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Relocating to another country is exciting – a chance to embrace a new culture, progress up the career ladder, gain valuable experience and find a better work/life balance. However, there are some less-exciting things that need to be considered before moving, and that includes taxes. No matter what country, one thing that is always certain is the need to pay taxes, and every nation has its own system – some far more complicated than the UK’s own.
The United States of America is a popular place for British expats. There is no language barrier, the cultures are similar and there is a strong connection between UK and US businesses. The American taxation system, however, is far less simple to understand. There are many different methods that can be used for filing returns and some will cost more than others; different states, cities and municipalities have their own income tax rates alongside national rates; and there are large penalties for getting it wrong or filing it late.
As with a move to any country, it’s worth seeking the advice of an international tax expert to go over the ins and outs of the tax system. This is particularly useful in the USA as there are so many different considerations that getting it wrong can be costly. A tax accountant used each year to file returns could be a worthy investment, as they will ensure tax efficiency.
All British expats need to file a tax return if they are in the country for more than 31 days in the current tax year, or 183 days during a three-year period including the current tax year. This is the Substantial Presence Test, which determines who is considered a US resident for tax purposes. Generally, all worldwide income is subject to US income tax, in the same way as a US citizen. As a ‘resident alien’, expats use the same filing statuses available for US citizens and can claim the same deductions.
The next thing to understand is the importance of paying on time. The penalty for filing late isn’t just a slap on the wrist or a token charge; it’s up to 25% of the overall tax due, which could high, depending on earnings. Also, an employee is responsible for telling their employer how much tax to deduct by filling in a W-4 form. Getting this wrong can result in an underpayment penalty and a large tax bill if not enough is taken.
There are ways to get the best result from a tax return, but that means understanding the intricacies of the taxation system. For example, a resident alien working in the USA with a non-resident alien spouse could choose to treat their partner as a resident alien for tax purposes, and file as a married couple. Each year, a return needs to be filed as Married Filing Jointly, Married Filing Separately or Head of Household – and picking the right one can massively effect the amount of tax due. Also, it’s possible to be a dual-status alien: both a non-resident alien and a resident alien in the same tax year, which has certain rates that are applied when filing a tax return and complicates the process.
This is where an expert is worth the expense. When filing a return, it’s necessary to run the calculations for a number of different methods and scenarios to see which is the most tax efficient, and thereby save money in the long term. To read more detail about the US taxation system for British expats, British Expats Tax is a useful resource.