Olivier Wagner - Self Employment Taxes On Foreign Earned Income

How does self-employment tax work for those Americans, who live abroad, travel the world and work for themselves? Well, you still have to pay US taxes on foreign income if you are a freelancer, independent contractor, digital nomad or entrepreneur abroad. Yes, US tax laws apply no matter where in the world you live and perform the work.

The self-employment tax is a social security and Medicare tax on net self-employment income. You must pay this tax if your net self-employment earnings are at least USD$400 in a year. But don’t panic, we know the ways to legally minimise tax burden for self-employed Americans abroad.

1. Filing Requirements For Self-Employment Taxes 

You fall under different filing threshold category if you are self-employed US person who reside abroad. As we mentioned earlier, earning USD$400 in a year already triggers a filing requirement for a tax return. As the US is one of the two countries which practice citizen-based taxation, it’s necessary to take care of US tax obligations even while living abroad. Who does the IRS consider to be self-employed? If you belong to any of the following categories:

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For self-employed individuals, there are a lot more steps involved when it comes to taxes than for most people. Here are some tips to help you keep as much of your hard-earned money as you can.

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1. Alimony.

(A) Alimony paid subject to a contingency is not deductible (taxable). A divorced couple’s agreement provided that spousal maintenance would end when their child, who had a learning disability, moved out of the mother’s home The IRS denied the alimony deduction due to the contingency clause and held the payments to be non-deductible child support. The law states support payments are considered alimony only if the payments are for spousal support ordered by a court and cease upon the death of the spouse. The IRS decision was upheld by the Tax Court [Resnik, TC Summ. OP. 2015-11].

(B) Paying attorney fees for an ex-spouse is not considered deductible alimony. For Read More

We meet again, you tax-paying rascals! Penny here, and I’m back atcha with another installment of Penny Taxwise. As you loyal readers out there know, your ol’ pal Penny is rocking the whole work-at-home mom gig like crazy this year. At the end of 2012, my little freelance writing biz exploded and I’ve been struggling to catch up with the success.

To compound things further, I’ve branched out from the freelance writing to a variety of other endeavors – a blog, websites, and an upcoming info product line to be exact. I expect to earn a significant amount of income from these things over the next couple of years, and it dawned on me that I should think about taking the plunge and becoming an actual business.

Naturally, I’ve been researching the heck out of the idea this week. I was spurred by a question that was posted recently right here on TaxConnections:

Oh man. That’s my biggest fear realized. I try to do everything by the book, but I fear the wrath of Uncle Sam when it comes to incorrect self-employment tax records – I think all freelancers feel the same way. Patrick O’Hara, Tax Pro and Owner/Enrolled Agent of CHR Associates in New York, jumped at the chance to respond:


Well, wow. His reply was the final push over the edge I needed to finally make a real effort with my business structure search. Off I went to learn about business entities, and boy… did I learn a lot!

Why I’m Thinking LLC

Since Mr. Taxwise and I have our own property to protect, I want to form a legal structure for my business that will shelter us from any potential lawsuits against our personal assets down the road. If you’re wondering why I’m so worried about that with nothing but a teensy Internet biz to show for myself, allow me to enlighten you.

My ultimate goal is to eventually purchase rental properties. It’s something I’ve wanted to do for the better part of ten years, and my online adventures may just allow me to build up enough savings to break into the game. However, if I choose to file as a sole proprietor, my personal assets won’t be protected.

That’s why I decided to go for incorporation. I learned that there are three basic types of legal entities freelancers could form if they choose to incorporate: an S Corporation, a C Corporation, or an LLC (Limited Liability Company). Each comes with its own benefits and drawbacks for freelancers, so picking the right one is vital for protecting your bottom line.

According to an awesome SBA writeup I found, S Corporations, if owned by one single shareholder (the freelancer), allow only the earnings to be subject to employment tax. If the S Corp freelancer makes quite a bit one year, he or she can take a fraction of that year’s earnings as a paycheck and the rest as “profit through distribution to shareholders.”

The S Corp does have a major downside, of course. It demands yearly legal hoop-jumping, including accomplishing compelling tasks throughout the year – requirements such as holding regular shareholder meetings, filing minutes from them, extensive record-keeping, and reporting bylaw updates. Sounds like a blast, right?

On the other hand, a C Corporation is great for people who have small startups that may seek future venture capital to finance expansion. Although there’s flexibility to spread profits around to plan for taxes. However, at the end of the day, a freelancer who chooses this corporate structure will almost always end up with a hefty tax bill due to the whole double taxation thing. Not very fun, either.

That brings us to the newest corporation type around – the Limited Liability Company (LLC). Owners of LLC companies deal with taxes like sole proprietors. They’re taxed on the LLC’s net income, and those taxes are reported on the owner’s personal tax return. The LLC simply acts as a “pass-though entity.”

