With the new year quickly approaching, now is the time for year-end tax planning, especially for expats! We share our top year-end tax tips here.
With the right tax planning, Americans abroad can maximize tax deductions, credits, and exclusions as well as improve their retirement savings. (See more year-end tax tips for entrepreneurs and business owners abroad here.)
Here are 10 tax planning tips for 2023 for expats – plus a bonus tip for W2 income earners.
1. Ensure You Qualify For The FEIE – A Big Tax Benefit For Americans Abroad!
Review your travel dates or residency status abroad to make sure you qualify for the Foreign Earned Income Exclusion, which is up to $120,000 for 2023. Typically, to meet the physical presence test, you must spend at least 330 full days in foreign countries within a 12-month period. Review your travel dates and plans to ensure you have a 12-month period for the 2023 tax year that meets the requirement.
Alternatively, you might qualify for bona fide residency in your host country. But you must be able to show social and cultural ties to the country where you spend significant time.
2. Bundle Deductions For Maximum Impact
Most US expats don’t itemize deductions but use the standard deduction instead. With the increase of the standard deduction for 2023 to $13,850 for individuals and $27,700 for married couples filing jointly, even fewer will benefit from itemizing.
If you are close to these updated thresholds, consider moving deductible expenses up into 2023. For example, you could make charitable contributions, or certain state and local tax payments in 2023 instead of 2024. One way to do this is with Donor Advised Funds. They allow you to make a single donation in one year, and the fund dispenses the money over several years.
However, if you expect to be in a lower tax bracket next year, then it makes sense to bundle more expenses into the next tax year. When you contribute to international charities, keep in mind that not all are recognized by the IRS.
Also, be careful that accelerated tax deductions don’t trigger Alternative Minimum tax (AMT). Speak to an experienced accountant to avoid unintended tax consequences.
3. Avoid Penalties For 2023 If You Owed 2022 Tax Or Are Self-Employed
If you had a balance due on your 2022 tax return and you expect to be in a similar situation in 2023, or you are self-employed and don’t have withholdings, you must pay quarterly estimated taxes. Failure to pay enough tax by each due date may result in underpayment penalties.
To avoid further penalties, pay estimated taxes by Jan 15, 2024, for the 4th quarter of 2023.
4. Harvest Your Capital Losses
If you are selling an investment that is trading at a loss, you can use the loss to offset taxable capital gains from investments such as stock, bonds, ETFs. You can also apply a loss-carryover from prior years against capital gains.
When your capital losses exceed your capital gains for the year, you can use up to $3,000 ($1,500 if married filing separately) of that net capital loss to offset other taxable income such as salary, interest, or dividend income. Any losses above that you can carry over to the next year.
5. Contribute To A 529 Educational Plan
A 529 plan is a tax-advantaged savings plan for educational expenses such as tuition. The savings grow tax-free but must be used for eligible education expenses only.
You can contribute up to $17,000 per year per person for 2023. It is even possible to pre-fund the plan with up to five years’ worth of contributions, for a total of $85,000. For certain states, this contribution is a deduction from your income so check if your state qualifies. This deduction is not applicable for federal tax purposes.
Contributions above the annual gift tax limit of $17,000 (2023) count against the lifetime exclusion for gifts. You must report this on IRS Form 709. The lifetime exclusion is currently $12,92 million for single taxpayers and $25,84 million for married taxpayers. Any gift exceeding this limit may be taxed at rates between 18% and 40%.
The Consolidated Appropriations Act of 2023 allows 529 account owners to roll over from a 529 plan to a Roth IRA. The rollover has an aggregate lifetime limit of $35,000. Furthermore, the Roth IRA must have the same beneficiary as the 529 plan.
Additional rules apply. The rollover will be subject to the $6,500 per year rollover limit, the 529 plan must have been in existence for at least 15 years prior to the rollover and the contributions must have been made 5 years before the rollover.
6. Consider A Tax-Free Roth IRA Conversion – Another Potential Bonus For US expats
If you are an American abroad and your 2023 income will be below the FEIE limit of $120,000, you may qualify to convert money from a traditional IRA to a Roth IRA completely tax-free. While you can make 2023 IRA contributions until the April tax deadline, you must do a Roth IRA conversion before the end of 2023 to reap the benefits. This is why year-end tax planning for expats is so important.
