Retiring Abroad? You Can Get Tripped Up by Taxes, Investments and Health Care Unless You Plan

8/29/17

Shomari Hearn

People thinking of retiring abroad usually consider how health care, money and federal income taxes will work. But they often overlook issues such as state income taxes and estate plans.

“Retiring outside the U.S. involves more than researching the cost of living,” says Shomari Hearn, managing vice president of Palisades Hudson Financial Group. “Without planning, you could be hit with surprises that cost time and/or money.”

Federal income tax. American citizens and permanent residents living abroad are subject to the same tax rules as everyone else. “But living in a foreign country makes complying more complicated,” Hearn says.

You’re taxed on your worldwide income above a foreign earned-income exclusion, currently $102,100. Earned income includes salary, wages, commissions, bonuses, professional fees and gratuities earned abroad, but not Social Security benefits, pensions, annuities, interest, dividends, capital gains or alimony.

You can claim a tax credit or a deduction on your U.S. income taxes for foreign taxes you paid. Most taxpayers will come out ahead taking the credit, which reduces your federal income tax on a dollar-for-dollar basis, rather than only reducing your taxable income.

You can take the foreign tax credit even if you do not itemize deductions. However, you will want to consider both options to see which makes more sense given your circumstances each tax year.

The U.S. has tax treaties with several countries that can affect your individual tax situation, whether you are a U.S. citizen or resident, so it’s wise to investigate before you go, Hearn says.

Your state may still tax you. Your state’s definitions of domicile and residency determine whether you’ll owe state income taxes while living abroad. “If you take the proper steps to terminate domicile and residency in your previous home state, you’ll often be able to eliminate state income tax,” Hearn says.

While some states make it relatively easy to terminate domicile, others require proof that you have established a new domicile elsewhere. Some assert that your domicile does not change until you demonstrate that you have no intention to return to the state. In most cases, you should file a part-year state tax return for the year you move to signal the end of your residency.

If you keep your home in the U.S., your state could consider this action proof that you intend to return. Some states require you to pay tax if you are physically present in the state for more than a certain number of days during the tax year.

Some states won’t let you off the hook even if you’ve been living abroad for decades.

“These states say you can move your domicile only within the United States,” Hearn says. Virginia, for example, says that Virginians living abroad retain their Virginia domicile. They thus owe Virginia income tax on worldwide income until they establish residency in another state—which they can’t do when living abroad.

“If your state’s rules are similar, consider first shifting your domicile to a state that does not have a state income tax before moving abroad,” he says.

Managing your money. It’s usually best to keep the bulk of your assets in U.S. accounts and transfer funds to your local foreign bank as needed. “Staggering transfers removes some of the risk of currency fluctuations and also protects you if your new country’s economy is unstable,” Hearn says.

It also simplifies things if you split your time between your new residence and the U.S. If you should want to return to American someday, that will be simpler too. And if you keep less than $10,000 abroad, you won’t have to file onerous disclosure forms annually.

Opening a local bank account and funding it with U.S. dollars may be simple or complicated. In some countries, it may entail obtaining identification documents, letters of credit and references from your U.S. bank.

Investment managers must follow certain rules regarding trading on behalf of clients living outside the U.S. If you plan to move abroad, ask your adviser if they can handle your accounts while you’re overseas.

“If your adviser has the ability and inclination to continue working with you, keep your adviser,” he says.

In theory, it should be easy to manage your own U.S.-based investments from overseas. However, some financial services companies restrict Americans’ ability to execute transactions while living abroad because they fear violating foreign regulations.

Restricted activities may include buying new mutual funds, switching holdings from one fund to another, and redistributing assets among funds already held. A possible workaround is to place investments in a revocable trust and appoint a U.S. resident as co-trustee. The investor living abroad could then ask the co-trustee to place the desired trades, Hearn says.

You can also switch to a firm that doesn’t restrict investors living overseas.

Health care and insurance. Medicare generally doesn’t cover any medical expenses outside the United States and its territories. (In limited circumstances, the program provides emergency coverage in Canada and Mexico.) Medicare Advantage plans usually provide coverage for travelers but not for people living abroad. You may stop paying Medicare premiums, but you’ll be penalized if you return to the U.S. and re-enroll.

“Consider buying an international health plan that can travel with you,” Hearn says.

Many countries have national health systems, but eligibility requirements vary, as do services and the quality of care. Even if your new home country will cover your basic medical care, you may wish to consider health insurance to cover private medical and dental care, as well as emergency medical evacuation to the U.S.

Reporting foreign assets. Certain U.S. citizens and residents must file an annual Report of Foreign Bank and Financial Accounts (FinCEN Form 114), often referred to as an FBAR. You must file if you have a financial interest in or signature authority over at least one financial account outside the U.S. and the total value of your foreign financial accounts exceeded the equivalent of $10,000 at any time during the year.

Taxpayers with specified foreign financial assets above certain thresholds also must report those assets to the IRS on Form 8938, Statement of Specified Foreign Financial Assets. Reporting foreign accounts is complicated and is probably best done with the help of a qualified tax professional.

“If you keep your foreign assets under the threshold, you’ll avoid the additional tax compliance,” Hearn says.

Estate plans. Ideally, you should consult a knowledgeable estate planning attorney who has experience in international tax and estate planning. He or she can help you navigate the particular concerns of structuring your estate when you live abroad, Hearn says.

These may include specifying that U.S. law will govern the execution of the estate and examining the structure of trusts to make sure they are not caught in a tax net by your country of residence.

Estate-planning concerns are not insurmountable, but they’re easier to handle if you deal with them prior to leaving the United States, Hearn says.

Shomari Hearn holds the Certified Financial Planner (CFP®) and IRS Enrolled Agent (EA) designations. He is based in Palisades Hudson’s Fort Lauderdale, Florida, office.

Palisades Hudson Financial Group is a fee-only financial planning firm and investment manager based Fort Lauderdale, Florida, with more than $1.3 billion under management. It offers financial planning, wealth management, and tax services. Its Entertainment and Sports Team serves entertainers and professional athletes. Branch offices are in Stamford, Connecticut; Atlanta, Georgia; Portland, Oregon; and Austin, Texas.

The firm’s monthly newsletter covering financial planning, taxes and investing is online at www.palisadeshudson.com/insights/sentinel. Sign up to receive articles by email at www.palisadeshudson.com/get-sentinel.

Social media: Twitter; LinkedIn; Facebook.

It's on us. Share your news here.

Submit your stories and articles to citybizlist today.