In order to qualify for the FEIE, Americans living in Hong Kong must prove that they have settled into their new foreign residence for a certain period of time through a physical presence test or a bona fide residence test. Passing either can qualify you for expat tax benefits, but measure eligibility differently. This article will go over what each test does and which situations call for which test.
What is the Bona Fide Residence Test?
The IRS uses the Bona Fide Residence Test to evaluate whether you have established roots in your new home in Hong Kong long enough to be considered a non-resident. By looking at factors like your resident status, employment status and property you own or rent, you may be able to claim the FEIE and get reimbursed for state and federal taxes you would have to pay otherwise.
To qualify as a bona fide resident and claim the FEIE, you must meet five specific requirements:
- You must have established roots in Hong Kong: This means that you should be working for a Hong Kong company or own a Hong Kong business and pay Hong Kong taxes, or that you must be owning or renting a residence in the city. Concurrently, it means that you cannot own or rent property in the U.S., or be working directly for a U.S. company. This also insinuates that owning a business in the U.S. will disqualify you.
- You must stay at your foreign residence for a full tax year: The tax year is defined in the U.S. as the period from the 1st of January to the 31st of December. While brief trips back to the U.S. are permitted as long as you maintain your Hong Kong residence, staying too long may disqualify you from passing the bona fide residence test.
- You must intend to stay in Hong Kong indefinitely: This means that you have no plan to return to the U.S. after for example, the expiry of temporary work visas or student visas.
- You must actively be earning income from outside the U.S.: Only income sources such as salary, wages, or self-employment income from work performed at a Hong Kong company will qualify, while unearned income such as dividends, interest, or pensions does not qualify.
What is the Physical Presence Test?
The Physical Presence Test is a straightforward day-counting method that requires you to spend at least 330 full days outside of the U.S. during any 12-month period. Unlike the Bona Fide Residence Test, which focuses on your intentions and the permanence of your living situation, the Physical Presence Test strictly measures your time spent abroad, so you do not need to prove that you have established a residence or prove your intention not to return to the U.S.. This flexibility is the more suitable option for digital nomads, frequent travelers across Asia, or those on temporary assignments who might not meet the stringent requirements of establishing a bona fide residence in Hong Kong.
To pass the Physical Presence Test, you must meet the following core requirements:
- A tax home outside the U.S.: Your primary place of business or employment must be located in Hong Kong or another foreign country during the qualifying period.
- 330 full days spent in foreign countries within any 12-month period: You must spend 330 full days entirely outside the U.S., where any time spent in the U.S. for a day will exclude that day from qualifying. The 12-month period meanwhile does not need to match the American tax year and can be any consecutive 12 months.
- Foreign earned income: You must have earned income from work performed abroad, such as salaries, wages, bonuses, or self-employment income. Passive income does not qualify.
When Should You Use the Bona Fide Residence Test vs the Physical Presence Test?
Choosing between the two tests depends entirely on your long-term plans in Hong Kong and beyond. If for example, you have signed a long-term lease or purchased a flat in Hong Kong, or have children that attend school in the city, the Bona Fide Residence Test is likely your best option as it offers more flexibility for travel back to the United States without jeopardizing your status.
On the other hand, if you plan to move around the world and have no plans to visit the U.S. anytime over the next year, the Physical Presence Test will likely be more suitable for those plans.
| Feature | Bona Fide Residence Test | Physical Presence Test |
| Primary Focus | Settling in Hong Kong indefinitely | Counting days spent outside the U.S. |
| Time Requirement | One full tax year (Jan 1 – Dec 31) | 330 full days in any 12-month period |
| Travel Flexibility | Allows unlimited trips back to the U.S. | Strict limit on days spent in the U.S. |
| Best Suited For | Permanent relocations, long-term expats | Digital nomads, temporary assignments |
Documents You Can Use as Evidence for Either Test
To pass the Bona Fide Residence Test, you will need to gather documents that showcase your new life and demonstrate your integration into Hong Kong society, including stamped tenancy agreements, local utility bills, and receipts of paid salary taxes or profits taxes to the Inland Revenue Department. Records of your employment contracts, statements from local banks and your Hong Kong Identity Card will also come in handy in making your case to the IRS. Given that it is up to the IRS to decide if your evidence is substantial enough, you cannot go wrong with gathering as many varieties of your integration as possible to make your case.
For the Physical Presence Test, you should primarily be focused on tracking your travel dates away from the U.S. using copies of your passport stamps, flight itineraries, and boarding passes to prove exactly when you’ve traveled between Hong Kong and other jurisdictions.
Common Mistakes to Avoid When Trying to Prove Your Foreign Residency
While the conditions to meet and pass either test appears simple on the surface, careless mistakes are also easy to make when the language of these conditions are not taken seriously.
Common Mistakes for the Bona Fide Residence Test:
- Not Staying for a Full Calendar Year: Failing to live in Hong Kong from the 1st of January to the 31st of December will disqualify you. Short trips back are acceptable, but the limit of what is too long a trip will be judged by your evaluator. You can also file for an extension to help meet that requirement as necessary.
- Maintaining a strong U.S. connection: Keeping a home in the U.S., making frequent trips back, or continuing employment with a U.S. entity could suggest you are not truly settled in Hong Kong. You may also consider canceling your voter registration or your driver’s licence as an additional measure. Being a Bona Fide Resident means maintaining clear separation from your U.S. ties, as it could signal to the IRS that your true home remains in the United States.
- Wrong visa type: Holding temporary visas, like a tourist visa, can hurt your claim, even if you physically stay in Hong Kong for the full calendar year.
- Assuming automatic qualification: A major misconception is thinking that being in Hong Kong from the 1st of January to the 31st of December is enough to qualify. In reality, it is the combination of your continuous time spent in the city as well as evidence of the transfer of your life over that will secure your test application.
Common Mistakes for the Physical Presence Test:
- Miscounting travel days: Failing to accurately track your departure and arrival dates to and from the U.S.. Strictly speaking, only full 24-hour days outside the U.S. qualify as part of the 330-day requirement, and partial days spent traveling to or from the U.S. do not count. Filing for an extension can help you meet that requirement if necessary.
- Overlooking transit time: Similarly, time spent flying over international waters or in transit does not always count toward your foreign days if the journey involves the U.S.. Particularly relevant for longer flight times.
- Assuming the 12-month period must align with the calendar year: You can choose any consecutive 12-month period that helps you meet the 330-day requirement.
Remember that you can choose between either test for any given year depending on your plans and the requirements met, but you only need to pass one of the tests to claim your FEIE.
Summary
Establishing a living in Hong Kong can seem an attractive prospect from a tax perspective, provided you can make the commitment. If you can diligently gather and present evidence of your integration into Hong Kong society or anywhere outside the U.S., passing the Physical Presence Test and Bona Fide Residency Test can be a straightforward matter. If you currently live in or are planning to move to Hong Kong and you have questions specific to your scenario, drop us a message and we’d be happy to help!
