Steven J. Rosenthal, CPA, CFP, JD
The Tax Implications of Investing in Foreign Securities
U.S. investors may increase the diversity of their portfolios by investing in foreign securities but should be aware that these investments will make filing their income taxes more complicated. The U.S. imposes worldwide taxation on its U.S. citizens and residents, meaning that income from all sources everywhere must be reported on Form 1040 tax returns. As a consequence, U.S. investors may be subject to taxes in both the U.S. and a foreign country on the same income, raising the possibility of double taxation
The U.S. provides a Foreign Tax Credit to minimize the effect of double taxation, but it is not always a 1:1 offset. See Understanding Taxation of Foreign Investments. The Foreign Tax Credit for individuals is calculated on Form 1116. Most foreign investments will generate income classified in the “passive” category. Tax professionals can help investors compute the credit correctly. The important takeaway for investors is not to forget to claim this tax credit due to oversight.
If a U.S. investor purchases foreign securities through a U.S. broker, the tax reporting information necessary to claim the Foreign Tax Credit is provided by the brokers on familiar U.S. tax forms. However, if a U.S. investor holds foreign securities through a foreign bank or brokerage firm, the responsibility is on the investor to get the proper reporting information. This option might make sense for some high-net-worth investors.
The U.S. requires disclosure of foreign financial accounts on tax returns and supplemental reports filed with the U.S. Treasury. There are specific questions for U.S. taxpayers concerning the ownership of foreign accounts on Form 1040, Schedule B, Part III.
U.S investors that own foreign financial accounts that exceed $10,000 at any time during the calendar must file an FBAR report (FinCEN Form 114a) directly with the U.S. Treasury. For details, see Report of Foreign Bank and Financial Accounts (FBAR). Single and married individuals are required to file Form 8938 with their tax return if the market value of their foreign financial assets is greater than $50,000 or $100.000 respectively on the last day of the year.
Congress and the U.S. Treasury have been concerned that U.S. taxpayers may be hiding assets offshore without proper disclosure, so this area has garnered more scrutiny in recent years. In addition to requiring U.S. taxpayers to disclose their foreign holdings, most foreign financial institutions have been reporting specified U.S. account holders’ investments to the U.S. Treasury under the Foreign Income Tax Compliance Act (FATCA).
Despite these complications, investors should not avoid investing in foreign securities as part of an overall financial plan. Fulcrum Wealth Advisors can provide guidance for adding foreign investments into a portfolio with tax efficiency in mind.
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A diversified portfolio does not assure a profit or protect against loss in a declining market.
Additional risks are associated with international investing, such as currency fluctuations, political and economic stability, and differences in accounting standards.
For a comprehensive review of your personal situation, always consult with a tax or legal advisor. Neither Cetera Advisor Networks LLC nor any of its representatives may give legal or tax advice.