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Information provided on this site is for general guidance
only and is often simplified. Actual IRS procedures
are complex, and taxpayers should obtain professional
assistance or use IRS sources for complete information.
Foreign
Earned Income Exclusion
If a person's tax home is in a foreign country and
they meet either the bona fide residence test or the
physical presence test, they can choose to exclude
from gross income a limited amount of their foreign
earned income. The income must be for services performed
in a foreign country during a period of foreign residence
or presence, whichever applies.
Prior
to the Tax Reconciliation Act of 2005, the amount
of foreign wages and salary that could be excluded
was limited to the lesser of a person's actual foreign
wages or $80,000. For an established foreign resident,
the exclusion could be pro-rated based on the amount
of time actually spent abroad.
A person who claims the Exclusion cannot claim any
credits or deductions that are related to the excluded
income, for instance a foreign tax credit or deduction
for any foreign income tax paid on the excluded income.
The earned income credit is also unavailable. Furthermore,
for IRS purposes, the excluded income is not considered
compensation and, for figuring deductible contributions
in an employer retirement plan, is included in modified
adjusted gross income.
The
IRS confirmed that: "Effective for tax years
beginning after 2005, the amount of foreign earned
income (and foreign housing costs) excluded from an
individual's gross income will be used for purposes
of determining the rate of income and alternative
minimum tax (AMT) that applies to his or her nonexcluded
income."
"The
Tax Increase Prevention and Reconciliation Act of
2005 (P.L. 109-222) adds a new section 911(f) to the
Internal Revenue Code. An individual's tax will be
the excess of the tax that would be imposed if his
or her taxable income were increased by the amount(s)
excluded, and the tax that would be imposed if his
or her taxable income were equal to the excluded amount(s)."
"For
this purpose, the excluded amount(s) will be reduced
by the aggregate amount of any deductions or other
exclusions otherwise disallowed. In many cases this
will have the effect of increasing an individual’s
U.S. federal income tax to an amount greater than
it would have been under prior law."
Beginning
with tax year 2006, therefore, a qualifying individual
claiming the foreign earned income exclusion, the
housing exclusion, or both, must figure the tax on
the remaining non-excluded income using the tax rates
that would have applied had the individual not claimed
the exclusions.
Generally,
a qualifying individual’s initial choice of
the foreign earned income exclusion must be made with
one of the following income tax returns:
- A return
filed by the due date (including any extensions),
- A return
amending a timely-filed return. Amended returns
generally must be filed by the later of 3 years
after the filing date of the original return or
2 years after the tax is paid, or
- A return
filed within 1 year from the original due date of
the return (determined without regard to any extensions)
For
tax year 2006 the maximum amount of the Foreign Earned
Income Exclusion under section 911 of the Internal
Revenue Code was increased to $82,400.
The
foreign earned income exclusion amount is adjusted
annually for inflation, starting with the 2006 tax
year. For 2010, the maximum foreign earned income
exclusion is up to $91,500 (2009: $91,400) per qualifying
person. If married and both individuals work abroad
and both meet either the bona fide residence test
or the physical presence test, each one can choose
the foreign earned income exclusion. Together, they
can exclude as much as $183,000 (2009: $182,800) for
the 2010 tax year.
In
addition to the foreign earned income exclusion, qualifying
individuals may also choose to exclude or deduct from
their foreign earned income a foreign housing amount.
Starting with the 2006 tax year, the amount of qualified
housing expenses eligible for the housing exclusion
and housing deduction was limited.
The
limitation on housing expenses is generally 30% of
the maximum foreign earned income exclusion. For 2010,
the housing amount limitation is $27,450 for the tax
year. However, the limit will vary depending upon
the location of the qualifying individual’s
foreign tax home and the number of qualifying days
in the tax year.
The
foreign earned income exclusion is limited to the
actual foreign earned income minus the foreign housing
exclusion. Therefore, to exclude a foreign housing
amount, the qualifying individual must first figure
the foreign housing exclusion before determining the
amount for the foreign earned income exclusion.
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