The Foreign Tax Credit (FTC) is a tax provision available to US tax filers who have paid foreign taxes on income earned outside the United States. The FTC allows tax filers to offset the amount of foreign taxes paid against their US tax liability which helps to avoid double taxation on the same income.
Qualifying Foreign Taxes
Individuals who have paid foreign taxes on non-US income are eligible to claim the FTC on their federal income tax return if they meet the following conditions:
- The tax filer must have foreign-source income on which foreign taxes have been paid.
- Foreign taxes must be imposed on the tax filer by a foreign country or possession of the United States.
- The foreign taxes must be legally due and paid and must not be reimbursed by the tax filer’s employer or any other person.
- The foreign taxes must be an income tax or a tax in place of an income tax.
Various types of income where FTC can be claimed include wages, salaries, and tips earned as an employee or self-employed individual, dividends, interest, capital gains, rental income, and business income.
Other types of income may be excluded from the FTC calculation or subject to special rules, such as passive foreign investment companies (PFICs) or controlled foreign corporations (CFCs).
Claim FTC on your US tax return
The tax filer must complete and file Form 1116 with their US federal tax return to claim FTC. Form 1116 requires information on the country where the foreign taxes were paid, the amount and type of income, the value of the foreign taxes paid, and any foreign deductions and expenses that apply.
The amount of credit that can be claimed would be based on the income taxes paid to the foreign government. Typically, if you are paying taxes to a country with a higher tax rate than the US, then your FTC can eliminate your entire US tax liability, and you end up not paying any taxes to the US.
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It is important to note that the FTC is limited to the amount of US tax owed on the foreign-source income, so if the paid foreign taxes exceed the US tax liability, the excess FTC can be carried over to future tax years, up to ten years.
Please note, despite the dollar-to-dollar amount calculation on FTC, the amount you can claim may still be affected by tax treaties between the US and the country where the taxes were paid, as well as by other tax rules and restrictions.
For the 2022 tax return, the marginal tax rates in the US are as follows:
- 37% – income over $539,900 ($647,850 for married couples filing jointly)
- 35% – income over $215,950 ($431,900 for married couples filing jointly);
- 32% – income over $170,050 ($340,100 for married couples filing jointly);
- 24% – income over $89,075 ($178,150 for married couples filing jointly);
- 22% – income over $41,775 ($83,550 for married couples filing jointly);
- 12% – income over $10,275 ($20,550 for married couples filing jointly).
- 10% – income less than $10,275 ($20,550 for married couples filing jointly).
Foreign Tax Credit is a beneficial approach to not paying taxes in the US, so it is important to know how to claim them on your US tax return. If you need help claiming FTC on your US taxes, feel free to mail us at info@universaltaxprofessionals.com.
