While people move to and from the U.S. for various personal reasons, a major reason for relocation is employment. Therefore, it is important to understand employment taxes when relocating to or from the U.S, specifically U.S. Social Security, also known as FICA (Federal Insurance Contributions Act).
FICA is a payroll tax contribution, levied on both employees and employers, to fund social security and Medicare. These federal programs provide benefits for retirees, people with disabilities, and children of deceased workers. FICA also provides funds to the health care system for institutions that serve workers that do not have health insurance and cannot afford healthcare treatments.
So what happens to one’s benefits if they decide to move from the U.S. to another country? How do people who move to the U.S. temporarily for work benefit by contributing to the U.S. FICA? FICA is often an afterthought for mobile employees crossing international borders for work; but, careful consideration should be given to such planning as it affects the overall cost of relocation and future benefits.
The U.S. has entered into bilateral Social Security agreements with a host of locations. These international Social Security agreements, often called "Totalization agreements," have two main purposes. First, they eliminate dual Social Security taxation, a situation that occurs when a worker from one country works in another country and is required to pay Social Security taxes to both countries on the same earnings. Second, the agreements help fill gaps in benefit protection for workers who have divided their careers between the United States and another country. The U.S currently has a Social Security totalization agreement with 28 countries. A complete list of locations can be found on the U.S. social security website.
Without some means of coordinating Social Security coverage, people who work outside their country of origin may find themselves covered under the systems of two countries simultaneously for the same work. When this happens, both countries generally require the employer and employee or self-employed person to pay Social Security taxes.
U.S. Social Security also extends to American citizens and U.S. resident aliens employed abroad by American employers, without regard to the duration of an employee's foreign assignment, even if the employee has been hired abroad. This extraterritorial U.S. coverage frequently results in dual tax liability for the employer and employee since most countries, as a rule, impose Social Security contributions on anyone working in their territory.
A general misconception about U.S. totalization agreements is that they allow dually covered workers or their employers to elect the system to which they wish to contribute. This is not true; they simply exempt workers from coverage under the system of one country or the other when their work would otherwise be covered under both systems.
The provisions for eliminating dual coverage with respect to employed persons that establish a basic rule that looks to the location of a worker's employment. Under this basic "territoriality" rule, an employee who would otherwise be covered by both the U.S. and a foreign system remains subject exclusively to the coverage laws of the country in which he or she is working. Most agreements include an exception to the territoriality rule designed to minimize disruptions in the coverage careers of workers whose employers send them abroad on temporary assignment.
Under this "detached-worker" exception, a person who is temporarily transferred to work for the same employer in another country remains covered only by the country from which he or she has been sent. A U.S. citizen or resident, for example, who is temporarily transferred by an American employer to work in an agreement country continues to be covered under the U.S. system and is exempt from coverage under the social tax system of the ‘host’ country. The worker and employer pay contributions only to the U.S. program. The detached-worker rule in U.S. agreements generally applies to employees whose assignments in the host country are expected to last 5 years or less.
Workers who are exempt from U.S. or foreign Social Security taxes under an agreement must document their exemption by obtaining a ‘certificate of coverage’ from the country that will continue to cover them. For example, a U.S. worker sent on temporary assignment to the United Kingdom (UK) would need a certificate of coverage issued by the Social Security Administration to prove his or her exemption from the UK. Social Security contributions. Conversely, a UK based employee working temporarily in the United States would need a certificate from the UK authorities as evidence of the exemption from U.S. Social Security tax. Employers generally are required to request certificates on behalf of employees they have transferred abroad; self-employed persons request their own certificate.
As an example, if a U.S company sends an employee to work in the UK for 3 years, the employee can apply for a U.S. Social Security Certificate of Coverage to exempt them from paying into the UK Social Tax system and remain in the U.S. system instead. The same is true for an employee of the UK company entering the U.S. for 3 years. The key here is to remember that in order to qualify for this exemption, the employer needs to remain in your “home” country.
On the contrary, the exemption would not apply if the new employer is located in the “host” country. For instance, if one works for a U.S multinational company and decides to accept a position in the UK. for the same multinational but hired by its UK entity, the individual is subject to UK Social Security and cannot take advantage of the exemption under the social security totalization agreement between the U.S and UK. For U.S. coverage to continue when a transferred employee works for a foreign affiliate, the American employer must have entered into a section 3121(l) agreement with the U.S. Treasury Department with respect to the foreign affiliate. The discussion on 3121(l) is complex and beyond the scope of this topic, however, if an employer elects to make the 3121(l) election, it is binding on ALL its employees. Therefore, care must be taken before making this election.
