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7 Expensive Mistakes That Can Cost British Expats Thousands

7 Expensive Mistakes That Can Cost British Expats Thousands

If you’re a Brit living in the United States, or you’re in the process of relocating from Britain to the US, you’ve lots of things going on in your life.  One of the biggest items on your list is taxes. Over the years I’ve seen British Expats make the same expensive tax mistakes over and over again, often costing thousands in additional taxes that they didn’t need to pay.  In this article I provide a list of what I think are the seven most common, and expensive, tax mistakes that British Expats make.

If you’re a Brit living in the United States, or you’re in the process of relocating from Britain to the US, you’ve lots of things going on in your life.  One of the biggest items on your list is taxes.

Over the years I’ve seen British Expats make the same expensive tax mistakes over and over again, often costing thousands in additional taxes that they didn’t need to pay.  Here’s a list of what I think are the 7 most common and expensive tax mistakes that British Expats make.

Mistake 1: Not filing all required US tax returns on time

I know it sounds really obvious, but if you don’t know which US returns you need to file by what deadlines it can end up costing you a lot of money. 

In the UK we’re used to simply paying a £100 penalty for filing Self Assessment returns late.  However, what most people don’t realize (until it’s too late) is that the US Internal Revenue Service (“IRS”) charges you a penalty of up to 25% of what you OWE: just filing your tax returns late.

If you file your US tax returns on time you can avoid the 25% penalty even if you don’t send in the money owed.  Sending as much as you can is better than nothing and shows a little good faith.  But definitely don’t “not file” – the IRS won’t forget and they’ll catch up with you and you’ll owe a lot more.

I see THIS problem so often each year.  It sounds simple, but I could have saved people many thousands of dollars over the years in penalties if they just knew this one thing.  So, in the future, if this happens to you- no matter what’s going on in your life, take the extra time to file all US tax returns on time, even if you don’t send in the money owed with the return.

Mistake 2: Not telling the UK authorities that you’ve left the country

Again, I know it sounds obvious but I see so many British Expats who’ve never told HM Revenue & Customs (“HMRC”) that they’ve left the UK!  By filing form P85 with HMRC, you inform them of your situation and intentions.  In most cases it supports your claim to be “not resident” in the UK and you therefore avoid UK tax on certain items of income. 

It also forces HMRC to calculate your UK tax account as of the day you leave the country.  In many cases this results in an instant tax refund, especially if you were previously employed in the UK and were having UK tax taken off your salary through the PAYE system.

Mistake 3: If you’re renting out UK property through a letting agent, not receiving your rent gross without tax deducted

When you leave the UK, your letting agent is required to withhold taxes from your UK rental payments prior to your receiving them.  This is true even if you don’t actually make any profit on the rental and have no UK tax liability. 

If you file form NRL1 with HMRC, they will (in most cases) give your letting agent permission to pay your rental income to you gross.

Mistake 4: Not calculating your US taxes using each different filing method that you’re eligible for

When you file your US tax returns, you have several different choices on how to file, especially in the year you arrive in the US.  You might be eligible to file as non-resident, elect to be treated as resident, claim split year treatment, or make the ever popular “first year election” (which you can’t actually do until your second year – yes it’s THAT convoluted!)

If you’re married you may also be able to elect either to file jointly with your spouse, or separately by yourself.

In all these cases, different tax rates apply and different sources of income are taxed.  Complicated?  Unfortunately yes”¦  However, in each of filing methods you’re entitled to use, there will always be ONE that produces the least amount of tax you legally have to pay.  Always calculate your US tax returns under EVERY filing method to see which produces the least amount of tax.

Mistake 5: Not ensuring your payroll withholdings are correct

When you work in the UK you’re given a “tax code” by HMRC which is used to make sure the amount of tax withheld from your wages is correct.  In most cases, by the end of the tax year you’ve paid exactly what you owe and there’s no need for you to file a UK tax return.

{mosbanner right}In the US, this is totally different.  YOU are expected to figure out what your withholdings should be and then file a “W-4″ form with your employer to tell them what to withhold.  If you have too little tax withheld during the year, you’ll have an unexpected tax bill at the end of the year, and you might be liable for underpayment penalties.  If you have too much withheld, you give Uncle Sam an interest free loan until you file your US tax return and claim a refund!

I can’t tell you the number of times I’ve seen people have too little tax withheld from their wages, year after year, and been hit with endless underpayment penaties, all of which could have been prevented.  Or where people have too much tax withheld and then get 5 figure refunds at tax time- they could have done something better with that money than loaning it interest free to the Government!

Mistake 6: Not fighting IRS audits

The US government is spilling red ink faster than BP spills oil and the IRS is looking for every penny it can get.  Audits are on the rise, and British Expats are easy targets for the IRS.  Why?  Well, the IRS knows that British Expats need to be up to date on their taxes in order to qualify for potential Green Cards and US Citizenship. 

The IRS also knows that British Expats will often just pay the amount that the IRS claims they owe instead of fighting it because they aren’t familiar with the tax system, and they don’t want to jeopardize any future immigration benefits. 

Mistake 7: Relying on tax software to deal with foreign tax issues

Commercially available software programs like “TurboTax” are great for people with relatively simple tax affairs and who don’t need tax advice and guidance.  However, these programs fall short when it comes to complex international issues and there’s no substitute for the advice of a seasoned professional.  Yes- TurboTax does have a screen to enter the foreign tax credit, but you need to know the eligibility rules and you end up having to read up on this to ensure you do it correctly.

In one recent case I worked with a client who owned many overseas rental properties.  He used TurboTax for many years to prepare his US tax returns.  Unfortunately, the software didn’t know that there are different depreciation rates for overseas properties, and we had to go back and amend 7 years worth of tax returns after he was audited by the IRS.  That was an expensive mistake that could have been easily avoided!

Pete Newton is one of the few US- based tax advisors who is qualified to practice in both the US and UK.  His website is www.britishexpatstax.com

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(Image by David Reber's Hammer Photography, via Flickr, Creative Commons Attribution.)

 

© Pete Newton