The Internal Revenue Code requires all U.S. citizens and resident aliens who meet the minimum income requirements to file a tax return. The filing obligation extends to citizens and resident aliens who work and live in a foreign country. However, taxpayers abroad are afforded additional benefits not available to those who live and work within the U.S.
Taxpayers who reside and work outside of the U.S. on the filing due date of a tax return are entitled to a two-month extension to file and pay income tax and not be subject to penalties. This extension is in addition to the six-month extension that's available to all taxpayers. However, interest will accrue on the outstanding tax balance if not paid by the original filing deadline. The extension isn't automatic: Taxpayers must attach a statement to the tax return stating that the eligibility requirements for the extension have been met.
Foreign Income Exclusion
The Internal Revenue Service (IRS) allows foreign-based taxpayers to exclude a portion of income earned outside the U.S. from taxation. In 2012, the maximum exclusion amount was $95,100; however, this amount is increased each year for inflation. The exclusion is limited to amounts earned in the taxpayer’s profession. To qualify for the exclusion, the taxpayer’s main place of business or employment must be in a foreign country during the tax year and must be for an indefinite period at the outset. Income earned during a temporary assignment in another country will not qualify for the exclusion. Additionally, the taxpayer must have a bona fide residence in the foreign country or be physically present there for at least 330 days during the tax year.
Taxpayers who qualify for the foreign earned-income exclusion may also qualify to exclude or deduct certain housing expenses in the foreign country. Employed taxpayers are eligible to exclude from income the total amount of housing expenses that exceed the IRS base amount. A base amount for each foreign city reflecting the average cost of living is calculated by the IRS each year. Self-employed taxpayers may take the housing expenses as a deduction from foreign earned business income.
A portion of the expenses incurred to move to a location outside of the U.S. that's related to the start of a new job can be deducted on a tax return. The deduction can only be taken against the portion of earned income that exceeds the total amounts excluded under the foreign earned income and housing exclusions. Eligible moving expenses are allocated to the non-excluded income by multiplying total expenses by the ratio of foreign earned income not excluded to total foreign earned income for the year.
Foreign Tax Credit
The tax law provides a credit for the amount of income tax a taxpayer pays to a foreign jurisdiction. The credit reduces the U.S. tax liability by the amount of foreign tax paid on foreign earned income included on the U.S. tax return. Foreign income tax paid on unearned income, such as interest, isn't subject to any credit limitations.
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