Tag: Form 2555

Posted on by Jan Roberg

Seven Things You Need to Know About Claiming the Foreign Earned Income Exclusion on Your US Tax Return

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Photo by mammal at Flickr.com

If you’re an American citizen working outside of the country, you may be able to exclude some (or even all) of that income from your US income taxes by using Form 2555, the Foreign Earned Income form. Here are some things you need to know about the form:

 

1. Currently, the exclusion for 2012 is $95,100. The exclusion for 2013 will be $97,600.

 

2. In order to claim the exclusion, you must have a tax home in a foreign county. You must also meet the bona fide residence test or the substantial presence test. Basically, if you work full-time inside a foreign country for the entire calendar year, then you’ll meet the bona fide residence test. If you work outside the United States for 330 days out of a 365 day period, then you’ll meet the substantial presence test.

 

3. If you are in a foreign country as a US government employee, then you are not allowed to claim the foreign earned income exclusion.

 

4. When reporting your foreign income, remember to convert any income and expense amounts into US dollars. You can get foreign currency exchange rates from the US Department of the Treasury: http://fms.treas.gov/intn.html

 

5. If your income turns out to be higher than the exclusion amount, your tax rate will be the higher rate, as if you had to pay tax on the full amount of income. For example, if you prepared your tax return and after claiming the Foreign Earned Income exclusion and any other deductions that you were entitled to, let’s say you have $5,000 of taxable income left. Normally for a single person, $5,000 of taxable income would mean $500 of tax—because that’s the 10% income tax bracket. But not in this case. It’s more likely to be $1400, because when you add back the excluded income, it puts that single person back into the 28% tax bracket.

 

6. If you are married and your spouse works, you may each claim an exclusion for foreign earned income.

 

7. If you claim the foreign earned income exclusion, you cannot take the credit for taxes paid to a foreign country on any income that was excluded. If your income exceeds the exclusion amount, it’s generally a good idea to run the numbers both ways to see which gives you the better tax advantage.

 

Expat taxes can be confusing. If you’re trying to navigate your way through the Form 2555, give us a call, we can help.

Posted on by Jan Roberg

Tax Exclusion for Working in a Combat Zone

PMC

Photo by Rande Archer on flickr.com

One of the more interesting tax returns Bill and I worked on last year was for an employee of a private security firm in Afghanistan. While I’m the expert on foreign income, Bill’s our “go to” guy for all things military. While our client wasn’t working for the US military, he was clearly working with the US military and was definitely working in a combat zone.

Our goal of course was to make sure he didn’t pay more income tax than he was required to pay. I realize we’re not supposed to give preferential treatment to clients, but I gotta confess, we do tend to go the extra mile for our service members and for people who are working to keep our service members alive. (Plus he was just a really nice guy.)

My tactic was to claim a foreign income exclusion (Form 2555). While it reduced the guy’s taxable income, it still left him owing the IRS and we were trying to eliminate that balance due. Bill, coming from the military side, was trying to exclude the income under something called Internal Revenue Code Section 112. This basically excludes income that was earned in a combat zone, so we were thinking we might have something there. But here’s the actual rule:

“Gross income does not include compensation received for active service as a member below the grade of commissioned officer in the Armed Forces of the United States for any month during any part of which such member served in a combat zone.”

The key issue here, we decided, was that the person had to be a member of the Armed Forces to qualify for the income exclusion. And so we advised our client to pay the tax.

What we didn’t know at the time was that a similar case was being heard in Tax Court while we were working on the return. In the court case, Nathaniel J. Holmes v. Commissioner (TC Memo 2011-6), the Tax Court ruled that a civilian working for a private company doesn’t qualify for the combat zone income exclusion. So it turns out, we had been right. Had the case gone the other way, of course, we’d be amending our client’s tax return for FREE!

The bottom line though is – if you’re a private contractor in a foreign country, you won’t be able to exclude your income under the Section 112 rules for income earned in a combat zone. You still may be able to exclude your income (or a portion of your income) under the Foreign Income Exclusion on a Form 2555. Or, if you’re paying tax in the foreign country, there’s also the credit for foreign tax paid on Form 1116. There are options out there, you just have to make sure you’re using the right one.