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| Foreign
Earned Income Exclusion - Internal Revenue Code, Section 911 |
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| December
2005 |
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| Generally
speaking, if you live and work outside of the United States, then you can
exclude all or part of your foreign wages from US taxation. Heres how
it works: |
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You must
work and reside outside the United States.
You must
qualify under the Bona Fide or Physical Presence tests.
You can
exclude up to $80,000 annually in foreign wages. |
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| In this Tax
Guide, you will find information on: |
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Bona Fide
Residence Test & Physical Presence Test
Maximum
Exclusion & Prorated Exclusion
Foreign
Housing Exclusion and Deduction
Self-Employment
& Foreign Exclusions |
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| Bona Fide
Residence and Physical Presence Tests. You must meet one of two qualification
tests to claim the Foreign Earned Income Exclusion. |
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| You
must meet either the bona fide residence test or the physical presence
test. |
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| Bona Fide
Residence Test |
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| One Full
Year of Residence |
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| You are considered
a "bona fide resident" of the foreign country if you reside in that country
for "an uninterrupted period that includes an entire tax year." A tax year
is January 1 through December 31. The qualifying period for the bona fide
residence test must include one full calendar year. |
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| Trips Outside
The Foreign Country |
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| Brief trips
or vacations outside the foreign country will not jeopardize your status
as a bona fide resident, as long as the trips are brief and you clearly
intended to return to the foreign country. You can even make brief trips
to the United States. |
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| Statement
To Foreign Authorities you will not be considered a bona fide resident
of a foreign country if you have submitted a statement to the foreign country
that you are not a resident of that country, and the foreign government
has determined that you are not subject to their tax laws as a resident. |
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| Tax Treaty |
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| Special treatment
of income under an income tax treaty will not prevent you from meeting
the bona fide residence test. |
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| Physical
Presence Test |
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| You are considered
physically present in a foreign country (or countries) if you reside in
that country (or countries) for at least 330 full days in a 12-month period.
You can live and work in any number of foreign countries, but you must
be physically outside the United States for at least 330 full days. |
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| Full Day |
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| A "full day"
is 24 hours. So, the day you arrive and the day you leave the country are
generally not counted towards the physical presence test. |
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| 12-Month
Period |
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| The qualifying
period can be any consecutive 12-month period of time. You do not have
to begin your qualifying period with your first day in a foreign country.
You can choose a 12-month period that provides the greatest income exclusion.
You can count both vacation and business days spent in the foreign country
towards meeting the 330 day minimum. |
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| Travel
Outside The Foreign Country |
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| Travel outside
of the foreign country will not count toward your 330 day minimum. You
will need to plan your travel very carefully to make sure you are physically
present in your target country (or countries) for at least 330 days. |
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| Exceptions
To The Time Requirements |
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| The minimum
time requirements for both the bona fide and physical presence tests can
be waived. |
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| The only valid
reason for a waiver is that you are forced to leave the foreign country
because of "war, civil unrest, or similar adverse conditions." You should
be able to prove that you would have met the time requirements if adverse
conditions had not prevented your stay. |
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| Prohibition
On Travel to Cuba |
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| Time spent
residing or working in Cuba will not qualify for the bona fide residence
or physical presence tests. |
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| Foreign
Earned Income Exclusion |
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| Maximum
Exclusion |
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| The amount
of foreign wages and salary you can exclude per year is limited to your
actual foreign wages or $80,000, whichever is less. You may claim a prorated
exclusion if you did not meet the time requirements for a maximum exclusion. |
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| The maximum
annual exclusion will continue to be $80,000 until 2008, when the amount
will begin to be adjusted annually for inflation. |
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| Carryback
And Carryover Of The Foreign Tax Credit |
