Here is a recording of expat CPA Michael Mertz answering tax questions for American expats living in Korea. Click the link below to listen to the interview or right click on the link and click “save link as” to save the file. If you can’t listen to it, there’s also the transcript below.
Here is the transcript:
Jung Hyun: The US tax season kicked off last Thursday, but many American expats here are unaware that they have the same tax filing requirements as living at home. US tax consultant Michael Mertz will be giving us answers to some FAQs and tips for expat tax returns. Hello, Michael.
Michael: Hello, nice to see you.
Jung Hyun: Yes, nice of you to come in. So what would you say is the major difference between the US and Korean tax systems?
Michael: The US tax system appears to have a lower rate of tax than the Korean tax system. The Korean tax system also appears to be where you get to choose between paying taxes on a graduated system where the percentage gets higher the higher your income is versus a flat tax. So you kind of have a choice it appears, on the Korean side. For me to do your US tax return, I’m really only looking for one number. I’m looking for the amount of foreign tax you paid. Even if it was calculated incorrectly, I just want to know the one number: how much did you pay. Because if there’s a tax treaty between the US and Korea, any tax paid in Korea on your income is as if you paid US tax.
Jung Hyun: So that should be deducted?
Michael: That will be credited to you, yeah. In your return.
Jung Hyun: So who needs to file taxes in the US?
Michael: There’s some bad information I see going around because there’s a lot of teachers in Korea, so the information is that “I don’t need to file because I make under this foreign expat exclusion,” we will discuss in a little while, but basically if you make money overseas, you need to file. Period.
Jung Hyun: Any amount of money?
Michael: Yeah. Any amount of money because the filing of the tax return is the mechanism by which you claim this expat exclusion. If you don’t file then you don’t take advantage of the exclusion because you didn’t use the mechanism to do that.
Jung Hyun: So you might not have to pay taxes because you didn’t make so much money, but you still need to file?
Michael: Right. And odds are if you’re teaching in Korea or you’re not making over, say, $80,000, you’re not going to have to pay tax in the US, but you need to file to put the mechanism through in order to show the IRS what you made, etc. To take the exclusion.
Jung Hyun: I see. I didn’t know that.
Michael: Their language is that the exclusion can be taken on a timely-filed return. So if they want to play hardball with an expat, who didn’t file, they could say, I’ve not seen them do this, but they could say “Hey you didn’t file so now you have to pay tax on your full income you made in Korea as if you were earning it in the US.”
Jung Hyun: I find that tax lingo to be really, really confusing. So if you’re making any amount of money in Korea, you still need to file. And can they expect a tax return?
Michael: If you live in Korea and work for a US company, and you’re issued a W-2, and usually that company will deduct federal tax on your salary, you know like before they pay you—your net pay in the US. If you’re having that happen to you, then you could possibly get a refund.
Jung Hyun: In federal taxes?
Michael: Yeah, possibly, right. And possibly a state tax refund because whatever state that company’s based in, maybe they’re taking state tax out of your check too. But usually if you’re an expat and you work overseas in Korea and you don’t work for a US company, then you are not receiving a W-2, there’s no federal tax being withheld from you, and there’s usually not going to be any refund due. Even if there’s a credit of foreign taxes that you have due, you’ll never get any cash money from the US in a refund in that situation.
Jung Hyun: Then, on the other hand, can you end up paying some more taxes?
Michael: You can definitely end up paying some more taxes. It just depends on the differential or how high the foreign country’s tax is. So, I’ll give you an example. I have clients in Russia and I have clients in Korea. The Korean tax is higher than in Russia. Russia has a flat tax of 13%. So if you’re a client of mine in Russia you have to pay an extra amount to the US because it’s definitely higher than 13%. In Korea, possibly not. In China, for sure not.
Jung Hyun: Ok. So take us through the general steps of filing taxes.
