Taxes for US expats in Italy: How to avoid double taxation?

Posted on March 12th, 2024

With its rich culture, welcoming people, breathtaking sceneries, and fantastic cuisine, Italy is truly a dream destination, isn’t it?

Whether you are considering moving to Italy for work or retirement, it is crucial to think about practical matters beforehand to enjoy the dolce vita later on. Understanding taxes is one of the first and most important practical steps you will need to take.

In this guide, we will break down how the Italian and the US tax systems work together, and how to file and pay your taxes in both countries to sidestep the pitfalls of double taxation.

Taxes in Italy: tax resident vs non-tax resident

If you qualify as an Italian tax resident, you’re subject to taxation on your domestic Italian income and your worldwide income. Non-residents are only taxed on income earned within Italy, such as from employment, business activities, real estate, and other sources within the country.

To be a tax resident in Italy you need to meet one of the following criteria:

· 183-day rule: Reside in Italy for more than 183 days within a calendar year.
· Primary residence: Have your economic and personal activities centered in Italy.
· Official residence: Be registered as a resident in the Italian Civil Registry.

While most residents and non-residents are required to file tax returns in Italy, there are exceptions to this rule. For example, individuals employed by a single employer who withholds income taxes from their paycheck are typically exempt from filing tax returns in Italy.

In case you have a dual residency, you’ll need to consult tax treaties to determine tax residency status and obligations. For example, the US-Italy tax treaty includes tie-breaker rules that prevent double taxation and determine which country holds primary rights over an individual’s income.

To make sure you are compliant with both Italian Agenzia delle Entrate regulations and IRS requirements, seek guidance from reliable experts like Taxes for Expats, a top-rated tax firm for US expatriates abroad.

Taxes for US expats living in Italy

Regardless of your tax compliance status in Italy, as a US expatriate or a resident alien, you must also file your US tax return. You might be exempt from filing if you fall below certain income thresholds or meet other exemption requirements.

US citizens residing overseas receive a default extension for filing taxes until June 15th. To extend it further, you can also file a tax extension form.

Note that an extension to file does not extend the deadline for paying taxes owed.

Italy has several tax treaties with the US designed to prevent double taxation on income and capital gains, including treaties on regular taxes, estate taxes, and a totalization agreement for social security.

However, the Italy-US tax treaty includes a savings clause, allowing the United States to tax its citizens based on its own tax laws, even if it conflicts with the treaty. This prioritization of domestic law means that certain benefits of the treaty may not apply to you as a US expatriate.

To lower the risk of double taxation, take advantage of tax breaks available to US expatriates.

Tax breaks for US expats in Italy

Two primary tax breaks for US expatriates residing abroad are the Foreign Earned Income Exclusion (FEIE) and the Foreign Tax Credit (FTC).

Foreign Earned Income Exclusion (FEIE)

To qualify for the Foreign Earned Income Exclusion (FEIE), individuals working in Italy must meet either the Physical Presence Test or the Bona Fide Residence Test:

· Physical Presence Test: This applies to US citizens who have spent at least 330 days outside of the United States within 12 months.

· Bona Fide Residence Test: Applicable to Americans who are recognized as official residents of another country and can prove this status.

For income earned in 2023, the maximum amount of foreign-earned income that can be excluded from US taxation under the FEIE is $120,000 per qualifying individual. It means that this income won’t be subject to US tax. If income exceeds this exclusion amount, you can use Italian tax credits to offset it. The FEIE does not apply to passive income sources such as pensions, dividends, or interests.

Taxpayers eligible for the FEIE can also deduct qualified housing-related expenses, such as rent and utilities, through the Foreign Housing Exclusion credit.

Note that taking the FEIE tax credit does not mean you are exempt from filing your US taxes. You still have to file your tax return and request an exemption from the IRS.

To claim the Foreign Earned Income Exclusion, you must file Form 2555, Foreign Earned Income, along with your individual income tax return (Form 1040).

Foreign Tax Credit (FTC)

The Foreign Tax Credit can help you lower your US tax bill if you’ve already paid taxes in Italy.

This credit allows expats to offset US tax liabilities, provided that the taxes are legitimate, income-based, and attributed to the individual.

The FTC has certain limitations. For example, it cannot exceed the amount of US tax attributable to foreign-sourced income. Additionally, taxpayers cannot claim a credit for taxes paid to a foreign country if they also claim a deduction for the same taxes.

To apply for the Foreign Tax Credit, you’ll need to use Form 1116, which is attached to your US individual income tax return.

Retirement accounts and social security

Whether you are an American retiree or are considering Italy as your new work residence, it’s important to understand the tax implications of your retirement income.

Italy is one of 30 countries that the US has a Totalization Agreement with, meaning that managing retirement accounts and social security is much easier for US expats living in Italy.

Which country you pay social security taxes to depends on how long you will be living in Italy. If you plan to reside in Italy for up to five years, you typically continue paying your US social security taxes. If you reside in Italy for more than five years, you generally start paying Italian social security taxes.

The Totalization Agreement allows contributions made in either country to be counted towards your eligibility for social security benefits in both countries.

For example, if you lived in Italy for six years and paid Italian social security taxes during that time, those contributions would count towards your eligibility for US social security benefits when you retire. Similarly, if you had contributed to the US social security system during your working years in the US, those contributions could count towards your eligibility for Italian social security benefits if you later resided and worked in Italy.

Disclaimer: This article is for informational purposes only and does not constitute legal or tax advice. Always consult with a tax professional regarding your specific case.