Is it better to use Foreign Earned Income Exclusion (FEIE) or Foreign Tax Credit (FTC) when filing US expat taxes?

Filing taxes in the U.S. is an extremely complicated and lengthy process and can become even more complex when you’re living abroad. Many U.S. citizens living abroad are unaware that they qualify for the foreign tax credit claimed on form 1116. This may help you to save a lot of money because it offers a refund on some of the taxes that you may have already paid in a foreign country. It’s considered to be a better way of saving money on your taxes rather than filing Form 2555, the Foreign Earned Income Exclusion (FEIE).

If you’ve been living abroad, 1040 Abroad can offer their professional expertise and guidance and teach you how to file Form 1116. You’re eligible to file Form 1116 if you’ve had tax imposed on you, the tax is income tax or Tax in Lieu of Income Tax, and you’ve accrued or already paid the tax during the year.

1040 Abroad can help you to determine if you’re eligible and can provide you with the necessary forms to ensure you submit the correct documents. We can simplify the process and help you understand your rights as a citizen. You can have peace of mind knowing everything is completed correctly without the risk of making mistakes, which can lead to significant issues, especially while living outside of the U.S. 1040 Abroad can assist you in obtaining the tax refund that you’re eligible for to ensure you can obtain more money and don’t overpay on your taxes each year.

When the Foreign Tax Credit allows one to reduce their tax owing to zero, we usually choose it. It’s a better option compared to the Foreign Earned Income Exclusion. This ends up being the chosen treatment for our clients in Canada and Western Europe. Why? Because the tax rate in these countries is greater than the one in the United States. If this is not the case, then the Foreign Earned Income Exclusion might bring better treatment.

Why is Foreign Tax Credit a better option for US expats?

  • The fact that after revoking the Foreign Earned Income Exclusion once cannot use it again for another 5 years (IRC 911(e)(2)). Hence, by using the Foreign Tax credit, one can revert to the FEIE.
  • While the best outcome with the FEIE is a zero tax liability, the FTC generates carryovers for future years. Even if you are moving to a low tax country, you can use such carryovers. It can, however, only be applied against foreign-sourced income.
  • The Additional Child Tax Credit is a refundable tax credit allowing one to receive up to $2,000 per child per year (2018; it was previously $1,000 per child per year). However, you cannot claim this credit when the FEIE is used. The FTC needs to be the venue to reduce US tax.

Today we prepared this easy tax infographic for you. It explains the main differences and what you need to know before choosing one of the options to save money on your tax return. Feel free to contact us regarding your tax situation and we will come back to you within 24 hours after receiving your message.

foreign earned income exclusion vs foreign tax credit