Michael: Ok, so if you want to file your taxes you’re going to need to know the amount of days you spent in the US in that calendar year–none of the things I will talk to you about will be fiscal. It will all be calendar from January 1 to December 31. So we want to know the days you spent in the US. The reason you want to know that is for two reasons. There’s an expat exclusion so in 2012 you can make $95,100 before you get taxed. But if you live in Korea and your company keeps sending you on business trips to the US, like every two weeks, you go for a week. Well, this foreign earned income exclusion is specifically where your body is when you earn the money, so if you’re physically in Korea earning money, then you can take the $95,000 against it and not pay tax in income tax. If you’re in the US on a business trip, and you work in Korea, you have a house in Korea, you’re whole family’s in Korea, you still have to pay US tax on those days that you spent in the US on a business trip…
Jung Hyun: On vacation…
Michael: Well, you’re spending vacation, you’re not really working, so you’re not really earning any money on vacation, but if you answer that yes…because I want days in the US, and I want business and personal. So if your answer is, “I spent 50 days on business in the US on business trips” then I take a daily rate—your salary divided by 280 work days, here’s your daily rate times 40 work days and this is the amount of money—that’s not against the $95,000 so you have to pay US tax on that.
Jung Hyun: Ah…
Michael: Yeah, exactly, so.
Jung Hyun: So you have to know the amount of days in the US.
Michael: The amount of days in the US. I want to know obviously your employer in Korea, your employer’s address, your residence in Korea, your residence address, I want to know the amount of rent you paid, because the $95,100 can be increased by the amount of rent you paid. So let’s just say you pay $14,000 in rent. You aren’t going to be able to add to the $95,000 because the only benefit you get is, any rent paid above $14,000. For everybody worldwide.
Jung Hyun: $14,000?
Michael: $14,000. So if you are in a high rent area, so the IRS has specific dollar amounts for cities that are deductible and can increase this $95,000. So in Hong Kong it’s $108,000 or something a year. In Moscow it’s $92,000 a year, In Korea it’s half that, so if you pay over $14,000 in rent a year, I want to know how much rent did you pay. And that will increase the $95,000.
Jung Hyun: If you’re paying more than $14,000.
Michael: If you’re paying more than $14,000, right. So you need to gather all that information together to start the tax return. Now when you do the tax return, there’s two separate ways you can do it. I know it’s confusing; I try to explain it easily, yeah, you can figure out, what is my total income, minus $95,100, and if it’s not above $95,100 you can have zero tax. You can also let the tax calculate in the tax return as if you didn’t leave the US. So, a tax will calculate, and then you can pay that tax bill with your Korean tax that you paid, and sometimes in a high-tax country there’s an excess, there’s an amount you paid in Korea more than you owe in the US, right? You can carry forward that excess for 10 years in your tax return. So some teachers, this is a benefit to them. If they paid full Korean tax and it ends up being more than they would in the US, say $1,000 or $2,000 a year and they teach for 5 years in Korea, that’s you know, a $6-$10,000 credit that they can have on their tax return so then they can go home to the US and cover some of the income they earned for the, say next 5 years, at home, and not pay income tax, so this is another benefit of filing.
Jung Hyun: So you don’t get the money back, but you get credit.
Michael: Yeah, you get credit, so that is the way to get the money back, that’s the mechanism to get it back.
Jung Hyun: What forms do they need to fill out? And can they do this online?
Michael: They can do it online, it is a bit complicated—you can definitely do it online if you’re in the US. And you can handle the tax situation if you’re in the US. It gets somewhat more complicated as you can tell, me trying to explain it in a simple manner, it gets somewhat more complicated when you’re outside the US. So I would recommend trying to use a professional, but if you do it yourself, you’ve gotta get really up to date on how this is right, what are the two methods, and if you do it wrong you potentially cost yourself either this credit going forward or maybe you pay tax and you shouldn’t have paid taxes, there’s just a lot of…it gets a bit complicated when you’re an expat.
