Tips for Green Card Holders and Immigrants Who are Filing a US Tax Return
Our goal here, on this page, is to provide you with an overview of the tax system here in the United States.
So let's start with some basic concepts, get a lay of the land, and then drill down into some tips for what to look out for.
Who is a Tax Resident? Citizens, Green Card Holders and Resident Aliens who meet the Substantial Presence Test.
In order to be considered a resident of the United States for tax purposes, a person needs to be either a US citizen or a lawful permanent resident (that is, a green card holder), or meet the substantial presence test.
So let's back up for a second and think about what this means. So let's say you have a green card. You are a US resident for tax purposes – even if you only live here part of the year.
Being a resident for tax purposes doesn't necessarily mean you actually live here full time. As long as you have a green card, for example, you are responsible for reporting and paying tax on your worldwide income.
US Residents Pay Tax on Their Worldwide Income
If you are generating income back home – say some rental income, or income from investments, or interest on savings – you need to report that income on your US tax return.
Note: this only applies to people who are U.S. residents. If you qualify as a nonresident, then you pay US tax only on your US income.
An Overview of the US Federal Income Tax System
Here in the United States, we pay income taxes to different levels of government. We pay a federal income tax to the US federal government. The federal income tax is administered by the Internal Revenue Service (IRS), which is a division of the US Treasury Department.
We calculate the federal income tax by measuring income earned during the calendar year. (Our tax year in the US is the same as the calendar year. Optionally, a person can adopt a fiscal year other than a calendar year.) We also pay state income tax to the state (or states) where we reside or where we earned income during the year. Most states levy an income tax, although there are seven states that do not.
We also measure certain types of expenses. Some expenses can be deducted against income, resulting in a lower net income subject to tax. Other expenses can be used to generate a tax credit, which further reduces the tax. So, essentially, we can think of the federal income tax like a math formula. Oversimplifying, it looks like this:
Total income minus deductions = taxable income
Taxable income multiplied by the relevant tax rates = the federal income tax
Federal income tax minus tax credits = net federal income tax
Net federal income tax plus any surtaxes = total federal income tax.
People self-assess their federal income tax (and state and local income taxes). This is accomplished by preparing a tax return, which you can either do yourself or hire a professional to do for you.
What we do is prepare a Form 1040. The Form 1040 is a two-page summary. This can be supplemented with any number of supporting schedules and forms to report specific types of income, deductions or credits. (Alternatively, 1040A and 1040EZ are shorter forms for people with simpler financial situations. Nonresident aliens, by the way, file Form 1040NR or 1040NR-EZ.)
Social Security and Medicare Taxes
Now in addition to income taxes, we also have social insurance programs called Social Security and Medicare. We often call these payroll taxes. Social Security tax goes to fund the retirement and disability benefits administered by the Social Security Administration.
The Social Security tax is a flat 12.4% on the first $118,500 of wages, salary and self-employment earnings. Eventually, you may become eligible to receive benefits from Social Security, either when you reach retirement age or when you become disabled. The Medicare tax is a flat 2.9% on all wages, salaries and self-employment earnings. People earning over $125,000 (if you're married) or over $200,000 (if you're un-married) may have to pay an additional 0.9% in Medicare tax. Eventually, you may become eligible for government-subsidized health insurance through the Medicare program.
The Information Reporting System
US tax laws require that many types of income must be reported by the person or business paying the income. Employers, for example, provide their employees with paystubs each pay period. And after the year is over, the employer also sends them a Form W-2, which reports the total wages paid and taxes withheld for the year. Similarly, banks report interest income on Form 1099-INT. You get one copy of these documents, and the IRS gets a copy as well.
Tax documents often arrive by mail. In today's age of internet and email, some companies will send tax documents electronically or make them available for download from a Web site. Your task is to make sure you receive all your tax documents, which you'll need so you can prepare a thorough tax return.
Paying US Taxes
Americans pay their federal income taxes through a combination of withholding and estimated taxes. Withholding means, simply, that the person or business paying income first withholds some amount for federal taxes. The withholdings are forwarded to the IRS, and you receive the net amount of income. However, withholdings are usually not exact. That means the amount you have withheld from your income at the source could be larger or smaller than the amount of tax you are required to pay.
Estimated tax is the other way to go about paying income taxes. Self-employed persons, and people with types of income not subject to withholding (such as investments and rental income), remit their payments every three months or so by sending in estimated tax payments.
Then, after the year is over, we tally up all the withholdings and estimated tax payments. If a person has overpaid, the IRS issues them a refund after the tax return is filed and processed. If a person has a balance due, that amount is due in full by April 15.
