What U.S. Taxes Does a Contractor Working Outside the U.S. Have to Pay?
If you are a U.S. citizen or resident and you work as a contractor outside the United States, you may qualify to exclude all or part of your foreign earned income from U.S. income taxes. To qualify for the exclusion you must have a tax home in a foreign country. And you must meet the bona fide residence test or the physical presence test.
If you meet the tests, you can claim the foreign earned income exclusion on income you earn from an employer or your net income if you work as an independent contractor. You could also claim the foreign housing exclusion for your costs of housing paid by your employer. If you are self-employed, you could claim a deduction for your foreign housing costs. But if you are an independent contractor, you may still be subject to self-employment tax on your net earnings.
Your tax home is normally considered to be the general area of your regular or principal place of business or employment, but it depends on all the circumstances in your particular case. According to the IRS, your tax home often depends on whether your assignment outside the U.S. is temporary or indefinite.
Whether you are a bona fide resident of a foreign country depends on your particular case, taking into account your intention, the purpose of your trip, and the length and nature of your stay. In general, if you go to another country to live and work for an extended and indefinite period, and you set up permanent quarters for you and your family, you have established residency in that country, even if you plan to eventually return to the U.S.
The physical presence test is more straightforward. If you are physically present in one or more foreign countries for at least 330 full days during 12 consecutive months, you meet this test. It does not depend on the type of residence you establish or the purpose of your stay. The 330 days do not have to be consecutive; you can add separate periods you are physically present in a foreign country during the 12-month period.
If you meet the tax home and the bona fide residence or physical presence test, you can exclude up to $92,900 (for 2011) of your foreign earned income from U.S. income taxes. You may be subject to the foreign country's income tax on the income you earn there. In that case you could claim a credit or a deduction on your U.S. tax return for the tax you pay in that country. But you could not claim a credit for the foreign tax applicable to the income you exclude from U.S. taxes.
If you are a contractor working for an employer, you may be subject to U.S. social security tax withholding or the social security system in the country where you are working, depending on your employment arrangement. But if you are an independent contractor working in a foreign country, you would be subject to U.S. self-employment tax on your net earnings, with no foreign earned income exclusion.
For 2011, the Social Security portion of the self-employment tax applies on your first $106,800 of net earnings (gross earnings minus expenses). The Medicare portion applies on all your net earnings. The 2010 Tax Relief Act reduced the self-employment tax by 2% for 2011, to 13.3%. 10.4% applies to Social Security and 2.9% to Medicare.
Sources:
Foreign Earned Income Exclusion, IRS
Foreign Tax Credit, IRS
Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad, IRS
Self-Employment Tax (Social Security and Medicare Taxes), IRS
If you meet the tests, you can claim the foreign earned income exclusion on income you earn from an employer or your net income if you work as an independent contractor. You could also claim the foreign housing exclusion for your costs of housing paid by your employer. If you are self-employed, you could claim a deduction for your foreign housing costs. But if you are an independent contractor, you may still be subject to self-employment tax on your net earnings.
Your tax home is normally considered to be the general area of your regular or principal place of business or employment, but it depends on all the circumstances in your particular case. According to the IRS, your tax home often depends on whether your assignment outside the U.S. is temporary or indefinite.
Whether you are a bona fide resident of a foreign country depends on your particular case, taking into account your intention, the purpose of your trip, and the length and nature of your stay. In general, if you go to another country to live and work for an extended and indefinite period, and you set up permanent quarters for you and your family, you have established residency in that country, even if you plan to eventually return to the U.S.
The physical presence test is more straightforward. If you are physically present in one or more foreign countries for at least 330 full days during 12 consecutive months, you meet this test. It does not depend on the type of residence you establish or the purpose of your stay. The 330 days do not have to be consecutive; you can add separate periods you are physically present in a foreign country during the 12-month period.
If you meet the tax home and the bona fide residence or physical presence test, you can exclude up to $92,900 (for 2011) of your foreign earned income from U.S. income taxes. You may be subject to the foreign country's income tax on the income you earn there. In that case you could claim a credit or a deduction on your U.S. tax return for the tax you pay in that country. But you could not claim a credit for the foreign tax applicable to the income you exclude from U.S. taxes.
If you are a contractor working for an employer, you may be subject to U.S. social security tax withholding or the social security system in the country where you are working, depending on your employment arrangement. But if you are an independent contractor working in a foreign country, you would be subject to U.S. self-employment tax on your net earnings, with no foreign earned income exclusion.
For 2011, the Social Security portion of the self-employment tax applies on your first $106,800 of net earnings (gross earnings minus expenses). The Medicare portion applies on all your net earnings. The 2010 Tax Relief Act reduced the self-employment tax by 2% for 2011, to 13.3%. 10.4% applies to Social Security and 2.9% to Medicare.
Sources:
Foreign Earned Income Exclusion, IRS
Foreign Tax Credit, IRS
Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad, IRS
Self-Employment Tax (Social Security and Medicare Taxes), IRS
Published by Kevin Hagen
Born in Minnesota, USA in 1955; studied Business Administration - Accounting, graduating in 1977 and obtaining CPA license. Worked in corporate accounting environments, eventually becoming a technical trans... View profile
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