Hi,
I wanted to get some feedback on my approach for legally minimizing taxes.
1. Realize capital gains before we're Spain tax residents
2. US house rent income
3. Auto-reinvest = no Spain tax ?
4. Foreign Tax Credit
My wife and I are US citizens living in Spain for 12 months starting in August 2024, after which we'll return the the US. Based on this, it seems we're US tax residents for 2024 and will be Spain tax residents for 2025 because of the country we're in for the majority of each year. We're earning "beca" (scholarship/grant) which isn't taxed by Spain but seems to be taxed anyway by the US. We also own a house in the US which we receive rent payments from. We have some investments in a brokerage account which we use to cover any additional expenses that our small beca and rent don't cover.
1. My strategy idea is to sell a year's worth of expenses from my brokerage in December 2024 (while US tax residents, thus having 0% long term capital gains tax given our tax bracket), keep those funds in a HYSA, and use those funds throughout 2025 to pay for our 2025 expenses. Doing so is better than selling from the brokerage as needed while in 2025 in order to minimize our 2025 income (while Spain tax residents, thus avoiding 20+% tax rate from Spain's government).
2. We'll be receiving the US house rent income also in 2025 (until we return) which will be taxed at Spain's higher tax rate, so I don't know if there's anything we can do to minimize that tax. I guess deducting business expenses like management fees, landlord insurance, property taxes, depreciation, etc from the rent income will help reduce the taxes.
3. The brokerage has shares of index mutual funds which give dividends once or multiple times a year (e.g. FXAIX). I did some research and saw Spain doesn't tax reinvested dividends, but I'm not 100% sure because the dividends still show up as a credit to my account then are automatically used to purchase shares of that same mutual fund (as opposed to say an ETF which may internally handle the dividend reinvestment and doesn't show in your transaction history). If so, that would eliminate some unneeded taxes since we may not touch those dividends anyway given their timing. Can anyone confirm?
4. Lastly, we'll use whatever 2025 Spain taxes we pay to get the Foreign Tax Credit so we're not taxed twice on the same income. Does that work in general for all income, or would we still have to pay US income on the beca because Spain didn't tax that (but the US still will)?
Thanks for reading.
Tax residency
Re: Tax residency
I'm not qualified to answer your questions, but note that the U.S. doesn't really consider you a tax resident or not, they tax citizen's worldwide income. You can avoid some tax via the Foreign Earned Income Exclusion in some cases (I don't know if your scholarship would count or not) up to a certain amount, or you can claim the Foreign Tax Credit on income tax paid to another country but only sometimes.
The Foreign Tax Credit happens on Form 1116. It's a complicated form and I haven't filled it out in a real situation, but as I understand it (which could be wrong), it only lets you take a credit for foreign taxes paid on foreign sourced income. Rent on property located in the U.S. is considered U.S. sourced income as are dividends paid by U.S. based companies. Tax paid a foreign county on things like income earned/paid while living in a foreign country, capital gains realized (I think) while living in a foreign country, and dividends from foreign company would be able to count for the foreign tax credit, as I understand it.
Furthermore, the tax credit can only be counted against income in the same category based on the checkboxes at the top of Form 1116. So for example, foreign tax on Passive Category Income (rental income, dividends, and capital gains) couldn't count against U.S. tax on General Category Income (like earned income).
Hopefully Spain also has some form of foreign tax credit so you don't get taxed fully by both countries on your U.S. sourced income.
I hope my reply gets someone more qualified to see this thread so they can give you a more complete and definitive answer, but based on my limited understanding I think it's likely you'll end up paying quite a bit of tax on most of your income, and only avoid double taxation if it happens on the Spanish tax forms. I don't think the U.S. Foreign Tax Credit is going to help you much.
The Foreign Tax Credit happens on Form 1116. It's a complicated form and I haven't filled it out in a real situation, but as I understand it (which could be wrong), it only lets you take a credit for foreign taxes paid on foreign sourced income. Rent on property located in the U.S. is considered U.S. sourced income as are dividends paid by U.S. based companies. Tax paid a foreign county on things like income earned/paid while living in a foreign country, capital gains realized (I think) while living in a foreign country, and dividends from foreign company would be able to count for the foreign tax credit, as I understand it.
Furthermore, the tax credit can only be counted against income in the same category based on the checkboxes at the top of Form 1116. So for example, foreign tax on Passive Category Income (rental income, dividends, and capital gains) couldn't count against U.S. tax on General Category Income (like earned income).
Hopefully Spain also has some form of foreign tax credit so you don't get taxed fully by both countries on your U.S. sourced income.
I hope my reply gets someone more qualified to see this thread so they can give you a more complete and definitive answer, but based on my limited understanding I think it's likely you'll end up paying quite a bit of tax on most of your income, and only avoid double taxation if it happens on the Spanish tax forms. I don't think the U.S. Foreign Tax Credit is going to help you much.
Re: Tax residency
@terran, Thanks for the reply. I'm still going through it.
I did find info for my #3 idea on the Spain Bogleheads wiki. Unfortunately, it looks like my tax saving idea #3 won't work after all because none of my holdings are "accumulation funds".
I did find info for my #3 idea on the Spain Bogleheads wiki. Unfortunately, it looks like my tax saving idea #3 won't work after all because none of my holdings are "accumulation funds".
Translated:https://bogleheads.es/wiki/dividendos-y-fondos-de-acumulacion wrote:Los fondos de distribución reparten los dividendos a los inversores, por lo que estos deberán pagar impuestos por cobrarlos (entre un 19% y 23%), aunque luego los usen para comprar más acciones. Por el contrario, los fondos de acumulación reinvierten los dividendos en la compra de más acciones, por lo que se pospone el pago de impuestos a cuando realmente se vaya a retirar el dinero. Debido a la fiscalidad en España, se recomienda utilizar fondos de acumulación tanto en la fase de aportaciones a la cartera como en la fase de retirar el dinero de la inversión.
Distribution funds distribute dividends to investors, so they will have to pay taxes to collect them (between 19% and 23%), even if they then use them to buy more shares. On the contrary, the accumulation funds reinvest dividends in the purchase of more shares, so the payment of taxes is postponed to when the money will actually be withdrawn. Due to taxation in Spain, it is recommended to use cumulation funds both at the portfolio contribution stage and in the phase of withdrawing the money from the investment.