What Is The Foreign Tax Credit?

Did you pay taxes in a foreign country but you are subject to US tax on the same income?

If so, you may be able to claim a credit for those taxes in order to reduce or eliminate double taxation. US citizens and residents are taxable on their worldwide income regardless of where it was earned; for this reason, you could have income taxable within two countries. (Income may be subject to an income tax treaty between two countries which determines which country gets to tax that income, but that topic is outside the scope of today's post).

In case of a credit, only income, war profits and excess profits taxes qualify. As an example, social taxes imposed by a foreign country would not qualify for this credit. Keep in mind that a credit reduces your US tax liability dollar for dollar for the amount of the credit.

To claim the foreign tax credit as an individual, you must file Form 1116 and comply with the following criteria:

• A tax was imposed on you by a foreign country or U.S. possession.

• You must have paid or accrued the tax.

• The tax must be the legal and actual foreign tax liability.

• The tax must be an income tax.

Other limitations may apply such as claiming the foreign earned income exclusion. A deduction for foreign income taxes may be an allowable alternative to the credit and would be claimed on Schedule A as an itemized deduction. Speak to your tax professional about the tax implications of any foreign income taxes which have been paid by you.

If you're still not sure if you qualify for paying foreign tax credit, we recommend reading the full details from the IRS site, or contacting a tax specialist.

If you wish to know more about how foreign tax credit works, then click here.

This post may not contain a complete analysis of the tax issues discussed herein and does not represent official conclusions or advice regarding the matter.