US Income Tax for US Citizens living Abroad can be reduced significantly with the Foreign Earned Income Exclusion (FEIE).
What is Foreign Earned Income Exclusion?
FEIE or the Foreign Earned Income Exclusion is a tax benefit that expats can use to exclude foreign income from the US taxation. The FEIE helps the American expats avoid double taxation.
As the foreign income will be likely taxed in their country of residence, FEIE protects the US expats from paying taxes twice on the same income. But there are limits to how much foreign income one can exclude using the FEIE.
What are the limits of Foreign Earned Income Exclusion?
FEIE amount is adjusted for inflation every year. For income earned in 2023, the maximum exclusion amount is USD 120,000 and has been set to increase to USD 126,500 for the 2024 tax year. The FEIE allows the American expats to exclude foreign earned income from the US expat taxes.
Which income qualifies as ‘earned’ and ‘foreign’?
Earned income is that one which expats have earned by working that includes income from wages and salaries.
Passive income includes dividends, interests, capital gains, rental property income and retirement income. Passive income is not eligible to be excluded with FEIE. However these can be eliminated or reduced from the US tax bill using Foreign Tax Credit.
How to qualify for FEIE?
Also read:- How do Americans Avoid Taxes When Living Abroad?
There are two tests that determine whether the US expats qualify for the FEIE, they are-
- The Physical Presence Test: To pass this test the US expats must have foreign earned income, have a tax home in foreign country, and have been physically present in a foreign country for at least 330 days out of any 12 month period. Tax home is where the expat is permanently or indefinitely engaged in work irrespective of where their personal residence is.
- Bona Fide Residence test: The alternative of qualifying with physical presence test is by using bona fide residence test. To pass this test the US expats must have a foreign earned income, have a tax home in a foreign country, and have a bona fide resident for a full tax year. The expat must demonstrate that they are permanently living abroad with no immediate plans to return to the US.
The US expats can claim FEIE by filing Form 2555.
Other deductions and exemptions for US Expats are
- Foreign Tax Credit: It lets expats offset their US tax bills based on taxes they paid or owe to the foreign government. If the expats live in the country with a higher income tax then they can wipe off their tax bill entirely. This applies to only certain type of income.
- Foreign Housing Exclusion: It lets one reduce the US taxable income by a portion of your qualifying housing expenses. These expenses include rent utilities except TV and Internet, insurance, property taxes, and furniture rentals. If the expats live in a city with a higher cost of living, they can exclude a higher amount from their US expat taxes. If they qualify for FEIE the expats are automatically eligible for Foreign Housing Exclusion.
US Income Tax for US Citizens Living Abroad may be complicated and stressful for many expats. It is therefore advisable to collaborate with a professional US expat tax service expert to help you navigate your Expat taxes effectively and easily.