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| Any foreign
tax credit amount in excess of the maximum limit may be carried back to
a previous tax year or carried forward to a future tax year. You can carry-back
the foreign tax credit to the immediately preceding tax year, or carry-forward
the credit for the next 10 tax years. |
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| If you paid
foreign taxes in 2004 or previous year, a different carryover time frame
applies. For tax years 2004 and earlier, any excess foreign tax credit
may be carried back to the two previous tax years, or carried forward for
the next five tax years. The change in the carryover time frame was part
of the American Jobs Creation Act of 2004. |
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| Prorated
Exclusion |
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| If you do
not meet the all the time requirements, you may claim a partial exclusion
of income. You would pro-rate the exclusion based on the amount of time
actually spent abroad. The pro-rated exclusion is worth a maximum of $242.42
per full day spent in a foreign country. Your pro-rated exclusion amount
may not exceed the maximum allowable exclusion. |
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| Foreign
Housing Exclusion And Deduction |
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| If you live
and work outside the United States, you can exclude from federal taxation
amounts paid by your employer for housing. This includes any amounts paid
directly to you or on your behalf for housing, rent, education for your
children, or tax equalization ("gross up" payments). |
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| Time Requirements |
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| For the housing
exclusion, you must meet the same time requirements under the bona fide
or physical presence tests. |
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| Qualifying
Expenses |
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| The following
expenses qualify for the foreign housing exclusion: |
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Rent,
Fair rental
value of housing provided by your employer,
Repairs,
Utilities
other than telephone,
Real property
and personal property insurance (homeowners & renters insurance),
Occupancy
taxes,
Nonrefundable
security deposits or lease payments,
Furniture
rental,
Residential
parking fees,
Tax equalization
payments paid by your employer,
Education
expenses for your dependent children. |
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| Non-Qualifying
Expenses |
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| The following
expenses do not qualify for the foreign housing exclusion: |
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Lavish or
extravagant expenses (as determined by your circumstances),
Deductible
interest and taxes (for example mortgage interest), |
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Cost of
buying property (for example, principal payments on a mortgage),
Domestic
labor (for example, maids and gardeners),
Pay television,
Home improvements,
Purchased
furniture,
Depreciation
of property or improvements. |
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| Coordination
With The Foreign Earned Income Exclusion |
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| You can claim
the foreign earned income exclusion, the housing exclusion, or both. However,
you cannot exclude the same income twice. Generally, you will calculate
any housing exclusion if you have taxable foreign income left over after
taking the maximum allowable income exclusion. |
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| Calculating
The Maximum Housing Exclusion |
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| The maximum
housing exclusion is calculated as follows. |
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| Add up all
the housing expense amounts. Subtract any amounts already excluded under
the foreign income exclusion or claimed as a moving expense deduction.
Subtract any housing allowance provided by the US Government. From the
remaining housing expenses, you must subtract a base amount equal to 16%
of a Federal GS-14 Step 1 salary. For 2005, this base amount is equal to
$12,191 annually, or $33.40 per day. Multiply this base amount times the
number of days in your qualifying period. Any housing expenses in excess
of this base amount are excluded. |
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| Because of
the limitations in the housing exclusion, it is best to maximize your income
exclusion first before calculating any housing exclusion. |
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| Independent
contractors cannot claim the foreign housing exclusion. Instead, they must
claim the foreign housing deduction. |
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| Self-Employment
& Foreign Exclusions |
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| Self-employed
persons working abroad may claim the foreign earned income exclusion and
the foreign housing deduction. |
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| Foreign
Earned Income Exclusion For Self-Employed People |
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| You may claim
the foreign income exclusion on self-employment income. This will reduce
your regular income tax, but it will not reduce your Self-Employment Tax,
which is a flat 15.3% on your net income from Self-Employment. |
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| Housing
Deduction For Self-Employed Persons |
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| Self-employed
persons working abroad do not qualify for the foreign housing exclusion.
Instead you can deduct your allowable housing expenses from your Self-Employment
Taxes. This will lower your Self-Employment Tax, sometimes considerably. |
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