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If you thought that having employees based overseas might save you a few bucks come tax time, think again. As a general rule, U.S. social security and Medicare taxes still apply to any wages earned as an employee outside of the United States.
There are, however, some exceptions to that general rule, and the IRS has recently issued an update to its FICA rules for employees of American companies working abroad. Here's what you need to know.
FICA taxes (under the Federal Insurance Contributions Act) are a combination of the Social Security and Medicare taxes. As such, they still apply to U.S. citizens and resident aliens who work abroad for an American employer or a foreign affiliate of an American employer if the American employer has agreed to pay FICA taxes on all U.S. citizens and resident aliens employed by its foreign affiliate.
This tax also applies to self-employed U.S. citizens living overseas if they are making over $400 per year. So whether you're your own boss abroad or the boss of thousands living and working in another country, you're still on the hook for FICA taxes.
Last week, the IRS issued new guidance on the employee share of employment taxes for U.S. citizens and resident aliens working abroad. Specifically, the new rules cite an exception to the FICA requirement where the IRS has entered into a Social Security Totalization Agreement with the country where the work is being performed.
A totalization agreement is like a FICA tax treaty where two countries are trying to prevent payment of social security taxes to two jurisdictions on the same wages or self-employment income. As the IRS guidance notes: "If the U.S. has entered into a Totalization Agreement with the foreign country in which the wages were earned, the terms of that agreement will govern whether Social Security taxes must be paid in the United States."
If you're wondering whether the U.S. has a totalization agreement with the country in which your employees are based, you may want to contact an experienced business tax attorney.