Jung Hyun: Then what sort of expenses are deductible? You mentioned the rent…
Michael: Yeah, the rent is actually added to the $95,100. If they own a house in the US, just like before they left the US, the mortgage interest is deductible, the real estate taxes, some medical expenses possibly, in the year, the cost to get their tax return prepared, you know, things like this. Also other expenses that are deductible: if you’re not just working as an employee, if you have a business, if you’re freelancing here in Korea or you tutor or you make money on the side, you’re technically, if the IRS is talking to you, technically you’re supposed to be reporting that in your income tax return on your Schedule C Profit or Loss from Business or Profession. And even technically you don’t necessarily owe income tax on that ’cause the income tax falls under the $95,000 exclusion, but you’re supposed to pay social security and Medicare on that if you’re making money on the side in the US, if you have net profit. So some of the expenses there are any travel for your business even if it’s in Korea or anybody you paid, etc. Yeah, business expenses.
Jung Hyun: Then what is a foreign-earned income exclusion?
Michael: Foreign-earned income exclusion. The IRS is saying that, in 2012, the first $95,100 of foreign-earned income, where you physically earn the money if it’s in a foreign country, is not taxable. For income tax.
Jung Hyun: That’s about 100,000,000 won in Korean.
Michael: Yeah, and if you add another $10,000 for the standard deduction and a personal exemption you get in this US tax return, you can basically earn $105,000 before you have to pay any income tax. Now, the one key on that, in some of the George Bush tax cuts, they used to say “Ok, the first dollar you earn after $95,100, you’re obviously in the zero tax bracket because it’s $1,” they don’t do that anymore. The $95,100 determines the tax bracket, so you’re up in 28% or whatever, 25%, you’re in that tax bracket and then any amount that you earn above that is taxed at that percent. So that’s not a good deal. They kind of took away a benefit.
Jung Hyun: Even for a single dollar you would have to pay…
Michael: Yeah, I mean I’ve been an expat for 17 years, so in the last, say, 10 years it got a little worse because of that. It used to be really good.
Jung Hyun: There’s also something called physical presence or bona fide residence? What is that?
Michael: Yeah, so to quality for the $95,000 you have to either be physically present in the foreign country for 330 days, so you only have 30 days to stay in the US. If you spend more than 30 days in the US, you don’t lose the $95,100 but we’ve already talked about if it’s for business, you can’t use it—a bona fide resident is, they just want to make sure that you’re not playing games with the IRS, so they want to know what type of visa do you have, is your family with you, do you have a rental contract in Korea, do you actually rent a residence…
Jung Hyun: They need to make sure you live in Korea.
Michael: Yeah, they want to make sure that you’re centered in Korea, that you’re really living foreign and you’re not trying to pull some trick trying to get the $95,000 when you don’t qualify for it. So there’s just additional questioning.
Jung Hyun: What about foreign bank accounts? Do they need to report how much they have? Or how much they’re making from foreign bank accounts as well?
Michael: The answer’s yes….
Jung Hyun: Even though the US might not know. Even though US tax authorities might not know how much you have.
Michael: They might not know, but the possibility is, they probably will know in the future, so that’s the key. I mean, this is called an FBAR Form: Foreign Bank Account Reporting, and you need to fill it out every year, you need to send it in, not to the IRS, but it goes to the treasury department…You have to report both jointly-owned accounts by you and your wife, even if she’s not an American citizen, and what triggers this form is, all your accounts overseas, if they’re over $10,000 on any one day…
Jung Hyun: On any one day?
Michael: Yeah, so it means all of your accounts could be under $10,000—say all of your accounts are $8,000—they never go above $10,000 but they’re over $10,000 collectively on any one day, that’s the trigger. And if that triggers, then you have to report all foreign bank accounts. On this form. You also technically—if you’re talking to me and I work for the IRS—technically you should also be reporting any accounts you have signature authority on, so if you’re the CFO for a company, and you’re signing over a certain amount or whatever, you’re supposed to report that as well.
Jung Hyun: Even though that’s not your own account?
Jung Hyun: Oh. If you’re signing….
Michael: So I used to be a CFO for a French company in Russia, and I had signature authority up to, say $200-$300,000, I had to report that.
Jung Hyun: Oh. What happens when you report that?