Reporting Income and Assets from Countries Outside the United States
You may have investments, property, or financial accounts in countries outside the United States. The United States taxes residents on their worldwide income. This includes interest, rents, and government pensions, and gains or losses on investments. So if you have any income being generated outside the US, that income will likely need to be reported on your US tax return.
You may also need to report the details of all your financial assets held outside the United States. So if you have bank accounts, insurance policies, brokerage accounts, or tax-deferred savings accounts sitting in another country, you may need to file a Statement of Foreign Financial Assets (IRS Form 8938) with your tax return and a Foreign Bank Account Report (FinCen Form 114), which is filed separately from your tax return. These two forms ask for a lot of details. The points to remember: there's no tax or fee associated with filling out these forms, but there are stiff penalties for not filling them out. You can protect yourself from an IRS that is all too eager to penalize taxpayers by making sure these forms are properly filled out if needed.
Be aware that any tax-free or tax-deferred savings plans you have in your home country might not be tax-free or tax-deferred here in the United States. Examples: UK individual savings accounts (ISAs) and Canadian tax-free savings accounts (TFSAs) are not tax-exempt here in the United States. Income generated inside those accounts is taxable in the US.
Be aware of foreign mutual funds. If you have assets sitting in a pooled investment fund or unit trust, this is called a passive foreign investment company. The bottom line is there are special rules for how this investment income is taxed. And you'll need good documentation to fill out the tax form properly.
Be Aware of Tax Treaties
The US has negotiated tax treaties with many countries. Treaties sometimes provide that certain types of income are taxed in one country or the other, or provide for a lower rate of tax, or provide special rules for determining residency status. If you have income or assets in other countries, you might find that a tax treaty provides special rules for how to deal with particular situations.
Before You Leave the US
You may need to request a sailing permit from the IRS before leaving the US. This applies to green card holders, resident aliens and nonresident aliens.
If you are leaving the US permanently and plan to give up your green card, you may be subject to an exit tax. This is a special tax just for the privilege of leaving the US tax system permanently. This tax applies to US citizens and people who have had their green card for at least eight years. So if you are a green card holder, keep this in mind:
Decide whether or not you want to give up your green card and leave the US well before your eight years are up. By giving up your green card before reaching your 8th anniversary, you can avoid the exit tax (which is essentially a tax on your net worth). You will still have to fill out the exit tax paperwork, but the tax itself doesn't apply until you reach the 8th year of having your green card.
Another point to bear in mind:
You'll need to know the market value of all your assets on the date you became a US resident for tax purposes. So we advise green card holders to go through the effort to take a full inventory of their assets and net worth as of that date. That information may become useful if the person later decides to give up their green card.
US Tax System in Brief
- Residents self-assess federal income tax using Form 1040 (or 1040A or 1040EZ), based on worldwide income earned during the calendar year.
- Non-residents pay US tax only on their US-source income, which is reported on Form 1040NR.
- In the year of arrival and the year of departure, you might have dual status as a resident for part of the year and as a nonresident for part of the year.
- Non-residents can choose to be treated as if they were residents (and taxed on their worldwide income).
- The Form 1040 tax return is filed with the IRS and is due by April 15.
- Tax payments are made on a pay-as-you-go basis either through withholding at the source or through estimated tax payments
- Federal income tax is calculated based on net taxable income (after allowable deductions and credits)
- Your payments could be more than the tax amount, in which case any overpayment is refunded to you after filing a tax return.
- Your payments could be less than the tax amount, in which case any remaining balance is due by April 15.
- If you need more time to file, the IRS will give you an additional six months to October 15. Request an extension of time to file using Form 4868. (But payments are still due by April 15.)
- State income tax is handled separately by filing a tax return with the state or states in which you earned income and/or resided during the year.
- If you have any investments or financial assets in a country other than the United States, you may need to file a Statement of Foreign Financial Assets (IRS Form 8938) with your tax return and a Foreign Bank Account Report (FinCen Form 114) with the Treasury Department.
- Before you leave the United States, may need to obtain a sailing permit from the IRS. This applies to green card holders, resident aliens and non-resident aliens.
- You may be eligible for benefits under a tax treaty that the United States has with other countries.
- If you need help, seek out the services of an enrolled agent (EA) or certified public accountant (CPA).
Tips for staying on top of your US tax obligations
"For those individuals new to the U.S. it is important that they understand if they want to deduct an expense, they must be able to document that expense," advises Debbie Kay, a certified public accountant in Larkspur, California. Documentation means proof of payment, such as a receipt or canceled check or even a credit card statement.
In closing, everything you need to remember is summed up nicely by Charlie Mitchell, an enrolled agent in Plano, Texas. His advice:
"Report all of your income, file your returns timely, pay any tax due when you file or make a payment arrangement (and then make the payments), open and read every letter you receive from the IRS, and, if the letter asks for a response, respond within the time requested."