The Reality of Paying Taxes Overseas

Recently, I was part of a conversation about taxes in Europe. US retirees who’d gotten residence permits in a European country panicked when they realized they owe tax to that country’s government. They hadn’t known anything about the tax implications of moving abroad before they left… and many hadn’t been filing or paying the correct taxes.

Let’s start with some basics about expat taxes.

Every country has its own tax system. The details differ, but in most cases, once you’ve spent 183 days or more physically present in a country, you become a tax resident, and liable for tax like any citizen.

The US tax system is the only one in the developed world that taxes people on their global income even if they’re not living in the States. Even if you move abroad, you must pay taxes on your income unless you qualify for certain exemptions. Unfortunately, there aren’t any exemptions for passive income like Social Security, pensions, and investments.

As a US expat, therefore, you are liable to file tax returns to two countries. Fortunately, most countries have a tax treaty with the US that avoids double taxation. For example, if the IRS taxes you on your US pension income, you can deduct that from your tax obligation to a foreign country. You won’t pay tax twice on the same dollar. (Under most tax treaties, the country where the income is generated gets to tax it first.)

That’s not the end of the story, however. Countries have different tax brackets. Countries with lower average incomes tend to have higher tax rates at lower income levels than the US. Top tax brackets are generally much higher as well.

Here’s an example comparing US taxes to Portugal. For simplicity, I’ve limited the income to the top Portuguese tax bracket and assumed couples filing jointly:

Portugal has five tax brackets below €25,000 of annual income. They top out at 35%. There are three tax brackets for incomes between that and a little over €100,000. They max out at the top Portuguese tax bracket of 48%, By contrast, even at that income level the US tax rate is only 12%. In Portugal, you’ll pay 48% on all income over that €100,000.

Clearly, then, even after you’ve paid your dues to Uncle Sam, you’re still going to owe Portuguese tax. Now, there are deductions and breaks in Portugal, including health expenses and pension contributions. But no matter how you slice and dice it, you’re still going to pay more tax after you’ve finished with the IRS.

Now, some countries do offer tax breaks for immigrants. Italy and Greece, for example, both offer flat tax rates of 7% and 10% on passive income for between 10 and 15 years under certain circumstances. In Italy, there's even a special deal for working people that lowers the tax rate to 5% for up to 15 years.

Unfortunately, many people who see these things mentioned on the Internet assume they apply to everyone. But they aren't automatic; you must qualify and apply for them.

The bottom line is that you should understand the tax implications of going abroad before you make your move.

But whatever you do, don’t stop at tax rates. You also need to consider the benefits you get from living in a country with higher tax rates.

For example, in Portugal, food—which is of much higher quality than in the US—costs from 25% to 70% less than in the US. Basic utilities are 30% less expensive, mobile phone plans are 60% less, and Internet is 33% less. Apartment rentals in desirable coastal towns are about a third less than comparable places in the States. And of course, you’re eligible for the Portuguese public health care system, which is excellent and costs a tiny fraction of what you’d pay in the US.

Whenever I have spoken to expats about their overseas cost of living, they almost always report that they're saving money living abroad... Even in countries with higher tax rates. That's because those higher rates help keep a lid on other costs, which more than balances out the higher taxes.

So if you're concerned about the tax implications of moving abroad, be sure to sign up for my exclusive tax seminar this coming April 3. I'm going to be taking a deep dive into this and other issues that every potential expat needs to know about.