If you’re an expat, you might be able to exclude foreign earned income from U.S. tax up to $100,800 in 2014. This exclusion is available only for earned income and doesn’t apply to passive income.
Passive income includes interest, dividends, and rent. The exclusion usually requires you to have lived abroad for at least a full year. Partial-year exclusions are available if you’re an expat who’s recently moved to a foreign country or returned to the U.S. mid-year from abroad.
You might be an expat who hasn’t been out of the country long enough to claim the exclusion by your filing date (usually June 15 for expats). If so, you can request an extension of time to file until you’ve met the time requirements.
Who can benefit
This exclusion is available to expats who are either:
- Working as employees
- Working in a self-employed capacity
Income from performing personal services is classified as foreign if the work is performed in a foreign country. So, even expats who work abroad for a U.S. employer can qualify. Employees of the U.S. government can’t claim the exclusion. However, an employee of a private company under contract with the U.S. government might still be eligible.
Foreign tax credit v. exclusion
You might qualify for the foreign earned income exclusion even if you’re paying no foreign tax on income earned abroad. However, if you’re paying foreign tax, you can’t use a foreign tax credit and exclusion on the same income. If you qualify for both the foreign earned income exclusion and the foreign tax credit, consult with your expat tax advisor for help choosing the best benefit. Claiming the foreign tax credit might be the better option if any of these apply:
- You are paying foreign tax at a high rate
- You wish to participate in an individual retirement arrangement (IRA)
- You qualify for certain family-related tax breaks based on non-excluded income
The foreign tax credit might also be a better choice for expats with small business operations that have shown losses.
If you claim the exclusion, then change back to the foreign tax credit, you can’t easily claim the exclusion again for five years. The only way you could claim the exclusion in less than five years is to go through a detailed and costly process with the IRS. So, working with an expat tax advisor who understands your options can help.
Late Elections to Claim the Exclusion
Usually, you must claim the exclusion either:
- Within one year of the due date of your return
- By amending a timely filed return
However, you can still claim the exclusion after these dates if either:
- The IRS hasn’t discovered your failure to file.
- You owe no tax after taking the exclusion into account.
If you haven’t filed returns in prior years, you might be able to exclude your foreign earned income from U.S. tax. This could have the effect of eliminating your tax liability and any penalties and interest that would be assessed.
Foreign Housing Exclusion or Deduction
If you’re an expat and you incur foreign housing expenses, you might be able to exclude or deduct these expenses.
The exclusion is available for expats working as employees with either:
- Out-of-pocket housing expenses
- Employer-provided housing amounts included in their wages