I. A Lesson for the Ages: If You Can’t Beat Them Join Them – continued

b. The Saving Grace: S Corporations

The self-employed businessperson doing business abroad should consider forming an S corporation.

i. Why S Corporations are so Popular Among Small Businesspersons

The short answer is that S corporations allow small businesspersons to avoid paying self-employment taxes on wage payments. Following the lead of C corporation stockholders before them, S shareholders have tried to draw their money out of the Read More

I. A Lesson for the Ages: If You Can’t Beat Them Join Them – continued

a. The C Corporation – An Entity to Avoid

The self-employed U.S. citizen or resident doing business abroad should think long and hard before forming a U.S. corporation in which he is the sole shareholder and employee. Before explaining why this is so, it is necessary to cover a fundamental concept of U.S. international taxation. United States citizens are taxed on their worldwide income regardless of its source – i.e., regardless of whether the income’s origin is foreign or domestic. Noncitizens, who are classified as resident aliens for income tax purposes, are also subject to U.S. income taxation on their worldwide income. Read More

A Lesson for the Ages: If You Can’t Beat Them Join Them –

Because U.S. citizens working abroad do not have the luxury of escaping U.S. self-employment taxation by forming a foreign entity and because no special exemptions exist for overseas companies, the techniques available for avoiding U.S. self-employment taxation are the same for self-employed individuals working abroad as they are for self-employed individuals working inside the United States. Self-employed individuals working abroad should turn their attention to forming a U.S. entity, such as an S corporation.

A popular technique for the small businessperson to avoid self-employment taxation is to Read More

Recommendations to Assist Self-Employed U.S. Citizens Working Abroad Avoid or Reduce Self-Employment Taxes and Social Security Taxes – continued

c. Forming a Foreign Affiliate of an American Employer

A more practical solution for the self-employed U.S. citizen seeking to avoid U.S. self-employment and social security taxation is to form a foreign affiliate of an American employer. The term “foreign affiliate” is defined in two sections of the IRC: 26 U.S.C. 3121(l)(6) and 26 U.S.C. 3121(l)(8). Under 26 U.S.C. 3121(l)(6), a foreign affiliate of an American employer is defined as any foreign entity in which an American employer has at least a 10% interest. This 10% interest is determined by a 10% ownership of the stock of Read More

Recommendations to Assist Self-Employed U.S. Citizens Working Abroad Avoid or Reduce Self-Employment Taxes and Social Security Taxes – continued

b. Forming a Foreign Entity –

As described above, forming a foreign entity is essential to any plan that seeks to avoid domestic and foreign social security taxation. This section describes the obstacles that a self-employed individual from the United States must overcome to form a foreign entity. In doing so, it explains why certain definitions in the Federal Insurance Contribution Act (FICA) and the Federal Unemployment Tax Act (FUTA) make forming a foreign entity for U.S. citizens working abroad virtually impossible. Read More

III. Recommendations to Assist Self-Employed U.S. Citizens Working Abroad Avoid or Reduce Self-Employment Taxes and Social Security Taxes –

Because self-employment taxes represent such a significant threat to the survival of U.S. citizens or residents doing business abroad, recommendations are needed to assist these individuals in avoiding self-employment taxation or reducing the amount of self-employment taxation paid. Can a U.S. citizen working abroad escape self-employment taxation? How about social security liability and medicare liability? If so, how? Is there a special exemption for overseas companies? Read More

II. Social Security Taxes: The Bane of the Existence of Self-employed U.S. Citizens Who Work Abroad –

ii. Absence of a Totalization Agreement –

Now assume that the same facts exist in Japan, a country in which a social insurance program exists, but which does not have a totalization agreement with the United States. Because John works in Japan, he would be taxed under the Japanese social insurance program.

A critical issue confronting U.S. citizens and residents who work abroad is what to do in the event they are subject to social insurance taxes in the foreign country where they work Read More

Social Security Taxes: The Bane of the Existence of Self-employed U.S. Citizens Who Work Abroad – continued –

i. Existence of a Totalization Agreement

Consider the same facts as discussed above, except that the hotel that John has been contracted to design is located in Germany, not China. Unlike China, Germany has its own social insurance program. That program is similar to the U.S. social security program. In addition, a totalization agreement exists between the United States and Germany. That agreement governs every aspect of social security taxation for U.S. citizens working abroad in Germany. Read More

Social Security Taxes: The Bane of the Existence of Self-employed U.S. Citizens Who Work Abroad – continued –

b. U.S. Citizens Working Abroad as Self-Employed Individuals

This section explores the self-employment taxes that face a U.S. citizen who works abroad as a self-employed individual. The self-employed U.S. citizen or resident faces self-employment taxes on all qualified earned income. In other words, the self-employed individual must always pay U.S. Social Security tax. Exclusions for foreign earned income under 26 U.S.C. 911, while reducing the amount of federal taxable income due, do not apply in calculating the self-employment tax. Read More

II. Social Security Taxes: The Bane of the Existence of Self-employed U.S. Citizens Who Work Abroad –

A hostile environment faces the person who, alone or with one or two others, goes into business for himself. In recent years, various factors have increased the adversity the small businessperson faces. Escalating employment taxes represent a significant barrier to the economic survival of these individuals.

This section explores the self-employment taxes that face a U.S. citizen working abroad as a self-employed individual.

a. The Employment Tax Regime Read More

I. Domestic Administration of Social Security Taxation and the Scope of International Coordination – continued

b. The Second Aspect: Benefits Eligibility

In general, any individual is eligible to receive United States social security benefits at the age of sixty-two if he is considered “fully insured” and has filed the necessary paperwork. An individual is generally considered fully insured when he accumulates coverage, by earning wages or self-employment income that has been subject to social security contribution requirements, for a total of forty quarters.

Several sections of the Social Security Act provide for increases and decreases in benefit Read More