If you live and work abroad and meet certain requirements, you may qualify to exclude from income up to $104,100 for 2018.
A limited amount of the foreign income tax you pay can be credited against your U.S. tax liability or deducted when calculating taxable income on your U.S. income tax return. Claiming a credit for foreign taxes rather than deducting them is usually to your advantage. A credit reduces your U.S. tax liability, and any excess may be carried back or carried forward to other years. A deduction only reduces your taxable income and may be taken only in the current year. You must treat all foreign income taxes in the same way. You generally cannot deduct some foreign income taxes and take a credit for others.
If your tax home is in a foreign country and you meet either the bona fide residence test or the physical presence test, you can choose to exclude a limited amount of your foreign-earned income from your gross income. Your income must be for services performed in a foreign country during your period of foreign residence or presence, whichever applies. The amount of foreign income that can be excluded depends on whether you resided in a foreign country for the full calendar year or only part of the year.
If you claim the exclusion, you cannot claim any credits or deductions that are related to the excluded income. You cannot claim a foreign tax credit or deduction for any foreign income tax paid on the excluded income. Nor can you claim the earned income credit if you claim the exclusion.
What Is the Foreign Housing Exclusion?
If your tax home is in a foreign country and you meet either the bona fide residence test or the physical presence test, you may be able to claim an exclusion or a deduction from gross income for a housing amount paid to you. Housing amount is the excess, if any, of your allowable housing expenses for the tax year over a base amount.
Allowable housing expenses are the reasonable expenses (such as rent, utilities other than telephone charges, and real and personal property insurance) paid or incurred during the tax year by you, or on your behalf, for your foreign housing and that of your spouse and dependents if they lived with you. You can include the rental value of housing provided by your employer in return for your services. You can also include the allowable housing expenses of a second foreign household for your spouse and dependents if they did not live with you because of dangerous, unhealthy or otherwise adverse living conditions at your tax home.
Are You Required to Make Estimated Tax Payments?
If you are working abroad for a foreign employer, you may have to pay estimated tax, since not all foreign employers withhold U.S. tax from your wages. Your estimated tax is the total of your estimated income tax and self-employment tax for the year minus your expected withholding for the year.
When you estimate your gross income, do not include the income that you expect to exclude. You may subtract from income your estimated housing deduction when calculating your estimated tax liability. However, if the actual exclusion or deduction is less than you expected, you may be subject to a penalty on the underpayment.
Form 1040 ES, Estimated Tax for Individuals, is used to estimate your tax. The requirements for filing and paying estimated tax are generally the same as those you would follow if you were living in the United States. If your tax year is the calendar year, the due date for filing your income tax return is usually April 15 of the following year.
How Does Withholding Tax Work from Abroad?
You may be able to have your employer discontinue withholding income tax from all or a part of your wages. You can do this if you expect to qualify for the income exclusions under either the bona fide residence test or the physical presence test.
U.S. payers of benefits from employer-deferred compensation plans (such as employer pension, annuity or profit-sharing plans), individual retirement plans and commercial annuities generally must withhold income tax from the payments or distributions. You can choose exemption from withholding under certain specific conditions.
What Is the Purpose of the Foreign Tax Credit Form?
If you choose to credit foreign taxes against your tax liability, you must complete Form 1116: Foreign Tax Credit (Individual, Estate, Trust or Nonresident Alien Individual) and attach it to your U.S. income tax return.
Your credit cannot be more than the part of your U.S. income tax liability allocable to your taxable income from sources outside the United States. So, if you have no U.S. income tax liability, or if all your foreign income is exempt from U.S. tax, you will not be able to claim a foreign tax credit.
What Is the Foreign Tax Deduction?
If you choose to deduct all foreign income taxes on your U.S. income tax return, you must itemize the deduction on Schedule A (Form 1040). You cannot deduct foreign taxes paid on income you exclude from your U.S. income tax return.
How Expat CPA Can Help
Filing your U.S. tax returns when living abroad can be a daunting task. As you have probably realized by now, there are many factors to consider and decisions to make. Our CPAs understand all the rules and regulations that apply to expat federal tax filing, and we’re here not only to help you file, but also to assist you in making the best decisions for your unique tax situation.
Our Federal Expat Tax Package
- Price: $299
- Includes Form 1040 (U.S. Individual Income Tax Return)
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Return to FAQs
As a seasoned tax professional with extensive expertise in international taxation, I can confidently address the complex concepts discussed in the article. My comprehensive understanding of the U.S. tax code and its implications for individuals living and working abroad allows me to provide valuable insights into the intricacies of foreign income exclusions, tax credits, deductions, and related matters.
Let's delve into the key concepts outlined in the article:
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Foreign Income Exclusion:
- Individuals living and working abroad may qualify to exclude up to $104,100 (for 2018) from their income if they meet certain requirements.
- The foreign income tax paid can be credited against U.S. tax liability or deducted when calculating taxable income on the U.S. income tax return.
- Claiming a credit is usually advantageous, as it directly reduces U.S. tax liability, and any excess can be carried back or carried forward to other years.
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Tax Home and Residence Tests:
- To qualify for the foreign income exclusion, one's tax home must be in a foreign country, and they must meet either the bona fide residence test or the physical presence test.
- The exclusion amount depends on whether the individual resided in a foreign country for the full calendar year or only part of the year.
- Choosing the exclusion means forgoing any credits or deductions related to the excluded income.
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Foreign Housing Exclusion:
- If the tax home is in a foreign country and residence tests are met, individuals may claim an exclusion or deduction for a housing amount paid to them.
- Allowable housing expenses include reasonable costs such as rent, utilities, and insurance for foreign housing.
- The exclusion or deduction applies to housing expenses exceeding a base amount.
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Estimated Tax Payments:
- Individuals working abroad for a foreign employer may need to make estimated tax payments as not all foreign employers withhold U.S. tax.
- Estimated tax is the total of income tax and self-employment tax for the year, minus expected withholding.
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Withholding Tax from Abroad:
- Individuals qualifying for income exclusions under residence tests may have their employer discontinue withholding income tax.
- Specific conditions allow exemption from withholding for certain benefit payments.
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Foreign Tax Credit and Deduction:
- Form 1116, the Foreign Tax Credit form, must be completed if choosing to credit foreign taxes against U.S. tax liability.
- The credit is limited to the U.S. income tax liability allocable to taxable income from sources outside the United States.
- Alternatively, if choosing to deduct all foreign income taxes, one must itemize the deduction on Schedule A (Form 1040).
In conclusion, navigating U.S. tax obligations while living abroad involves nuanced considerations. Consulting with a tax professional, such as an expat CPA, can be instrumental in ensuring compliance with tax laws and making informed decisions tailored to individual circ*mstances.
