International Tax

Foreign Tax Credit

In some instances it possible for U.S. Expatriates to credit taxes paid on foreign income against their U.S. tax liability or to deduct the amount when calculating taxable income on their U.S. income tax return. In general it is to your advantage to claim a credit for the foreign taxes rather than a deduction. A credit will reduce your U.S. tax liability and may be carried back and carried forward to other years. If a deduction is taken, it can only be taken in the current year. Additionally, all foreign income taxes must be treated in the same manner. In other words, you cannot deduct some foreign income taxes and take a credit for others.

The following IRS tests must be met to qualify for the tax credit:

• The taxes were imposed on you
• 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 (or a tax in lieu of an income tax)

Should you choose to credit foreign taxes against your tax liability you must complete Form 1116, Foreign Tax Credit (Individual, Estate, Trust, or Nonresident Alien Individual), and attach it to your U.S. Tax return. There are limits to the credit—it cannot exceed the part of your U.S. income tax liability allocable to your taxable income from sources outside the U.S. If you have no U.S. income tax liability, or if all of your foreign income is excludable, you will not be able to claim a foreign tax credit.

In the case that your foreign taxes paid or accrued during the year are more than the limit on your credit for the current year, you will be able to carry-back the unused foreign taxes as credits to the immediately preceding tax year and carry-forward any remaining unused foreign taxes for the next 10 years.

Although the foreign tax credit is taken by individuals, the largest amounts of foreign tax credits are received by U.S. corporations with operations abroad. U.S. corporations earn foreign source income through branches operating abroad or by operating or investing in affiliates incorporated abroad. A credit is given for foreign income taxes and for any foreign withholding taxes levied when the branch remits income to its U.S. parent.

The Esquire Group team of international advisors will be able to review your tax situation and determine what credits may be available to reduce your tax liability.