U.S. EXPATRIATE TAXES IN SWITZERLAND
U.S. Federal Income Tax Obligations For U.S. Expatriates Living/Working in Switzerland
The Basics – Switzerland
Switzerland with capital in Bern and largest city Zurich is a country situated at the confluence of Western, Central, and Southern Europe. It is a federal republic composed of 26 cantons, with federal authorities based in Bern. Switzerland is a landlocked country bordered by Italy to the south, France to the west, Germany to the north, and Austria and Liechtenstein to the east. It is geographically divided among the Swiss Plateau, the Alps, and the Jura.
The 26 Cantions comprise: Zürich (Zurich), Berne (Bern), Lucerne, Uri, Schwyz, Obwalden (Obwald), Nidwalden (Nidwald), Glarus, Zug, Fribourg, Solothurn, Basel-Stadt (Basle-City), Basel-Landschaft (Basle-Country), Schaffhausen, Appenzell Ausserrhoden (Outer Rhodes), Appenzell Innerrhoden (Inner Rhodes), St. Gallen (St. Gall) , Graubünden (Grisons), Aargau (Argovia), Thurgau (Thurgovia), Ticino, Vaud, Valais, Neuchâtel, Geneva, and Jura
Switzerland has maintained a strong policy of armed neutrality; it has not fought an international war since 1815 and did not join the United Nations until 2002. Nevertheless, it pursues an active foreign policy and is frequently involved in peace-building processes around the world. Switzerland is the birthplace of the Red Cross, one of the world’s oldest and best known humanitarian organizations, and is home to numerous international organizations, including the United Nations Office at Geneva, which is its second-largest in the world. It is a founding member of the European Free Trade Association, but notably not part of the European Union, the European Economic Area or the Eurozone. However, it participates in the Schengen Area and the European Single Market through bilateral treaties.
Switzerland comprises a total area of 15,940 sq miles is the 132nd largest country in the world by area, has a population of 8,570,146 people and a GDP of 584 billion U.S. dollars. The Swiss currency is the is the Swiss Franc (CHF), Switzerland’s time zone is +1 UTC, Switzerland’s country telephone dialing code is +41, it’s internet TLD is “.ch” and it operates on a 230 volt electrical grid.
The U.S. and Switzerland share no common languages, Switzerland officially speaks German, French, Italian and Romanian. Known as the world’s center for banking in Geneva and Zurich, once considered secretive tax haven and also known for its incredible Swiss Chocolate, it’s Swiss heritage makes Switzerland a popular destination for Americans to reside and work.
As a U.S. citizen or resident alien (U.S. Expat) living in Switzerland, however, there is always the possibility of “double income taxation,” i.e., having to pay taxes to both Switzerland and the U.S. on the same income you earned in the Switzerland. The good news is that there are rules in place to avoid double taxation.
Knowing your obligations as a U.S. Expat are important. The Internal Revenue Code’s (IRC) rules are, however, quite complex, and while this is a simplified, broad overview to familiarize you with your filing obligations and how to avoid double taxation, you should consult a Certified Public Accountant (CPA) expert in U.S. Expat income taxation to learn more. U.S. Expat income taxes are a highly complex niche area of taxation that most CPA’s are not aware of.
U.S. Tax Obligations on U.S. Expats Living in the Switzerland
The U.S. imposes the same obligations on its citizens and resident aliens living abroad to file and pay U.S. federal income taxes, as it does on its citizens and residents living and working in the U.S.
Requirement to File U.S. Income Tax Returns
Specifically, if you are a U.S. citizen, or “resident alien,” and you meet the annual filing thresholds, you are obligated to file a federal return Form 1040 and pay federal income taxes annually no matter that you live and work in Switzerland., the fact that you are paid in CHF or USD or where your employer or clients are located whether in the U.S. or Switzerland. The annual filing thresholds, which are dependent on your filing status- Single, Married Separate, Married Joint, Head of House or Qualifying Widower, age and type of income are indexed annually by the Internal Revenue Service (IRS).
Avoiding Double Taxation
If you meet the annual income tax filing thresholds referred to above, you are technically required to file and report worldwide income for U.S. income tax purposes on the same income you are also obligated to pay taxes to Switzerland. The good news is that, if you pay income taxes to Switzerland on income you earned there, the U.S. IRC has provisions in place to let you avoid double income taxation, using both:
- Use a Foreign Earned Income Exclusion (FEIE) thereby excluding earned income –income earned in the U.K. when determining U.S. income taxes and / or
- Obtaining a Foreign Tax Credit (FTC) for the taxes you paid, or have accrued, to the U.K. against the taxes you owe to the U.S.
The Exclusions – FEIE
As always, there are certain tests you must meet to be eligible to claim these special exclusions and credits.
If you meet these IRC requirements, the FEIE is claimed on Form 2555, and allows you to exclude “Foreign Earned Income” (FEI) from U.S. Federal income taxes. FEI is essentially wage or self-employment income that you earn while living and residing in Switzerland./ outside the U.S.
To qualify to take the FEIE you have to:
- Meet the “Tax Home Test”, (THT) and
- Meet either the:
- “Bona fide Residence Test” (BFR), or the
- “Physical Presence Test” (PPT).
Generally, this means that on a facts and circumstance basis you actually must live and/or work in Switzerland and meet certain specific requirements. If you do qualify for the FEIE, it is not unlimited. The IRS sets annually indexed amounts as to how much you can exclude.
The U.S. FTC
In addition to the FEIE, HD and HE, U.S. Expats living / working in Switzerland can also claim the U.S. Foreign Tax Credit (FTC) on Form 1116 for taxes paid or accrued to Switzerland on the FEI above but not on that already excluded using the FEIE and HE or HD. In other words there is no double counting Swiss income or Swiss foreign tax that can be used in hybrid with both he FEIE / HE/ HD and the FTC.
The maximum FTC credit you can take is limited to the lower of:
- Actual taxes paid or accrued to Switzerland. on that Swiss. FEI or
- The U.S. Federal Income tax you would have paid on that Swiss FEI.
Note that you may also take the FTC on passive income, using a different category and Form 1116- FTC.
However, remember that since the U.S. FTC is limited as explained above, according to the limitation above you will always end up paying the higher of the two income taxes, which in this case is to Switzerland.
Form 8938 FFA
Not to forget or marginalize the fact that all U.S. persons must consider their obligation annually to file Form 8938 Statement of Specified Foreign Financial Assets (FFA), the fact that if you are required to file both the FBAR and FFA Forms as a U.S. Expat living and/ or working in Switzerland the amounts on both forms must sync and carry a mind boggling non-willful violation penalty of $10,000 per FFA per annum.
The Bottom Line
Because Switzerland. sets income taxes on income at much higher rates than the U.S., if the U.S. income tax compliance is done correctly, in general assuming no U.S. source income- no U.S. passive income and no U.S. workdays- you should never have to pay any additional U.S. Federal Income taxes on income you earned in Switzerland.
As you can see, however, the rules are complex, and it is easy to get overburdened if you do not hire the correct CPA firm U.S. Expat specialists.
At Protax, our primary goal and objective is to analyze the interplay of the FEIE, HD, HE and FTC to find the optimum strategy to limit the world-wide taxes you pay. While of course at the same time making sure that you are in full U.S. tax compliance.
Protax is the world’s leading U.S. individual international tax firm, specializing in the delivery of world class professional services to U.S. Expats. For more information, fill out our contact form to speak to one of our expert tax consultants.