tax. However, to be eligible for the exclusion you must qualify through one of two tests: the Bona Fide Residency Test or the Physical Presence Test.
Many expats like the Physical Presence Test because the requirements are clearly defined. Under this test, you must spend at least 330 full days in a 12 month period in foreign countries.
However, the Bona Fide Residency Test is a popular way to qualify for the FEIE as it has added advantages. It gives you the option to go back to the US for more than 35 days for family issues, social or work reasons.
How to meet the Bona Fide Residence Test
The IRS does not provide a clear-cut definition of Bona Fide Residency. Unlike the Physical Presence Test, which merely requires counting days outside the US (and knowing the specific rules on how to count), Bona Fide Residency can be demonstrated through many factors.
In short, you pass the Bona Fide Residency Test if you are a US taxpayer and meet all of the following:
- make your home overseas,
- live there for more than one entire tax year, and
- have no immediate intention of returning to live in the US permanently.
Let’s look at each point separately and how to meet the requirements for being a bona fide resident.
Make your home overseas
The important part of claiming your bona fide residency is having various documents to show that you are a resident of that country. Of course, a long term visa or passport of your resident country is helpful, so are any local tax filings.
In addition, any documentation of local ties and your intention to stay will help prove the bona fide residency, including:
- Health insurance
- Long term lease or purchased home
- Utilities and other bills
- Gym membership
- Local bank accounts
- Resident ID card
- Family or spouse from the country.
Live in your resident country for more than one tax year
To establish bona fide residency in a foreign country you must live there for an entire tax year, meaning from January 1 to December 31. During that time you can travel for brief vacation or business trips but with the clear intention to return to your bonafide residency country without unreasonable delay.
Once you qualify as bona fide resident, after completing one full tax year, you can apply this status to the date your residency there began until the date you leave.
Have no immediate intention to return to the US
Determining an expat’s intention to return to the United States is not always straightforward. For example, expats on a long-term assignment or local contract could qualify if they meet the other requirements above.
On the other hand, if you are on a 2-year expat assignment from your company with a pre-determined return date, you won’t qualify. In that case, you would have to use the Physical Presence Test to qualify for the FEIE.
To show your intentions, in case of an audit or pushback by the IRS, strong ties in your resident country, as listed above, help. Furthermore, it is important not to have strong ties to the US anymore.
Bona Fide Residence Test vs Physical Presence Test
You can qualify for the Foreign Earned Income Exclusion (FEIE) and Foreign Housing Exclusion/Deduction under either Bona Fide Residence or Physical Presence Test (PPT).
Bonafide residents of a foreign country can enjoy some additional advantages:
The IRS does not provide a clear definition of what constitutes a bona fide resident of a foreign country. Therefore you can demonstrate it through many factors. Due to the lack of instruction, however, it can be more subjective. This makes it harder to prove that a taxpayer qualifies for the exclusion but it also gives more flexibility.
Trips to the US
Even as a bona fide resident, you can return to the US during the year without worrying about counting days like for the PPT. However, you should generally not spend more than 3 months in the States when claiming bona fide residency. Please also note that any work performed in the US is taxable and cannot be excluded with the Foreign Earned Income Exclusion. The FEIE is calculated on a pro-rata basis.
Are you unsure which test to use or need help filing your expat tax return? Contact us for a consultation.
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