US Expat Taxes On Self-Employment And Social Security
It’s common knowledge in the realm of expat taxation that U.S. citizens residing abroad encounter a range of unique tax challenges and opportunities. This holds particularly true for self-employed expats, as their income may be subject not only to U.S. income taxes but also U.S. self-employment taxes, including social security taxes, depending on the circumstances.
In this blog post, we will delve into the fundamentals of the U.S. self-employment tax system, outline the key tax exemptions, and highlight practical considerations that self-employed expats should bear in mind to minimise their overall global tax burden.
Self-Employment and Social Security Taxes on Income for Expats
According to U.S. tax law, if you are self-employed and your net earnings from self-employment amount to $400 or more (a relatively low threshold), you are required to:
File Schedule SE
Pay self-employment tax, which encompasses Social Security taxes The IRS categorises individuals as self-employed if they own their own business or work as independent contractors. It’s important to note that self-employment tax differs from income tax. The self-employment tax rate stands at 15.3% of net earnings, consisting of a 12.4% Social Security tax and a 2.9% Medicare tax on net earnings.
For the tax year 2022, the Social Security portion applies to the first $147,000 of earnings, increasing to $160,200 in 2023. Additionally, an additional 0.9% Medicare tax may be applicable if your net earnings from self-employment exceed specific thresholds. It’s worth emphasising that even if you are self-employed abroad, you are still liable for U.S. self-employment taxes on foreign earned income that is exempt from income tax due to the foreign earned income exclusion.
The Role of Social Security Totalization Agreements
Social security totalisation agreements between the United States and numerous foreign countries can prevent individuals from being subject to self-employment taxes in both nations Totalisation agreements, akin to tax treaties, are designed to address social security and Medicare taxes rather than income taxes.
These agreements serve two primary purposes:
Eliminating issues of double social security taxation
Establishing provisions for protecting social security benefits for individuals potentially subject to two social security systems
In summary, if you are self-employed abroad or earn income abroad while paying social security taxes to another country that has a totalisation agreement with the United States, you are unlikely to be required to pay self-employment taxes to the U.S.
A comprehensive list of countries with totalisation agreements can be found here: https://www.ssa.gov/international/agreements_overview.html
Planning Strategies for Self-Employed Expats
The imposition of the self-employment tax, in addition to income tax, can have a significant or even devastating impact on a growing business. This is particularly true for those residing in countries without a totalization agreement, as it could result in individuals being subject to double self-employment taxation.
For this reason, tax planning is crucial to reduce self-employment taxes for expat citizens within the bounds permitted by U.S. and local tax systems. Effective planning often involves establishing a company structure, which, on one hand, can lower self-employment taxes but, on the other hand, may present various tax and reporting pitfalls for the uninformed.
Our recommended approach is to tailor a strategy based on your overall circumstances, including your country of residence and its tax regulations, as well as your present and projected financial situation, such as gross and net profits and income sources. By evaluating different company structures from a tax perspective, we can analyse and determine the optimal structure for you and your business.