Taxes For US Digital Nomads & Expats

Hello everyone and welcome to Moola Financial Group’s tutorial on international tax planning for American digital nomads. Today we have a really interesting tutorial lined up for you, but before we begin I just wanted to remind you that we have a full 6 hour offshore tax planning course for entrepreneurs for those of you who are looking to dive deeper into the topic. 

Now let’s begin. 

Introduction

The digital economy has created countless new opportunities. Today we’re going to discuss the new opportunities introduced with respect to how the digital economy has transformed and widened the business structuring possibilities for borderless entrepreneurs.

Long gone are the days when companies were physically tied to their jurisdictions. Today, many business are mobile or location independent. And many of the entrepreneurs who run these businesses making the decision to become location independent as well. These entrepreneurs are known today as digital nomads. This new breed of entrepreneur is a creative person who creates their own rules when it comes to designing business structures that are not only optimized for profit,, but also optimized for the personal fulfillment of the entrepreneur running the company.

These 21st century mobile entrepreneurs could be managing their online company from a beach in Greece one month and then from a co-working space in Spain the next.

However, for digital nomads it’s not all fun and games. Many digital nomads navigate in a tax gray area and great care needs to be taken to ensure that their tax filing obligations meet the requirements of the jurisdictions these entrepreneurs come in contact with.

Organizations such as the OECD, admit that the digital economy has created new problems for tax authorities, as well as exaggerated existing ones. Tax systems have historically been heavily reliant on determining the location of the economic activity of companies. That activity could be anything from the physical location where customers enter to purchase goods, it could relate to the location of central management, or it could relate to the jurisdiction where value is created, to name only a few examples.

However, American digital nomads create new tax reporting problems, because the physical location of their assets could be hosted on various cloud services across the world. The location of central management could change multiple times / year, and the jurisdiction of value creation is difficult to pinpoint since many digital nomads often use fully distributed teams, and in many cases freelancers, to help share the workload. This creates an entirely new business model that tax authorities are only just starting to get their heads around.

However, at the same time it creates new opportunity, because US entrepreneurs are not beholden to the same structuring requirements that say a local retail store or restaurant is. The online business model to be unique, which means it requires a unique corporate structure to compliment it.

To complicate matters further, these digital nomads are mobile, because the intangibles they are often working on, are also mobile. The intellectual property of these entrepreneurs could be anything, but they are often things like a website brand, a course, a consulting program, a process, a service, an eBook, a computer program, a film, a song, or an algorithm to name only a handful of examples.

Due to the mobility of these businesses, both in terms of the intangible assets and the people who manage them, US entrepreneurs are now presented with new business structuring possibilities.

Now, I won’t be going too deep into the discussion around intangibles or IP during this discussion, because we’ve already talked about that subject in depth over on our offshore tax planning blog. But the main idea here is to study new business model optimization strategies that best match the business realities of these new highly mobile business.

Planning Your Length of Stay

The US is one of a few countries left in the world with a citizenship based taxation system. Therefore, it doesn’t matter where you earn money, because worldwide income is taxed. This is very different from residential (i.e. Canada) or territorial (i.e. Hong Kong) taxation systems which give their citizens substantially more flexibility when it comes to tax planning.

That said, in the US there are various tax tools that you can use to your advantage. At the foundation of all international tax planning strategies of US entrepreneurs is the The Foreign Earned Income Exclusion (FEIE) which is essentially, a section on IRS Form 2555 which allows global entrepreneurs to exclude a certain amount of your FOREIGN EARNED income on their US tax returns. The number changes every year, but currently it sits around $100,000 / year. Additionally, the IRS could allow you to deduct certain foreign housing amounts as well. This means, if planned properly, you could not pay tax on the first $100,000 you generate offshore. 

Now many American digital nomads will want to create a non-US corporation, or offshore corporation, known as a CFC or a controlled foreign corporation in the eyes of the US government, to take advantage of these tax savings since the income they receive from their offshore company, or CFC will be foreign earned income. A non US corporate structure could also helps them avoid having to pay self employment taxes. So the non-US corporation is an essential part of your planning.

However, In order to qualify for this exclusion, The IRS requires that your tax home is in a foreign country. This means if you plan on going offshore, you physically have to leave with your company.

The IRS states that you’ll need to satisfy one of the following requirements.

1. You’ll need to become A bona fide resident of that foreign jurisdiction for an uninterrupted period of 1 year.

Or

2. A resident alien who is a citizen or national of a country which the US has an income tax treaty with and who is also a bona fide resident of that jurisdiction for an uninterrupted period of one year during that tax year.