Michael: Nothing happens if you report that, when you report that, but if you’re coming from an audit point of view, if you’re a CPA and you’re coming from an audit point of view, if you have the bank account information from the taxpayer, you know, the tax return, it’s quite easy to figure out, is he trying to cheat on that…
Jung Hyun: I see.
Michael: Yeah, if you do an audit. So this is—nothing happens unless they audit you.
Jung Hyun: And if you have more than $10,000 in your foreign bank accounts on any given day, does that mean you have to pay taxes on…
Michael: This is not a taxable event, it’s just for reporting and the one key thing on that, too, is they’ve made it a felony to not do this. So if they IRS can prove that you willfully ignored it, and you knew about it, through emails or whatever, it’s a felony. So this is really important to do every year.
Jung Hyun: Now, there are also many expats who never file their taxes on overseas income, you know, for various reasons, for maybe thinking “I don’t make $95,000, I don’t need to file my taxes.” What if you’re behind with your returns?
Michael: If you are behind with your returns, you need to file three years first, so if you’re coming now and you say “I’m behind, I haven’t filed for 18 years,” you need to file 2012, 2011, and 2010. And then if the IRS wants to see any of the rest of the other years you didn’t file, they’ll ask you.
Jung Hyun: Oh, Okay.
Michael: But, they key is, you need, like we said before this foreign expat exclusion is on a timely filed return, so if you didn’t get a letter from the IRS, telling you “Hey, where’s your return?” then you can still file and take it. But you need to beat the IRS to the punch; you need to file those returns and get it done, and file the return and take it before they actually send you the letter, or maybe they play hardball and say sorry, you don’t get it…
Jung Hyun: It’s like a good faith thing.
Michael: Yeah, you gotta do it before they actually catch you.
Jung Hyun: Are there penalties if they catch you?
Michael: There’s no penalties if they catch you and you don’t owe tax. If you owe tax, then there’s some penalties obviously. It’s unpaid money owed to them for X amount of months.
Jung Hyun: When’s the deadline to file?
Michael: So, the deadline to file is June 15th for the tax return itself, you can extend if for four months—you have to fill out a form to extend it to October 15th. If you owe money, you can’t wait to pay the money until June 15th, you gotta pay the money on April 15th. So, you know, for me to figure out how much you owe, I basically have to do your tax return, right? But you can make an estimate on April 15th and at least pay some amount that you think is close to what you owe because penalties and interest will start to accrue April 16th till June 15th till you file your return.
Jung Hyun: What are the benefits of hiring someone like you for tax returns? A CPA, for example?
Michael: Like I said before, when you’re in the US that’s where Intuit and all these companies make good money on the software for you to do your own tax return, but they don’t really handle the foreign situation very well. Maybe they will in the future, I don’t know, but it just gets a bit complicated, and I think the dollar amounts are high enough as an expat for you to do it right, either those credits going forward or this $95,000—it just kind of makes sense to spend the $300-$500 to get it done, to make sure it’s done right…
Jung Hyun: And that’s tax deductible you said?
Michael: That’s tax deductible, too, yeah.
Jung Hyun: How can expats receive more information about all the stuff you talked about?
Michael: You know, the best place, I think it’s just this IRS website, www.irs.gov, that’s quite explanatory and I mean, you can search on anything you want to know there and I think you get some good explanations on that site.
Jung Hyun: Ok. And do you know where expats from other countries might receive their information about their as well?
Michael: You mean like a French citizen here? I don’t know where a French citizen would get it. If I was gonna find out, if I was French and I wanted to know about how would I file as an expat, I would just search on Google. He’s gonna find it immediately.
Jung Hyun: Ok. Well thank you very much, Mike, for coming in and telling us about the importance of tax returns, as well as giving us the tips. Best of luck!
Michael: Thank you very much.
Jung Hyun: Our guest today, US tax consultant Michael Mertz. And with that, we’re gonna wrap up 1013 Main Street for this Monday. Thanks as always for being with us. KPOP here with As one If coming up after the midday news. Do stay tuned for that, as well. I am Ahn Jung Hyun. Have a greast start to your week. I will meet you back here tomorrow morning at 10 o’clock on the dot.