The world of work has changed dramatically. No longer confined to an office in a fixed location, people are working from many different locales and exploring varied work lifestyles. The possibilities are vast – working in foreign countries, living as a digital nomad, owning one’s own company abroad, are but a few.
If you are an American working abroad or planning an overseas assignment, understanding how the U.S. Social Security and Medicare taxes will apply to you is just one of the many things to consider. These taxes don’t simply disappear. Today’s article answers common questions and breaks down key points to navigate your benefits wisely.
U.S. Social Security And Medicare Taxes Abroad
If you’re working for an American employer while abroad, U.S. Social Security and Medicare taxes still apply and will be withheld by the employer. For the self-employed, a 15.3% self-employment tax applies to net earnings (basically, the profit); it is a combination of both Social Security and Medicare taxes on net earnings and remains applicable regardless of where you’re working. There is one major difference between self-employment tax and the payroll taxes imposed on employees. Taxpayers with employers each pay one-half of the taxes (7.65% each for worker and employer), whereas self-employed individuals must pay both halves (15.3%). It often comes as an unwelcome surprise to the self-employed American that the permissible exclusion for income earned for services overseas will not reduce self-employment income subject to the self-employment tax.
Depending on the facts, self-employment tax can be eliminated if the expatriate sets up an entity in the foreign country and becomes its employee. This is a complex issue since other U.S. tax provisions can come into play. Competent U.S. tax advice is critical.
Common Questions About U.S. Social Security Overseas
Key questions include:
- Do I pay taxes to both the U.S. and my host country’s social security systems if I work for an American employer?
- What happens if I’m employed overseas but not by an American employer or I’m not self-employed and do not pay self-employment tax?
- Does my overseas work count towards U.S. Social Security eligibility if I don’t have enough credits?
- If I have enough U.S. Social Security credits, do my foreign social security credits count towards U.S. benefits?
Totalization Agreements
Depending on where you are working, if a totalization agreement is in effect between the U.S. and host country, it may offer big benefits. Totalization agreements “totalize” or combine periods of coverage from two different countries’ social security systems. Their primary purpose is to ensure that workers who divide their careers between the U.S. and another country do not lose out on social security benefits due to insufficient coverage in either country. By “totalizing” the work credits from both, these agreements protect workers with careers split between the U.S. and other countries. The U.S. has negotiated totalization agreements with 30 countries.
Totalization agreements can also eliminate double taxation. When working for an American employer in a foreign country, a totalization agreement can prevent you from paying social security taxes to both the U.S. and the host country on the same earnings. For self-employed individuals, totalization agreements can also prevent double taxation on self-employment income.
The specifics of each agreement vary, so it’s important to review the relevant totalization agreement to understand how it applies to your particular situation. It would be a good idea to engage professional assistance.
Dual Taxation: A Common Expatriate Issue
Without a totalization agreement, many expatriates end up paying social security taxes to both the U.S. and their host country. This double taxation can be a significant financial burden. While totalization agreements alleviate this issue, they don’t cover all countries, leaving some expatriates subject to dual taxation.
No Social Security Obligations At All
Some countries do not have social security systems or, they have social security systems only for their own citizens. Americans working in such countries for non-American employers or those who are not self-employed might find themselves without any social security obligations. This scenario can increase take-home pay but also leaves workers without contributions towards social security benefits. Such taxpayers may wish to make “voluntary” contributions to their U.S. social security account, but this is not possible.
It’s essential to have a robust retirement plan in place, but one must be very cautious about investing in offshore products designed to act as retirement schemes. Many have adverse U.S. tax consequences.
Qualifying for U.S. Social Security Through Totalization Agreements
The U.S. Social Security program offers various benefits, including retirement income, disability payments, and survivor benefits. To be eligible for retirement benefits you generally need 40 quarters (10 years) of work. If you don’t have enough U.S. coverage, totalization agreements can help by allowing you to count your foreign work credits towards U.S. eligibility.
Partial Benefits Through Totalization Agreements
If you have social security credits in both the U.S. and another country, you might be eligible for benefits from one or both countries. A totalization agreement can help you qualify for partial benefits by combining credits from both countries. However, if you already qualify for U.S. benefits, the U.S. will not count your foreign credits.
Conclusion
Working overseas as an American comes with a unique set of challenges and opportunities, especially when it comes to navigating Social Security and Medicare taxes. Understanding how these systems apply to your situation, whether through totalization agreements or the specifics of U.S. self-employment tax, is crucial for optimizing financial and retirement planning. Stay informed and proactive to ensure your hard work abroad contributes to a secure and comfortable future.
An important caveat: If living abroad leads you to consider renouncing your U.S. citizenship or abandoning your green card, this decision brings on a host of very serious tax-related issues. Understanding the impact on social security is but one of many things to carefully analzye with appropriate counsel.
I help with tax matters around the globe. Reach me at vljeker@us-taxes.org
My article was published on Forbes, September 6 2024. You can follow me on Forbes for free.
Posted September 26, 2024
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