That was all fine with me since the biggest selling point was the part about an LLC protecting me from legal attacks once I begin dealing with real estate. Plus, if my company doesn’t make much or operates on a loss at first, I can report that on my income taxes. Bonus!

Yup, I’ve definitely made my choice.

Evaluating Your Own Biz

Enough about me… let’s talk about you! If you’re the proud owner of a small biz or a freelancer yourself, it’s important to evaluate your own business needs before choosing a structure. Moreover, you should talk to a tax professional before making any big decisions.

In addition, don’t forget to check with your state for laws concerning your new filing status. Many require different kinds of things from you depending upon the entity you choose.

That’s it for me this week, my taxalicious buddies!

Until next time.

Making Cents Count,


Hola, my tax-conscious compadres! Penny Taxwise here, back again with another installment of tax-tacular advice for your reading pleasure. This week, I chose an answered question from another Tax Connections member – the query was one I’ve pondered myself quite a bit lately. I want you to take a look at the original question before we get into the discussion portion of the program:

What is Self-Employment Tax and is this in addition to other taxes I pay as a small business owner at the end of the year?

This question is extremely relevant to my own situation – I’ve been doing the freelance writing thing for some time now, but this past year will be the first tax cycle I’ll have officially done it full-time (pause for applause). I myself have wondered how the whole tax thing should go down for the work-at-home crowd. I guess some part of me understood that my income taxes would be separate from the self-employment taxes I’d need to pay, but I was a bit fuzzy on the specifics.

Tax Pros to the Rescue

One of the dynamite Tax Connections gurus, Gary Carter, rushed right to the rescue with a fantastic (and not confusing – whew!) answer to the question. He’s the President of GW Carter, Ltd, Certified Public Accountants in Minnesota.

According to Carter:

Self-Employment tax is Social Security and Medicare tax for self-employed individuals. The rate is 13.3% of your self-employment net income for 2012 (10.4% for Social Security tax and 2.9% for Medicare tax).

Essentially, Carter’s saying that self-employment tax is the money that would be taken out of your paycheck automatically if you worked for an outside employer. When you work for yourself, your tax liability is the same as those who are externally employed, you’re simply responsible for paying into the system on your own.

Carter continued his answer by enlightening the asker about some upcoming changes to the tax code. “Beginning in 2013,” he says, “the rate for Social Security tax will increase by 2%, so the combined rate will be 15.3%.”

He also warns that self-employed individuals should be aware that their self-employment net income is the net income shown on Schedule C of Form 1040 – and not their taxable income. That’s why a self-employed person could have no taxable income yet still owe self-employment tax.

Make sense?

Yeah, it kind of confused me too. Luckily, Carter provided an example in his answer for those of us who need a little help wrapping our brains around this info. Gotta love those TC Tax Pros! Here’s what he said: “[L]et’s say your net income on Schedule C is $27,000 in 2012, and you are married filing jointly with two dependent children. Your taxable income is zero after your 4 exemptions and the standard deduction ($27,000 – ($3,800 x 4) – $11,900), but you will owe $3,591 in Self-Employment tax.”

That illustration really hit home for me because – jackpot – he described my exact tax situation. No joke. So now I understand – even though my income taxes will be zilch, I’ll still need to pony up a few thousand to cover my Medicare and Social Security. Makes sense… I’d better start padding the ol’ savings account before the tax man comes calling.

Bracing for the Blow of a Big Tax Bill

Now that we’re clear on the semantics of self-employment taxes, let’s shift the focus to footing the bill. Many self-employed people (cough, cough… myself included) fail to save adequately for the taxes that will inevitably find them each and every year they work for themselves. That’s why implementing some sort of system to set aside money for Uncle Sam is vital to protecting your bottom line – and your biz.

Once you pay self-employment taxes for the first time, you’ll be able to figure out roughly how much you’ll owe for the upcoming year. That is, unless you expect your income to sharply rise or fall. If you’re confident that everything will indeed stay consistent, however, then you have a solid figure with which to work.

Here’s my plan. I’m opening a dedicated savings account strictly for my tax savings. I won’t allow myself easy access to the funds – in fact, I’m planning to request that my bank limit my ability to transfer money from the account to my checking, if at all possible. I’ll dump a portion of everything I earn into the account – before I deposit the remaining money into my checking. If I overestimate my tax bill a bit one year, no problem. The leftover dough will be a great cushion for the following year’s bill.

Self-employment taxes are no joke, and neither is self-employment. I’m learning that the hard way. Without a boss hanging over your shoulder barking orders or a payroll department to neatly deduct taxes from your paycheck before you see it, it’s tough to regulate yourself. That’s why it’s so important to set up systems to regulate your business behavior. No one’s gonna catch you if you fall, so you might as well build yourself a net.

Until next time, my taxpaying friends!

Making Cents Count,