Employers typically retain the services of an international accounting firm to prepare and file your home and host tax returns during your assignment. If your employer does not provide such a service, it is recommended that you engage the services of a reputable tax professional or tax services firm.
Under both tax equalization and tax protection policies (as discussed above), an annual reconciliation would be prepared after your returns are completed. The reconciliation would be prepared by either an outside accountant engaged by your employer to prepare your tax returns and the reconciliations, or internally by your employer. Your final hypothetical tax liability determined through this process is then compared to any actual tax payments you made during the year, or with the return plus any hypothetical withholding tax retained from your compensation. This process determines if you are entitled to retain any refunds from the government, or receive a refund from your employer — or whether you must make a payment with your return, or to your employer.
US tax laws provide that you may exclude up to a specified amount of foreign earned income and an additional amount equal to qualified foreign housing costs in excess of an Internal Revenue Service (IRS)-determined base housing amount, if you satisfy either of the two Internal Revenue Service IRS tests for having a tax home in the foreign country (the Bona Fide Resident or Physical Presence test). In addition, your US tax generated by foreign income can be offset by foreign tax credits subject to certain limitations.
Your hypothetical tax is determined as if you had remained in the United States. You would not have qualified for the exclusions nor the foreign tax credits if you had not moved abroad. As a result, neither the exclusions nor the foreign tax credits are taken into account in calculating your hypothetical tax.
There is not a simple answer to this question. It depends on numerous factors, including:
Many states tax individuals on the basis that they are domiciled or working in that state. In those cases, states commonly assert that an individual has not changed his or her domicile by accepting a temporary assignment overseas, and should continue to pay local taxes. Fortunately, some of these states have passed statutory exceptions stipulating that individuals will not be taxed as residents even if they continue to be domiciled in that state while on international assignment for a sufficiently long period of time. Because the tests for each state are different, it is advisable that you consult your tax adviser prior to departure to determine your state tax status.
Even if you are required to file a state tax return while you are abroad, you might not bear the tax costs. If your employer’s tax reimbursement policy imposes a hypothetical state tax, then the company will be responsible for the actual state taxes generated by income covered by the policy. Due to the complexities in this area, it is advisable to review your state tax position with a tax consultant.
Employers often provide tax return and tax equalization assistance in one form or another as long as you continue to receive any payments, or the company makes payments on your behalf, related to the international assignment. Typical payments made after your repatriation include relocation costs, bonuses, and foreign taxes.
For US-outbound taxpayers, you may be eligible for or even required to use the company’s independent accountants for up to 10 years after repatriation in some cases. This assistance would occur only if your employer’s policy provides for the tracking of foreign tax credits and recapture of any tax benefit until the credits expire after 10 years.