Rental and royalty income for U.S. expats refer to the earnings derived from renting out property or receiving royalties from intellectual property, such as patents, trademarks, or copyrights. As a U.S. citizen or resident, you are still required to report and pay U.S. taxes on your worldwide income, including rental and royalty income, even if you live abroad.
Here’s an explanation of how rental and royalty income is taxed for U.S. expats:
1. Rental Income for U.S. Expats
Rental income refers to the money you earn from leasing or renting out real estate property. This can include rental income from:
- Residential rental properties (e.g., apartments, houses, etc.)
- Commercial rental properties (e.g., office buildings, storefronts)
- Vacation homes (if rented out on a short-term basis)
As a U.S. expat, you are subject to U.S. taxes on rental income regardless of where the property is located. However, you may also be subject to tax in the foreign country where the property is located, and there are provisions to help minimize double taxation.
How Rental Income Is Taxed
- U.S. Taxation: Rental income is considered passive income by the IRS and is subject to U.S. income tax at ordinary income tax rates. You report rental income on Schedule E of your Form 1040.
- Expenses: You can deduct related expenses such as:
- Property taxes
- Mortgage interest
- Repairs and maintenance
- Insurance
- Depreciation
- Net Income: After subtracting allowable expenses, the net rental income is included in your total taxable income and taxed according to your tax bracket.
- Foreign Taxes: If you pay taxes on your rental income to the country where the property is located, you may be eligible to claim a Foreign Tax Credit (FTC) to reduce your U.S. tax liability on that income.
- Foreign Currency: Rental income earned in foreign currencies must be converted to U.S. dollars using the exchange rate in effect at the time of the transaction.
Important Considerations for U.S. Expats
- If you are renting out property in a foreign country, it’s important to comply with both local and U.S. tax laws.
- If the property is vacation home, you may need to determine if it qualifies as a rental property under U.S. tax rules. If it is used for personal purposes a certain number of days during the year, you may only be able to deduct rental expenses proportionally.
- Depreciation: Depreciating the rental property is a common tax strategy, but keep in mind that if you sell the property, you may have to recapture depreciation, which could increase your taxable gain.
2. Royalty Income for U.S. Expats
Royalty income is the money you earn from granting someone else the right to use your intellectual property, such as:
- Patents (e.g., inventors receiving payments for the use of their patents)
- Copyrights (e.g., writers or musicians receiving payments for the use of their works)
- Trademarks (e.g., brand owners receiving payments for the use of their trademarks)
- Natural resources (e.g., payments for the extraction of oil, gas, or minerals from your property)
Like rental income, royalty income is considered taxable income by the IRS, and U.S. expats are required to report it on their U.S. tax return, even if the royalties are earned outside the United States.
How Royalty Income Is Taxed
- U.S. Taxation: Royalty income is generally treated as ordinary income and taxed at the same rates as wages or business income. It should be reported on Schedule E of your Form 1040.
- Expenses: You can deduct expenses related to earning royalty income, such as legal and licensing fees.
- Foreign Taxes: If you are earning royalty income from a foreign source, you may be required to pay taxes to the country where the royalties are earned. You can claim a Foreign Tax Credit (FTC) to offset U.S. taxes on the royalty income.
- Foreign Currency: Just like rental income, royalty payments earned in foreign currencies must be converted into U.S. dollars for tax reporting purposes.
3. Foreign Tax Credit (FTC) and Rental & Royalty Income
- Avoiding Double Taxation: If you are paying taxes on your rental or royalty income in a foreign country, you can use the Foreign Tax Credit (FTC) to reduce your U.S. tax liability. The FTC helps to offset the taxes you paid to the foreign country and prevent double taxation on the same income.
- You will need to file Form 1116 to claim the FTC and report the foreign taxes you’ve paid on your rental or royalty income.
4. Net Investment Income Tax (NIIT) and Rental & Royalty Income
- If you have high income, you may be subject to the Net Investment Income Tax (NIIT), which is an additional 3.8% tax on net investment income, including rental and royalty income.
- The NIIT applies if your modified adjusted gross income (MAGI) exceeds:
- $200,000 for single filers
- $250,000 for married couples filing jointly
- This means that in addition to your regular income tax, you could owe an extra 3.8% tax on your net rental and royalty income if your income surpasses these thresholds.
5. Rental & Royalty Income from U.S. Property
- If you are earning rental or royalty income from U.S. property, the income is still subject to U.S. tax regardless of where you live. U.S. expats must report this income on their U.S. tax return.
- You may also be subject to U.S. state taxes on rental income, depending on the state where the property is located.
