Being a resident doesn’t mean you have to live in the U.S. full-time. You’re considered to be a tax resident of the U.S. beginning in the year in which you receive your green card.
What Is the Substantial Presence Test?
The Internal Revenue Service (IRS) defines “substantial presence” as being physically present in the U.S. for at least 31 days out of the year and for at least 183 days during the last three years, including the current year. The calculation for the 183 days during the last three years isn’t clear-cut. Each day in the current year counts as one day. But days in the previous year count as only one-third of a day. Days in the year before that count as only one-sixth of a day. These rules don’t apply to government workers or to certain professionals or students. They’re waived if you commute into the U.S. as a resident of Mexico or Canada, or if you’re unable to leave the U.S. due to a medical condition that began and was diagnosed here.
U.S. Residents Pay Tax on Their Worldwide Incomes
Unlike many other countries, the United States taxes its citizens and residents on their worldwide income. But this only applies to those who are U.S. residents. You’d pay U.S. tax on only your U.S. income if you aren’t a resident.
An Overview of the U.S. Income Tax System
U.S. citizens and residents pay income taxes to different levels of government. The taxes are based on a calendar year’s earnings and are documented in tax returns that are normally due on April 15 of the following year.
Federal Income Tax
Federal income tax is administered by the IRS, a division of the U.S. Treasury Department. This is the most substantial tax bill that most Americans pay annually. It is a percentage of your annual income after subtracting itemized deductions or the standard deduction. Estimated taxes are automatically withheld from income that comes from a U.S. employer. The taxpayer then submits an annual income tax return that finalizes amount of tax due. The taxpayer may be entitled to a refund or may owe a balance.
State Income Tax
Residents also pay income tax to the state or states in which they reside or earn income. Most states levy an income tax. Seven states do not collect state income tax as of 2022: Alaska, Florida, Nevada, South Dakota, Tennessee, Texas, and Wyoming. Washington state taxes only the capital gains of high earners; New Hampshire taxes dividend and interest income only. Residents of all other states submit an annual state tax return.
Municipal Income Tax
Some municipalities have an income tax. This is generally handled through the state income tax form.
Tax Deductions and Credits
Most individuals pay their income taxes as either single filers or married couples filing jointly. There also are categories for married filing separately and head of household. The federal tax system has a standard deduction that allows the taxpayer to deduct a portion of income before tax is triggered. For the 2022 tax year, that deduction is $12,950 for single filers and $25,900 for married couples filing jointly. For the 2023 tax year, the numbers rise to $13,850 for singles and $27,700 for couples. Taxpayers can take the standard deduction or itemize their deductible expenses in order to reduce their taxable income. A few deductions and tax credits can be taken in addition to the standard deduction. The tax forms make these available as line items.
Formula for Federal Taxes
The federal income tax works like a math formula: Taxpayers are responsible for calculating how much they owe in federal income tax and state and local income taxes. All of the forms are available for download on the IRS.gov website. For those who want help, there are a number of easy-to-use online software services that lead taxpayers through the process, and plenty of professional tax preparers.
Tax Forms
Form 1040 is the tax return filed by most individuals. You might also have to file supporting schedules and forms to report specific types of income, deductions, or credits. There’s also a Form 1040-SR that senior citizens can use if they wish. The differences are minor and it has a bigger type size. One notable exception is the tax return for nonresident aliens. They file Form 1040-NR.
Social Security and Medicare Taxes
The U.S. has two social insurance programs: Social Security and Medicare. These are often referred to as “payroll taxes” or as Federal Insurance Contributions Act (FICA) tax. The Social Security tax funds retirement and disability benefits administered by the Social Security Administration. The Medicare tax funds federal health insurance coverage for senior citizens. For the 2022 tax year, the combined FICA tax is 7.65% on the first $147,000 of wages and other income. (If you have a job, your employer pays an equal amount on your behalf. If you’re self-employed, you pay both shares.) The tax rate for Social Security doesn’t increase in 2023, but the amount of income that’s taxable for Social Security increases to $160,200. You become eligible to receive benefits from Social Security when you reach retirement age or if you become disabled. Once you reach age 65 you may also be eligible for government-subsidized health insurance through the Medicare program.
Paying U.S. Taxes
Americans pay their federal income taxes through automatic withholding from their paychecks or by paying estimated taxes quarterly on their own.
Withholding
“Withholding” means that the person or business who’s paying you a wage subtracts an amount from each paycheck for federal taxes, Social Security, and Medicare. This is an estimate of what you will owe. The withheld money is forwarded to the government on your behalf. You get the rest as your “take-home pay.”
Estimated Taxes
Self-employed people and others with income that is not subject to withholding (such as investment and rental income) are required to send estimated payments to the IRS based on what they expect to owe for the tax year. These are due quarterly, usually on April 15, June 15, September 15, and January 15 (of the following year). Taxpayers can be penalized if they don’t make the required estimated payments by these dates.
Filing Taxes
Every person with income is required to file a tax return once per year to ensure that the correct amount of tax has been paid. The forms require the taxpayer to record all taxable income and tax payments that have been made. Well in advance of tax day, every taxpayer should routinely receive annual forms from all of their sources of taxable income. Their employers will send a form indicating how much they have been paid and how much has been withheld. Banks send accountholders similar forms recording how much interest they have been paid, and brokerages send forms indicating taxable stock sales. People with uncomplicated finances need to file only the main Form 1040. Other forms that may have to be attached include Form 1099-MISC, for additional income; Form 1099-INT, for those who receive interest payments; and Schedule D, for people who sold stock during the year. People who prefer to itemize their deductions use Schedule C to record their expenses. The IRS will issue you a refund if you’ve overpaid. You’ll be responsible for paying the remaining balance due if you’ve underpaid. If you get an awful surprise, you can request an installment agreement to pay what you owe. Federal tax returns are usually due by April 15 each year. This date may be bumped up to the next business day if falls on a weekend or holiday. Tax day for the 2022 tax year is April 18, 2023. Tax day for the 2023 tax year is April 15, 2024. State income tax deadlines vary, but most states try to set them on or near the federal deadline date.
Income and Assets Abroad
You might have investments, property, or financial accounts in countries outside the U.S. Income must often be reported on your U.S. tax return as well If you make any income through those sources, including government pensions, interest, or investment gains. You might also have to report the details of all your financial assets held outside the U.S. by filing a Statement of Foreign Financial Assets (IRS Form 8938) with your tax return. You must also file 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 filing them. 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. British 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.
Keep Up to Date on Tax Treaties
The U.S. has tax treaties with many countries. These treaties sometimes provide that certain types of income are taxed in one country or the other, but not by both. They might provide for a lower rate of tax or provide special rules for residency status. You might find that a tax treaty provides rules for certain situations if you have income or assets in other countries. This is another 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 non-resident 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 to those who have been lawful permanent residents in at least eight of the past 15 years. Decide whether you want to give up your green card and leave the U.S. well before your eight years are up, if possible. You can avoid the exit tax, which is essentially a tax on your net worth, if you give up your green card before you hit the eight-year mark. You’ll still have to fill out the exit tax paperwork. The tax itself doesn’t apply until you reach your eighth year of residence. You’ll have 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 can become useful if you ultimately decide to give up your green card.