While the tax savings can be significant, you should only do this with the guidance of an experienced tax advisor.
The Consolidated Appropriations Act of 2023 made some changes to IRA distributions and increased the age for Required Minimum Distributions (RMD). The start age for RMD from traditional IRAs and employer retirement plans increased to age 73 for anyone turning 72 on or after January 1, 2023, and before January 1, 2033. For anyone turning 72 after December 31, 2032, the RMD start date increased to 75 years.
This brings even more reason to consider Roth conversions and tax-bracket management for returns filed before RMD start age. This law also reduced the penalty for failing to take RMDs to 25%. And it went down to 10% for IRA owners who withdraw the RMD amount they didn’t take properly previously and submit a corrected tax return in a timely manner.
7. Invest In Opportunity Zones
Investing in Opportunity Zones can be a great way to save capital gain tax. The 2017 tax reform allowed taxpayers with large built-in capital gains to roll over their investments into designated funds that invest in real estate and other businesses located in these distressed zones. This would result in a deferral of capital gains and potential reduction of the taxes on the capital gains to zero, dependent on how long you hold the investment in the opportunity zone.
Keep in mind, you can only roll over this capital gain if you make a qualified opportunity zone investment within 180 days of selling your investment with a capital gain.
8. Explore Other Tax Planning Options
If you made a lot of money in 2023 you might want to explore additional options with an experienced accountant. Consider setting up a defined benefit plan if you’re over 55 or save money with land easements, US oil drilling.
A defined benefit plan allows sole owner entrepreneurs to put away hundreds of thousands of dollars to a pension account, based on their income and age.
A land easement is when land is donated to a land trust or government agency. If it benefits the public by permanently protecting important conservation resources, it can qualify as a charitable tax deduction on the donor’s federal income tax return.
Investments in US oil drilling can give investors deductions based on the amount of drilling costs.
9. Harvest Crypto Tax Losses
For taxpayers in high income tax brackets, harvesting crypto losses to offset capital gains in other areas can be beneficial.
The Wash Sale Rule does not apply to crypto (yet). It prohibits buying the same or substantially similar securities within 30 days of selling them at a loss. Proposed legislation intends to make cryptocurrencies subject to the Wash Sale rule but it is still pending. However, if you plan any transactions that would fall under the Wash Sale rule, you should consider doing those before December 31, 2023.
11. Check Your Foreign Tax Credit
Foreign tax credit (FTC) is a credit for taxes you paid to another country on the foreign-sourced income that you earned there. If you live in a high-tax country, this is a very beneficial tax strategy.
You can only get a foreign tax credit for taxes paid to another country if the tax was mandatory and you paid it on income that you did not exclude from US taxes. So, if you are using the Foreign Earned Income Exclusion (FEIE) to exclude your income for US income tax, you cannot claim a tax credit for foreign taxes you paid on the same income.
If you qualify for the FEIE and you don’t know whether you should use the exclusion or the foreign tax credit, please talk to an experienced tax advisor or schedule a consultation with us. We can check if the FEIE, the Foreign Tax Credit, or even a combination of both is most favorable in your specific situation.
Bonus Tip For W-2 Income Earners: Check Your Tax Withholdings
As we are getting close to the end of the year, it’s a good idea to check your 2023 tax withholdings. Compare them with your prior year withholdings to check if they cover your estimated tax liability for this year. A good tool for this is the IRS’ Tax Withholding Estimator which will let you know if your withholdings were properly calculated or not.
In case you need to make any changes, you can file a new Form W-4 with your employer to increase the amount of taxes withheld from your paycheck before the end of the year. In that way you can avoid any huge balance due amounts or underpayment penalties that may arise with the upcoming deadline.
Your tax accountant can estimate your expected 2023 tax burden, taking into account things like foreign tax credits and other expat-specific deductions and exclusion.
Year-End Tax Planning Is Important For Expats
Now is the time to review your tax situation and get organized for the 2023 tax year. You still have time to take steps that help minimize your 2023 taxes and optimize your tax-advantaged retirement accounts.
Set up a call with your accountant to go over any general steps you should take before the end of the year or ask your accountant about the tax and financial planning services we now offer.
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