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4 Tips for U.S. Expats Investing in IRA and Roth IRAs
September 15, 2022
Retirement planning while living abroad can prove to be quite challenging for U.S. expats. Although it is still possible to take advantage of retirement accounts that provide certain tax benefits in the United States, U.S. expats are more prone to mistakes that can not only wipe out these tax advantages but also double the taxes paid on these accounts. The following are guidelines and nuances to look out for as U.S. expats try to maximize their retirement plan investments:
1. Find out if you are eligible
The $6,000 ($7,000 for age 50 and up) annual contribution cap (as of 2022) imposed by the U.S. Internal Revenue Service on IRA (Individual Retirement Accounts) contributions is the same for both U.S. workers and U.S. expats with income abroad. The problem for American citizens who are employed abroad is that they may be utilizing the FEIE (Foreign Earned Income Exclusion) and perhaps the Foreign Housing Exclusion. If the FEIE income exclusions bring the amount of taxable earned income to zero, this means that the U.S. expat may be ineligible to make IRA contributions. US expatriates who earn more than these exclusion thresholds may still be entitled to contribute to IRAs.
2. Watch out for double taxation!
Bilateral tax treaties between the U.S. and more than 70 other nations contain relevant regulations. The relevant tax treaty may or may not discuss the tax status of IRAs in detail. Local tax regulations in certain jurisdictions may nonetheless allow this form of deduction even in cases where the treaty does not expressly authorize it. As IRA growth is either tax deferred or tax free in the U.S., most countries do not recognize this tax benefit and may still tax the expat on investment growth within the IRA. Upon distribution of the IRA, the expat may be taxed by the IRS (Internal Revenue Service) again thereby charging another tax on the growth of your IRA. The overall result is double taxation because income added to the IRA is taxed when it is generated in your country of residence and is taxed once more by the U.S. when it is withdrawn. Therefore, make sure you understand your resident country’s tax policy on international investment growth prior to contributing to IRAs.
3. Check out local tax regulations
There are some nations where local tax laws permit the deduction of U.S. contributions to IRAs. Here, IRA contributions frequently make sense because they lower the total of the U.S. and local taxes owed. Comparable to Hong Kong, an IRA contribution will lower the amount of U.S. taxes owed without increasing Hong Kong tax obligations in a low-tax jurisdiction wherein higher-income U.S. expats will not be able to completely remove their U.S. tax responsibility through foreign income exclusions and credits. These examples demonstrate that the practicality of American expats making IRA contributions while living abroad must be evaluated on a case-by-case basis and country-by-country.
4. Carefully consider Roth IRAs
U.S. expats may also contribute to Roth IRAs if a single filer has a modified adjusted income of no more than $144,000 or $214,000 for joint filers as of 2022. Roth IRAs are appealing from the perspective of U.S. taxes alone since they allow invested amounts to grow tax-free in the U.S. (not just tax deferred as with a traditional IRA). Unlike traditional IRAs, contributions to Roth IRAs are not tax deductible. Traditional IRAs, 401ks and 403bs may also be converted to Roth IRAs. Expats who are taking advantage of the FEIE may consider converting regular IRAs to Roth IRAs while they are still overseas. This may be an effective way to optimize tax free growth within these retirement accounts. This is especially important for people who plan to return to the U.S. and retire in a high-tax state. However, pay close attention to how Roth IRAs are treated in your country of domicile. Most jurisdictions do not recognize the tax-free growth in Roth IRAs. Thus, if the account owner is still offshore, post-tax contributions made to a U.S. Roth may be subject to double taxation: first when generated and again by a non-U.S. tax authority.
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