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U.S. Taxation of Foreign Income

Offshore Account Update

Posted on March 29, 2019 |

For U.S. taxpayers receiving foreign income, it is essential to be aware of the American tax requirements for such income. The United States is the only major country that taxes its citizens and permanent residents on income earned anywhere in the world. When faced with such an aggressive government stance on foreign income, U.S. taxpayers receiving foreign income must be certain they are in legal compliance.

The IRS’s position on the reporting requirement for foreign income is clear. Any U.S. citizen or permanent resident must report all foreign and domestic income. And for U.S. citizens, the IRS maintains this worldwide income reporting requirement whether the citizen lives in the country or abroad.

Despite this strict reporting requirement, U.S. taxes on foreign income can still be minimized and possibly avoided entirely. In the U.S., the primary legal methods of minimizing foreign income taxation are (1) exclusions for foreign earned income and (2) foreign tax credits.

Foreign Earned Income Exclusions

U.S. taxpayers are entitled to exclude certain incomes and costs from their gross taxable income. Specifically, the U.S. tax code provides the following exclusions for foreign income: (1) foreign earned income exclusion and (2) foreign housing costs exclusion.

Foreign Earned Income Exclusion

Foreign earned income may be excluded up to an annual threshold. This threshold increases every year, with the 2018 threshold at $104,100. A taxpayer earning foreign income of this amount or less would owe no U.S. taxes on the income. If the taxpayer’s foreign income exceeds the threshold, the amount above the threshold will be taxable. 

It is important to note the tax amount will be based on the total amount of foreign earned income, not just the amount above the threshold. For example, if the amount of foreign earned income was $204,100 ($100,000 above the 2018 minimum), the tax amount would be calculated as follows: (U.S. Tax Amount on $204,100) – (U.S. Tax Amount on $104,100) = (Net U.S. Tax Owed). Thus, the taxable amount is not simply calculated based on an amount of $100,000, i.e., the amount above the threshold.

Foreign Housing Costs Exclusion

Taxpayers may also exclude foreign housing costs that exceed 16 percent of the foreign earned income exclusion. This housing costs exclusion is capped at 30 percent of the foreign earned income exclusion. At 2018 amounts, this means foreign housing costs of more than $16,656 may be excluded up to a maximum amount of $31,320.

Foreign Tax Credit

The U.S. tax code provides taxpayers with a credit for all or part of the amount paid in foreign taxes. That credit is subtracted from the U.S tax bill. This can substantially reduce the total tax owed.

The foreign tax credit can only be claimed on the same income that the U.S. is taxing. And the portion of foreign taxes that can be credited is generally based on the ratio of excluded foreign earnings income (at or below the threshold) to non-excluded income (above the threshold).

Let a Boston Tax Attorney From Thorn Law Group Advise and Represent You

Contact the Thorn Law Group today to see how a Boston tax attorney can help you with your foreign income-related legal issues. For a consultation, contact Kevin E. Thorn, Managing Partner, at ket@thornlawgroup.com or (617) 692-2989.


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