U.S. Social Security coverage also extends to self-employed U.S. citizens and residents whether their work is performed in the United States or another country. As a result, when they work outside the United States, citizens and residents are almost always dually covered since the host country will normally cover them also. Most U.S. agreements eliminate dual coverage of self-employment by assigning coverage to the worker's country of residence. For example, under the U.S.-French agreement, a dually covered self-employed U.S. citizen living in France is covered only by the French system and is excluded from U.S. coverage. Conversely, self-employed individuals who are subject to U.S. FICA on their worldwide income, temporarily working in a location with which the U.S. has a totalization agreement in place, can apply for a Certificate of Coverage to exempt their income from French social taxes.
In addition to providing better Social Security coverage for active workers, international Social Security agreements help assure continuity of benefit protection for persons who have acquired Social Security credits under the systems of the U.S. and another country. Workers who have divided their careers between the United States and a foreign country sometimes fail to qualify for retirement or survivor or disability insurance benefits (pensions) from one or both countries because they have not worked long enough or recently enough to meet minimum eligibility requirements. Under an agreement, such workers may qualify for partial U.S. or foreign benefits based on combined, or "totalized," coverage credits from both countries.
To qualify for benefits under the U.S. Social Security program, a worker must have earned enough work credits, called quarters of coverage, to meet specified "insured status requirements." There is some confusion around the number of quarters of coverage for U.S. purposes. Most people might be aware that one needs 40 quarters of coverage credits in order to qualify for a U.S. retirement benefit, while in reality, one doesn’t have to work in all four quarters of the calendar year to get four quarters of credit in that year. In 2018, you get a credit for each $1,320 of earnings in that year. Therefore, if an individual has $5,280 of earnings in January, they may already get four quarters of coverage just in that first month of the year. Therefore, in a nutshell, once an individual has 10 years of earnings, they’ll qualify for a retirement benefit under the U.S Social Security system. Note, however, that it takes more than 10 years to get a full benefit under the U.S. rules; it currently takes 35 years of earnings to reach a maximum benefit. A retirement benefit is based on one’s average monthly earnings, inflation-adjusted, over 35 years of earnings history. If an individual has more than 35 years of earnings, the calculation starts eliminating some of the lower earnings years. However, if one has less than 35 years of earnings history, the benefits will be reduced by virtue of the 35-year average calculation.
The question then becomes this: if a person leaves the U.S. and stops paying U.S. FICA, how big of an impact would that have on their benefit?
If someone already has 35 years of earnings history in the U.S, the impact of them not paying into U.S. FICA for a couple of years is minimal. However, if the individual does not have 35 years of earnings history and leaves the U.S. and stops contributing to FICA, their eventual benefit at retirement would be reduced.
A foreign national (for U.S. purposes) that has worked in the U.S. and pays FICA for 10 years, and then retires outside the U.S., would be entitled to a benefit from the Social Security Administration if they have their 10 years of earnings credits. This is true even if they are residing in their home country at retirement. The benefit, however, is only based on the amount of earnings actually reflected in the U.S. Social security record. Therefore, 10 years of earnings would merit a benefit. It is possible in most countries to retire and receive a U.S. benefit, even while living abroad.
A separate provision, under the totalization agreements, states that if a worker receives benefits from two countries at once, it may reduce the U.S. benefit. Therefore, if that same person has 10 years of earnings credits in the U.S., but they also receive a retirement benefit from their home country as well, that reduce their U.S. benefit.
But, are the rules different when there is a totalization agreement in place?
Yes, an individual might not need 10 years or 40 quarters of coverage to be eligible for a benefit in this scenario. When a person is working temporarily in the U.S and their home country is a country that the U.S. has a totalization agreement with, then as long as their credit in the U.S. and the other country together is at least 10 years, then they should qualify for a U.S. benefit, given that they have just six quarters of coverage credit in the U.S. Therefore a very minimal presence in the U.S. can result in a U.S. benefit. Of course, the amount of the U.S. benefit will still be based on the amount that they actually contribute to the U.S. system.
Under a Totalization agreement, if a worker has some U.S. coverage but not enough to qualify for benefits, SSA will count periods of coverage that the worker has earned under the Social Security program of an agreement country. In the same way, a country party to an agreement with the United States will take into account a worker's coverage under the U.S. program if it is needed to qualify for that country's Social Security benefits. If the combined credits in the two countries enable the worker to meet the eligibility requirements, a partial benefit can then be paid, which is based on the proportion of the worker's total career completed in the paying country.
The agreements allow SSA to totalize U.S. and foreign coverage credits only if the worker has at least six quarters of U.S. coverage. Similarly, a person may need a minimum amount of coverage under the foreign system in order to have U.S. coverage counted toward meeting the foreign benefit eligibility requirements.
The rules on eligibility for benefits, where their obligation to social security contribution lies, when someone is covered by an agreement and when no coverage is available are all matters where planning in advance is crucial. International Social Security agreements are advantageous both for persons who are working now and for those whose working careers are over. If you believe you are entitled to U.S. benefits now or will be in the future, please contact your Prager Metis advisor.
The information provided above is general in nature and a review of each agreement may be necessary to determine its applicability and benefits.