Citizenship-Based Taxation for U.S. Citizens Abroad: What Every American Living Overseas Needs to Know

Most countries tax based on residency,  if you live there, you pay taxes there. The United States is one of only two countries in the world that taxes based on citizenship. That means American citizens and green card holders are required to file U.S. tax returns every year, even if they live abroad permanently and pay tax in another country.

For the estimated millions of Americans overseas, this system creates unique challenges, including double reporting, complex international tax filings, and penalties for failure to comply. Understanding how citizenship-based taxation works is essential for staying compliant and avoiding expensive surprises.

What Is Citizenship-Based Taxation?

Citizenship-based taxation (often referred to as CBT) means that the U.S. government taxes you based on your citizenship, not where you live.

Under this system:

• U.S. citizens abroad must file a U.S. federal tax return annually
• Worldwide income must be reported (employment, investments, rental income, crypto gains, etc.)
• Certain foreign accounts and assets must be disclosed

Whether you live in New York, Dubai, Melbourne, or London, the U.S. tax system follows you.

Who Must File U.S. Taxes While Living Abroad?

Filing is required if income exceeds minimum IRS thresholds, even if:

• You live overseas full-time
• You pay foreign taxes
• You already filed a foreign return
• You owe zero tax to the U.S.

Examples of U.S. citizens who must file:

• Employees working for foreign companies
• Digital nomads and contractors
• Americans who married foreign spouses
• Business owners and freelancers abroad
• Retirees receiving income overseas

Green card holders living outside the U.S. also remain subject to U.S. tax rules unless they formally surrender their status.

What Income Must Be Reported?

Citizenship-based taxation requires reporting worldwide income, including:

• Salary or wages overseas
• Self-employment income
• dividends and interest
• Rental property income abroad
• Cryptocurrency gains
• Foreign pension payments
• Foreign business profits
• Capital gains from selling stocks or property

All income must be converted to U.S. dollars using acceptable exchange rates.

Does Citizenship-Based Taxation Mean Paying Tax Twice?

Not necessarily, but it does mean filing twice.

The U.S. has systems designed to reduce or eliminate double taxation:

Foreign Earned Income Exclusion (FEIE)

Allows qualifying expats to exclude a portion of earned income from U.S. tax. Qualification depends on:

• The Physical Presence Test, or
• The Bona Fide Residence Test

Foreign Tax Credit (FTC)

Allows U.S. taxpayers to apply foreign taxes paid as a credit against U.S. tax owed, especially useful in countries with high tax rates.

Most Americans abroad avoid U.S. tax using credits and exclusions, but only if they file.

Additional Reporting Obligations for Expats

Citizenship-based taxation includes more than filing a tax return. Many expats also must file international reporting forms.

FBAR (FinCEN Form 114)

Required if total foreign bank and financial account balances exceed $10,000 at any time during the year.

FATCA (Form 8938)

Applies when foreign financial assets exceed certain thresholds.

Other Possible Forms

• Form 3520 / 3520-A for foreign trusts or pensions
• Form 5471 for foreign corporations
• Form 8621 for passive foreign investment companies (PFICs), often triggered by foreign investment funds

Penalties for non-filing can be severe, even if no tax is owed.

Why Many Americans Abroad Aren’t Aware of These Rules

Many expats discover their U.S. filing obligation only after:

• Receiving a notice from the IRS
• Returning to the U.S. and applying for a mortgage
• Attempting to renew a passport with outstanding tax issues

Reasons for the lack of awareness include:

• Incorrect assumptions about “moving away means no U.S. tax”
• Lack of IRS outreach to citizens living abroad
• Limited media attention on international filing rules
• Confusion because other countries use residency-based tax systems

What If You Haven’t Filed for Years?

If you unintentionally failed to file U.S. taxes while living abroad, there is a solution.

The IRS Streamlined Filing Compliance Procedures allow eligible expats to:

• Catch up on past returns
• File missing FBAR reports
• Reduce or avoid penalties

This option is time-sensitive and best used before the IRS contacts you.

Why Citizenship-Based Taxation Matters

For U.S. citizens living abroad, CBT affects:

• Career decisions
• Investment choices
• Retirement planning
• Business ownership overseas
• Banking and account access

In some cases, the tax burden and reporting demands even influence whether citizens choose to maintain U.S. citizenship.

Conclusion

Citizenship-based taxation is one of the defining features of the U.S. tax system — and it impacts every American living overseas. Filing remains mandatory, even when no tax is due, and failure to meet reporting requirements can lead to costly penalties.

For Americans planning to move abroad, currently overseas, or returning after many years, understanding the rules behind citizenship-based taxation is the first step to staying compliant and protecting financial peace of mind.