A side hustle can be a beautiful thing. After all, who doesn't love a little extra income? Whether you just want some extra play money, are looking for ways to pay down debt, or you're considering investing for the future (our personal favorite here at Polaris), starting a side business can be a great financial choice. But for expats, a side hustle can have huge benefits beyond just the income earned by the business itself. It can save you a bucketload on your taxes, and it also gives you some powerful retirement savings options you may not have otherwise had.
Expat Side Hustles and Your Taxes
Ah, taxes. One of the most interesting things about the US government is its stance on taxing its citizens. In case you weren't aware, the US adheres to citizenship-based taxation, which means the US taxes its citizens anywhere they live in the world, no matter where they earn their money - a stance that makes them fairly unique on the global scene. Most other countries subscribe to location-based taxation, which means that they only tax income that in some way originates in their country. For as many perks as there are to having US citizenship, this is one of the drawbacks, and it can create headaches for expats, who often have to navigate dual taxation and complex IRS regulations on foreign-earned income.
Enter the Expat Side Hustle. Often, this can be a real game changer in terms of tax-advantaged income streams. One major reason why is the enormous potential for tax deductions related to the business itself.
Tax Deductible Expenses
Any expense that can be reasonably tied to the business is deductible. This fact opens the door for loads of tax savings. Here are some ideas of things that could be fully or partially deductible, so long as they're reasonable and necessary for your side business:
Cell Phone Bill
Internet Service
Vehicle mileage
Meals when conducting business
Laptop (and other technology)
Health Insurance Premiums
Office Supplies
The potential for savings here is huge, and there could be other items related to your business that could be deductible as well. Just be careful to keep records and play by the rules. For example, if you're going to deduct vehicle mileage (which can be one of the largest deductions), you've got to keep a log of the date, location and business purpose for your trips. A trip to your regular office isn't deductible, but anywhere off-site to fulfill a business purpose generally is.
Travel
Speaking of deductions, we thought this one was important enough to warrant its own discussion. Particularly for expats, travel can be a major expense. Whether you're flying back to your home country for the holidays or taking a vacation to a neighboring hotspot, expats have a natural propensity to travel frequently and far. The good news is that if your purpose for travelling is in some way related to your side business, a sizeable portion of your travel expenses are likely deductible.
Here's an example: Let's say a US citizen, we'll call him Steve, lives in Panama and has a side business blogging about travel. Steve would like to take a vacation to the Grand Canyon so that he can write a blog post about it, and he also thinks it would be a fun experience for him and his family. So, Steve flies to the Grand Canyon for a week stay with his wife and kids and later writes a blog post about his experience. In this example, Steve could likely deduct his own airfare (but not that of his wife and kids), the cost of the hotel stay, any transportation costs while at the Grand Canyon, and half of any meals.
Due to the frequency and costs of travel for most expats, the tax savings here can be quite sizeable. In general, an expat travelling for a business purpose can deduct their travel to and from the site, hotel stays, and half of their meals while travelling. Entertainment while on a business trip usually isn't deductible.
Professional Development
Who wouldn't like to get a tax break for furthering their career? If you have a side business, you likely can! This can include memberships in business-related clubs or professional organizations as well as more formalized continuing education tracks. In general, tuition, books, supplies, transportation to and from classes, and other related expenses are deductible.
The caveat here is that the continuing education expenses have to "maintain or improve the skills needed in your present work." Translation: they can't be expenses to meet the minimum educational requirements for a job or as an attempt to change careers. They have to relate to the job you're already doing. But the expenses can qualify even if they lead to a degree!
Taking a Loss Can Be a Good Thing
One of the best parts about running a side hustle is that if your side hustle doesn't take off right away, it can still help your cashflow. If you're able to claim a good number of deductions, it's possible that your business doesn't turn a profit - at least as far as the IRS is concerned. That's no problem! You can deduct your loss against other income, such as your main job - still a win. There is a limitation on that, however. The IRS stipulates that if you don't turn a profit in 3 out of 5 years, the "hobby loss rule" comes into effect, and you can no longer deduct your losses against other income.