Or lastly,

3. A US resident alien who is physically present in a foreign jurisdiction or jurisdictions for a minimum of 330 full days during any 12 consecutive months.

For many potential US digital nomads, the idea of leaving their homeland is worth it. While the US is no longer a country, with one of the highest corporate taxes in the world, many digital entrepreneurs nevertheless find their tax rate high, considering their business model doesn’t really take advantage or use the country’s services in a way that they find warrants high taxes. The US simply isn’t providing the full range of services to an online company that it might be providing, for example, a local restaurant or retail shop. Your employees, your hosting, your IP, your paid commercial services could all be fully distributed and taking place in different parts of the world. Therefore, it might make sense from a business model optimization standpoint, to consider re-organizing your corporate structure in a jurisdiction that is more compatible with your unique business model.

Incorporate a Non-US Company

There are many jurisdictions worldwide that are aggressively trying to attract SMEs or Small to Medium Sized Enterprises like yours into their jurisdiction. Many of these jurisdictions, such as Singapore, Hong Kong, Belize or BVI offer unique tax savings opportunities that may be suitable for your business.

However, as an American, there are a few other hurdles in your way with regards to setting up a company in a foreign jurisdiction. One of those is that Y\you’ll need to adhere to FBAR, or Report of Foreign Bank and Financial Accounts. As an American, under the Bank Secrecy Act, you’ll be required (in most cases) to report any foreign accounts to the Treasury Department and you’ll be required to keep proper documentation and historical records of those accounts.

Therefore, as a digital nomad, when you start shopping around for a new jurisdiction for your company, you’ll need to carefully consider what each jurisdiction offers you. The truth is that setting up banks in a foreign jurisdiction can be a little more challenging for Americans, since American clients also create more reporting requirements for those banks.

Similarly, it’s important not to be lured into any jurisdictions that try to sell you on the feature that there is no reporting requirements. Because those requirements are in complete contrast with your requirements with tax authorities back in the US and not reporting properly can result in huge fines and penalties.

More Than Just Tax Planning

However, beyond the extra reporting requirements, US digital nomads also need to be aware that registering your company offshore will require more than just tax planning.

Often low and no tax regions would not be compatible with the day to day operational needs of most digital nomads. For example, most digital nomads rely heavily on merchant accounts or payment aggregators such as Stripe, Braintree, Paypal or Authorize.net. These solutions are simply not available in most low tax jurisdictions.

The same is true with banking, many offshore jurisdictions are really weak when it comes to international banking standards. They generally use less common payment networks, making it more challenging for you to access your money internationally, and they generally lack the technological innovation in online banking that many digital nomads gave grown accustomed to in the US.

So while a foreign jurisdiction might provide a strategic tax advantage to your company, at the same time that location could make running your business, from an operations standpoint, near impossible.

This is why a lot of US entrepreneurs stay away from zero tax jurisdictions such as The Bahamas, Bermuda, BVI or the Cayman islands. These jurisdictions could serve other purposes, such as asset protection, but supporting the required technology and operational needs of digital nomads, is not their strength.

Be Strategic About Residency

Once you have become a resident alien of the US, and you’ve setup your company in a new jurisdiction you’ll be free to start traveling without having to pay US taxes up to around $100,000.

At this point, you’ll need to decide if you want to become a perpetual traveler, never overstaying your tourist visa in any country (usually 3 months max), or if you want to establish residential ties with another jurisdiction.

If you remain a perpetual traveler, you’ll likely not have to worry about paying tax in any country you visit. Tourist visas allow tourists to come into countries and contribute to the economy by supporting local merchants. On top of this, digital nomads usually contribute to taxes through consumption or value added taxes when they purchase things locally. However your tax obligation in those jurisdictions usually doesn’t extend pass that.

However, if you decide to become a resident in another jurisdiction you’ll need to research how that jurisdiction handles international income from your offshore company and any payments you receive from your company in the form of salary or dividends.

If you gain residency is a jurisdiction that uses a residential taxation system, those systems usually tax worldwide income. So it’s of paramount importance that you study the relevant double taxation treaties as well as the tax credit options that are available to you in that jurisdiction. Bad planning can lead to double taxation which will wipe out any tax savings you realized by becoming a resident alien of the US.

Now if you’d like to learn more about international tax planning for your borderless company, then consider signing up for our comprehensive 6 hour offshore tax planning course for US digital nomads. 

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(*Learn how to dramatically reduce your corporate taxes by using the various restructuring blueprints that we’ll provide you in our FREE offshore tax planning and training mini-course.)

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