Landlords who live in the U.S. but own property outside of it can find themselves facing several tax complexities and mistakes, such as failing to file the Foreign Earned Income Exclusion (FEIE) form with their federal income taxes; claiming deductions for expenses they incur on that overseas property which are not allowed by law; or making false claims about how much time they spend abroad.
That’s why this list of seven common errors made by non-resident landlords is compiled so you don’t make any costly mistakes yourself!
Claiming the Foreign Earned Income Exclusion
The Foreign Earned Income Exclusion (FEIE) is a refundable tax credit that allows you to exclude up to $97,600 of earned income. If the FEIE reduces your total taxable income below zero, it can result in an overpayment of taxes owed. That would entitle you to either receive the difference as a tax refund or a larger refund in the coming years.
However, this preferential treatment isn’t available to any non-resident alien who fails to file form 2555 with their tax return each year. You need to learn to avoid common tax mistakes made by cross-border landlords. Therefore, if you’re not a US citizen and if you haven’t been lawfully admitted for permanent residence, provided that you haven’t spent more than 330 days in the United States during any period of 546 consecutive days – you don’t qualify for FEIE and should file form 2555 to claim a foreign tax credit and exclude up to $97,600.
Overstating Housing Deduction
If you pay rent or own a house – make sure you don’t overstretch. Housing deduction is limited to 50% of your allowable expenses. If you are claiming housing for more than 50% – your deduction will be disallowed.
This means that you will have to pay taxes on the full amount of rent that you collected! Don’t forget that, as a non-resident landlord, you are required to file form 8843 with your tax return. If the housing deduction goes over 50% – part of it can be disallowed. In this case, you should consult an international tax accountant for further details.
Not Reporting Foreign Bank Accounts
If you have bank accounts in your home country or any other foreign financial assets, you are required to declare them every year on form 8938. You mustn’t overlook this requirement because it could lead to significant penalties and back taxes due. Keep in mind that if your worldwide asset value exceeds $50,000 at any point during the year – you have to file form 8938.
If you fail to declare your foreign financial assets – a penalty of up to $10,000 can be imposed for noncompliance. If you forgot to file form 8938 for several years in a row – the IRS can penalize you with a penalty equal to 5% of the highest year’s account value for every year you were late, along with an additional penalty of $10,000.
Not Reporting Passive Foreign Investment Company Income
If you own a foreign corporation that isn’t engaged in business activity – it may be identified as a Passive Foreign Investment Company (PFIC). PDFs are not easy to deal with and can be quite costly.
PFICs are subject to special tax provisions designed to discourage taxpayers from using them as tax shelters. You can also realize gains on the sale of PFICs without paying taxes, but if the fund’s unrecaptured section 1250 gain is more than 35% – you can also be taxed up to 28%. It’s very easy to forget to file Form 8621 for PFICs. If you do – you could face a penalty of $25,000!
You need to pay special attention if you own foreign mutual funds or any other investment fund traded on an active stock exchange. While they are not considered PFICs, they are still subject to special reporting requirements.
Not Making Estimated Tax Payments
If you are a non-resident landlord – you may be entitled to pay no taxes on rental income received from US properties. However, if your income is above the threshold for being required to file Form 1040NR – estimated tax payments are required.
Non-resident aliens are not subject to self-employment tax, nevertheless – you still have to pay federal income tax on your net rental income. In this case, you will be required to file form 1040 every year and make quarterly estimated payments. Keep in mind that your failure could lead to underpayment penalties if you choose not to make estimated payments.
Failing to Report Rental Income on Your Tax Return
If you are a non-resident alien – rental income is not subject to self-employment tax. However, even if the income is not subject to self-employment tax – it has to be reported on your US ex-pat tax return. If you don’t file a return – you could face failure to file penalties.
To not have problems with the IRS, all your rental income received from US sources must be reported on Form 1040NR. If it’s not, and you make a false or fraudulent statement on your tax return – there is a penalty of 75% of the underpayment resulting from such a statement.
It’s important to be aware of the penalties you could face for any tax mistakes. It’s also essential that non-resident landlords know all their obligations when it comes to reporting rental income or they may not get away with paying any taxes at all. Hopefully, this article has raised some questions about how best to proceed with your landlord business while living abroad and will help you to avoid any possible tax penalties.