Tips for Green Card Holders and Immigrants Filing U.S. Tax Returns
Basic Rules and Guidelines for U.S. Tax Returns
You must be a U.S. citizen, a lawful permanent resident—that is, a green card holder—or meet the substantial presence test to be considered a resident of the United States for tax purposes. Being a resident doesn't necessarily mean you actually live here full time.
You're responsible for reporting and paying tax on your worldwide income if you fall into one of these categories.
What Is the Substantial Presence Test?
The Internal Revenue Service defines "substantial presence" as being physically present in the U.S. for at least 31 days out of the year and for 183 days during the last three years and the two years before that.
The math is admittedly complicated. Check with a tax professional if you're unsure if you fall into these perimeters or think you might.
U.S. Residents Pay Tax on Their Worldwide Income
The United States is one of just a few countries that taxes its citizens and residents on their worldwide income so this might be different from how things worked in your native land. You must report the income on your U.S. tax return if you're generating any income back home such as rental income, income from investments, or interest on savings,
But this only applies to those who are U.S. residents. You'd pay U.S. tax only on your U.S. income if you qualify as a nonresident—that is, you don't fall into any of the above categories.
An Overview of the U.S. Federal Income Tax System
United States citizens and residents pay income taxes to different levels of government. We pay a federal income tax to the U.S. federal government.
The federal income tax is administered by the Internal Revenue Service (IRS), which is a division of the U.S. Treasury Department.
We calculate federal income tax by measuring income earned during the calendar year. Our tax year in the U.S. is normally the same as the calendar year, but taxpayers can adopt a fiscal year other than the calendar year.
We also pay state income tax to the state or states where we reside or earn income. Most states levy an income tax, although seven states do not.
We also measure certain types of expenses and some of these can be deducted from income, resulting in a lower net income that's subject to tax. Other expenses can be used to generate a tax credit which further reduces any tax owed.
The federal income tax works like a math formula that looks something 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
Taxpayers are responsible for calculating how much federal income tax and state and local income taxes they owe. This is accomplished by preparing the appropriate tax returns, which you can either do yourself or hire a professional to do for you.
A variety of Forms 1040 are the tax returns filed by individuals, Form 1040 being the standard. Form 1040 can be supplemented with any number of supporting schedules and forms to report specific types of income, deductions, or credits.
Nonresident aliens file Form 1040NR or 1040NR-EZ.
Social Security and Medicare Taxes
The U.S. also has two social insurance programs: Social Security and Medicare. We often call these payroll taxes or the FICA (Federal Insurance Contributions Act) tax.
The Social Security tax funds the retirement and disability benefits administered by the Social Security Administration. It's a flat 12.4 percent on the first $128,700 of wages, salary and self-employment earnings you earn annually. You would pay half or 6.2 percent and your employer would match that if you're not self-employed.
The Medicare tax is a flat 2.9 percent on all wages, salaries, and self-employment earnings and this is also shared by your employer if you're not self-employed. Some taxpayers have to pay an additional 0.9 percent in Medicare tax—those who earn more than $250,000 if they're married and file a joint return with their spouses, or more than $200,000 if they're not married.
Eventually, you can become eligible to receive benefits from Social Security, either when you reach retirement age or when you become disabled. You might also become eligible for government-subsidized health insurance through the Medicare program.
Paying U.S. Taxes
Americans pay their federal income taxes through withholding, estimated taxes, or sometimes both.
"Withholding" means that the person or business who's paying you subtracts an amount for federal taxes from your pay each pay period. You receive the balance. The withheld money is then forwarded to the IRS on your behalf.
Withheld amounts are not usually exact. The amount withheld from your income could end up being more or less than the amount of tax you're required to pay.
Self-employed persons and other people with income that's not subject to withholding, such as investments and rental income, send estimated payments to the IRS every three months or so based on what they expect to owe.
When the year is over, tally up all the withholdings and estimated tax payments you've made. Your withholdings will appear on the W-2 form your employer gives you at year's end. The IRS will issue you a refund if you overpaid. You must pay any balance due at the time you file your return if you underpaid.
Federal tax returns are usually due by April 15 each year. This date can be bumped a day or two if it falls on a weekend or holiday.
Reporting Income and Assets from Countries Outside the U.S.
You might have investments, property, or financial accounts in countries outside the U.S. so you receive income including interest, rents, government pensions, or gains or losses on investments. This income must usually be reported on your U.S. tax return as well.
You might also have to report the details of all your financial assets held outside the U.S. You might have 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 information. There's no tax or fee associated with filing them but there are stiff penalties for not doing so.
Tax-free or tax-deferred savings plans that you have in your home country might not be tax-free or tax-deferred here in the U.S. For example, UK individual savings accounts (ISAs) and Canadian tax-free savings accounts (TFSAs) are not tax-exempt here. Income generated inside these accounts is taxable in the U.S.
If you have assets sitting in a pooled investment fund or unit trust, these are passive foreign investment companies. There are special rules for how this type of investment income is taxed and you'll need good documentation to fill out the tax form properly. You might also need the help of a professional tax preparer as well.
Keep Up to Date on Tax Treaties
The U.S. has negotiated tax treaties with many countries. These treaties sometimes provide that certain types of income are taxed in one country or the other, or they might 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. Again, it's a good reason to check with a tax professional.
Before You Leave the U.S.
You might have to request a sailing permit from the IRS before leaving the U.S. if you're a green card holder, a resident alien, or a nonresident alien.
You could be subject to an exit tax if you're leaving the U.S. permanently and plan to give up your green card. This is a special tax just for the privilege of permanently leaving the U.S. tax system. It applies to U.S. citizens and individuals who have had their green cards for at least eight years.
Decide whether you want to give up your green card and leave the U.S. well before your eight years are up. You can avoid the exit tax, which is essentially a tax on your net worth, if you give up your green card before you reach its eighth anniversary. You'll still have to fill out the exit tax paperwork, but the tax itself doesn't apply until you reach the eighth year of having your green card.
You'll need to know the market value of all your assets on the date you became a U.S. resident. Take a full inventory of your assets and net worth as of that date. The information may become useful if you ultimately decide to give up your green card.
A Final Word
Everything you need to remember is summed up nicely by Charlie Mitchell, an enrolled agent in Plano, Texas. "Report all your income, file your returns on time, 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."