Tax Tips for U.S. Americans Abroad
What is an IRA
Need some IRA support? The IRA stands for Individual Retirement Arrangements. It allows US citizens, living on land or abroad the ability to save money for retirement. You set up an account with a financial institution to put money in, on a tax-free or tax-deferred (delayed payments) basis.
There are three main types of IRA accounts:
- Traditional IRA: This is when you make monetary contributions you can deduct on your tax return. Plus, any earnings you do make can potentially become tax-deferred (taxed at a lower rate) until you take them out of your retirement account.
- Roth IRA: You can make monetary contributions that already had taxes paid (ie: after tax). From this, your earnings and withdraws can potentially be tax-free (as long as you meet certain conditions).
- Rollover IRA: Monetary contributions are ‘’rolled over’’ from an old (employer-sponsored) retirement plan, into a traditional IRA. For this account you can fold your tax-deferred status of assets from retirements without having early withdrawal penalties, or pay current taxes. There are other rollover IRA types as well including traditional IRA to roth IRA, etc.
If you would like to learn more about the differences between a Traditional IRA and a Roth IRA, and which option is best for you, please visit this IRS page here.
Why Is It Useful to Help Save for Retirement
Saving for retirement as an American abroad by having an IRA helps with financial security for your future. As you are coming into retirement you know you will have money to live off of, due to your efforts in early investing.
By saving for retirement through an IRA account, you don’t have to depend solely on Social Security. It actually was not designed to be something a person totally depends on, and it can only replace 40% of the average income of a wage earner, after retiring. Generally, with having Social Security, you’ll have to come up with approximately 60% of income you need to live comfortably (after retiring).
Additionally, many parents don’t want to live with their children when they retire. It can be a reality if you don’t have enough in retirement. Plus, the compounding effect gained from your investment into an IRA among other investments will most likely provide a comfortable retirement.
What Are IRA Contribution Limits
From all of this, the IRS does put a limit to how much contributions you can put in your IRA account.This is to prevent workers who receive higher pay than the average workers from receiving more benefits due to the tax advantages they are provided.
Each IRA contribution limit depends on the age and type of plan the participant chooses. It also can depend on how much the person earns.
$6,000 ($7,000 if you’re age 50 or older), or your taxable compensation for the year, if your compensation was less than this dollar limit.
For 2019, the limits are the same as in 2020.IRS.gov – Retirement Topics – IRA Contribution Limits
Compensation for IRA
Compensation from the IRS means whatever you earn from working. Check out this IRS chart below of what compensation includes/does not include:
How to Calculate Taxable Compensation for IRA Limit
To determine your IRA contribution limit, you’ll need to look at your filing status, taxable compensation and adjusted gross income (AGI). From these three factors, you are either eligible for the maximum amount, a reduced amount or not eligible at all. Check out this calculation from TIAA to see how much you can contribute.
Keep in mind: When you use FEIE (Foreign Earned Income Exclusion), this might mean that ALL of your compensation is excluded from US taxation, therefore you have $0 taxable compensation. Read below for more information.
Using Foreign Tax Credit instead of FEIE to help you contribute
It is possible for US expats to be eligible to use the FEIE (Foreign Earned Income Exclusion when owning an IRA account. But here are two things to be aware of:
- You can still contribution to your IRA if not all your eligible compensation (as defined by the IRS in the chart above) is excluded by FEIE
a) You have US sourced salaried income from working physically in the US during the tax year of $6,000 along with foreign sourced net business income from working physically abroad of $50,000. The $50,000 foreign net business income is excluded using FEIE. You still have $6,000 of taxable compensation left over to help you be eligible to contribute to your IRA.
b) You make $110,000 equivalent of foreign salaried income in tax year 2019. You use the max FEIE amount of $105,900 against your foreign income. As a result, you will have $4,100 of foreign taxable compensation left over to help you be eligible to contribute to your IRA.
- It makes you as a US citizen abroad ineligible to contribute to an IRA account if you exclude all your eligible compensation and have no additional sources of eligible compensation. Keep in mind investment, rental and other typically passive income sources are not considered eligible compensation when determining your IRA contribution limits.
Working with an ROTH IRA and FEIE
You may need to calculated your modified adjusted gross income when you contribute to a ROTH IRA. This calculation will add back FEIE and/or a foreign housing exclusion you claimed in the tax year to ensure you are not understating your AGI.
For single American expat filers, your roth IRA contributions will be limited starting at a modified AGI of $122,000. Those with a modified AGI is $137,000 or more cannot make any deductions. Make sure you check out all the different scenarios concerning modified AGIs here.
Using the FTC instead of FEIE
It may be more beneficial to claim the FTC (Foreign Tax Credit) since it can bring better results than the FEIE and still allow you to contribute to your IRA as a US Expat.
When you, as an American abroad, claim the Foreign Tax Credit, you will declare your net self-employment income or wages as taxable. Both will give you the opportunity to open up and contribute to an IRA account in the US. Plus, the Foreign Tax Credit gives a tax reduction in the United States from any tax amount paid to the country you work and/or reside in so it can still eliminate your US tax liability to $0 as FEIE would normally do.
MyExpatTaxes and IRA
Do you need more assistance figuring out what is the best IRA account for you? We serve US citizens, and Green card holders abroad too. Start filing with us through our expat tax software or contact our team for more info. Our knowledgeable team will assist you on the right path.
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