Retirement Options for Expat Small Businesses
The tax savings related to owning a side business can certainly be compelling, but it's not the only reason to start one. One often-overlooked benefit of having a side business is that it can open up retirement options you wouldn't have otherwise had. Read more about retirement savings for expats.
Most Americans have access to two basic types of retirement accounts - The Traditional IRA and the Roth IRA. I'll save the nitty gritty for another post (and there can be some important details for certain US citizens), but the main requirement for contributing to either is simply that you have earned income. This is sometimes a complication for those who use the Foreign Earned Income Exclusion - if you exclude all of your income, there's no earned income left to meet the requirements for an IRA contribution. But assuming you don't exclude ALL of your income, you can contribute up to $7,000 to either a Traditional or Roth IRA ($8,000 for those over age 50).
But what if you'd like to save more than $7,000 for retirement? If your regular employer doesn't offer a 401(k), or there's a compelling reason you choose not to participate in it (such as no employee match or outlandishly high fees), you might be out of luck stashing more for your retirement. But if you own a small business, you've got options! There are innumerable types of business retirement plans, but here are the main three typically used by small business owners:
Individual 401(k) (also called a Solo 401(k))
SEP-IRA
Simple IRA
The Individual 401(k)
An Individual 401(k) Plan operates very similarly to a regular 401(k) plan, but they are set up specifically to have only a single participant. There are both Employee and Employer contributions. In 2024, you can contribute up to $23,000 of your pay as an employee ($30,500 if you're over 50), and then up to either 20% or 25% of your net business income or W-2 wages as an employer, depending on how the business is set up. All told, you can contribute up to $76,500 in 2024.
The downside to an Individual 401(k) is that it can be a little more complicated to set up compared to other options. But its higher contribution limits can make it an attractive option for those who are willing to take on the paperwork.
The SEP-IRA
The SEP-IRA is often one of the easiest and most hassle-free small business retirement plans to set up and run. You can contribute up to 25% of your small business income to the plan, up to a limit of $69,000 in 2024. While it's easy to use and has a high overall contribution limit, if you'd like to save more than 25% of your side hustle income, you might feel a little limited in what you can contribute.
The SIMPLE IRA
Simple to use and typically low-cost to set up, a SIMPLE IRA can be a great way to stash some extra money for retirement. In a SIMPLE IRA, there are both employer and employee contributions. The employee contribution limit of $16,000 per year for 2024 ($19,500 those over 50) is better than a traditional IRA but lower than a SEP-IRA or Individual 401(k). The employer contributions can be either a 3% match on employee contributions or a 2% nonelective contribution.
If you think your side hustle might grow to include employees, the SIMPLE IRA could be a fit for you. The reason is that including employees in a SEP-IRA or Individual 401(k) can get complicated and expensive. While there are mandatory employer contributions in a SIMPLE IRA, the process is simple, straightforward, and generally less expensive to small business owners.
If you're just beginning to invest for your future, check out our article on getting started investing as an expat.
What to Watch Out For
For many expats, starting a side hustle is a no-brainer. The extra income, tax savings, and bonus retirement options are just too good to pass up. But as you think about starting your own side business, here are a few things you'll have to watch out for.
Estimated Taxes - After your first year running your own business, you'll owe quarterly estimated taxes on your business income.
Social Security Taxes - You'll owe both the employer and employee portions of Social Security tax if you're running your own business.
Creating an LLC - You may want to set up a legal entity for your business - typically a straightforward process, but perhaps cumbersome to some.
Complicated Tax Return - If your business becomes very complex, or if you're just not the type who feels confident doing your own taxes, you may need to hire an accountant to help you with your taxes.
If you'd like to speak with an advisor about your financial situation, don't hesitate to reach out to us! Click the link below to schedule a no-cost consultation.