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PDtax
PDtax, CPA firm owner
Category: Tax
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Experience:  32 years tax experience, including four years at a Big 4 firm.
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Foreign tax credit question... Say I have $50K worth of earned

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Foreign tax credit question... Say I have $50K worth of earned income overseas and $10K of US-based income property (rental income). And say I paid $20K income on the combination of those two incomes to the overseas version of the IRS (because that country taxes on world wide income also). Can I simply state that I have a foreign tax credit of "x" amount on one line of the 1040? Or is it more complicated than that and has to be calculated out and assigned to various types of income etc?
Submitted: 1 year ago.
Category: Tax
Expert:  PDtax replied 1 year ago.

PDtax :

Welcome to the site. I will be helping you today.

PDtax :

US foreign tax credit is usually calculated based on different types of income (since they are taxed at different rates in the US).

PDtax :

Also, different incomes are taxed differently in other parts of the world.

PDtax :

It is more complicated when you have, say, capital gains taxed at ordinary rates overseas, then less in the US. Or dividends with treaty rates.

PDtax :

However, your income is treated as one type of income in the US (all taxed at the same rates) and your income is all from the same country. I think you can lump the incomes and taxes paid for 2555 reporting.

PDtax :

On the tax credit form, just choose one jurisdiction and one income type, and you should be ok.

Customer:

All I will have is foreign income (from a job) - around $50K and rental income from two US-based investment properties. As the foreign country will tax me on investment income from properties in the US - that means if I can't deduct as a dollar for dollar credit the taxes I paid to the foreign country for those investment properties then I will be taxed twice on the same (rental) income!

PDtax :

You can get a US tax credit on the rental income. But you probably escape US tax on the foreigh earned income.

PDtax :

Your US return will exempt the wage income, report the rental income, and claim the credit for tax paid on that income. You will like the results.

Customer:

Thanks for the information. It seems like the information on the foreign tax credit form only refers to FOREIGN SOURCED INCOME - and as the rental properties are in the USA that is where it has me worried - if the rental properties are not foreign sourced then I was scared that I'd pay taxes on them in the USA (like anyone else would) and taxes on them to the foreign country - thus being double taxed! Pleased clarify. Perhaps you could clarify which line on the form I enter the US based rental income?

Customer:

...and which form number

Customer:

Hi. Are you there?

PDtax :

2555 for the earned income exclusion. 1116 for foreign tax credit. The type of income could be general source income or income by treaty (I assume Australia).

Customer:

The country is the UK

PDtax :

ok. report income in column A, as UK income, with rental income and deductions. Then convert the UK tax paid on that income to US$ and compute the credit.

Customer:

I think the simplest thing to do is on form 1116 add the UK income and the rental income together and class as "foreign earned income" (even though the two rental properties are in the USA). Is that what you are suggesting? I ask because this thing about "foreign earned income" when the properties are actually located in the USA had me spooked and worried about double taxation on the rental income.

PDtax :

it is not. the UK foreign source income is US tax free. You pay UK tax on that income and don't get a tax credit for it.

PDtax :

You pay UK tax on the rental income and get a US tax credit for that. It's likely you pay $0 US Federal taxes.

PDtax :

since the two types of income are taxed differently, you have to split them out. More complicated, but that's how it works.

PDtax :

Thanks for asking at Just Answer. Ask any follow up you may have, or your accept closes out your question and gets me paid.

Customer:

Yes, that's what I meant - the foreign earned income is US tax free (because it is under a certain amount) but the USA based rental income is taxed overseas. I guess because I was taxed on it overseas it then becomes "foreign income" (even though the properties are inside the USA. Is that correct?

PDtax :

it gets treated that way. yes.

Customer:

OK. thank you.

PDtax, CPA firm owner
Category: Tax
Satisfied Customers: 2102
Experience: 32 years tax experience, including four years at a Big 4 firm.
PDtax and 8 other Tax Specialists are ready to help you
Customer: replied 1 year ago.

Sorry - two more questions. Say I was paid $10K by US social security and say $20K from a job in the UK - those two sources of income would be tax free in the US because I would get a dollar for dollar foreign tax credit against them on my US tax return. Correct?


 


That leaves the rental properties. As I will receive a dollar for dollar credit on the rental income which was taxed in the UK - and assuming the tax rate is the same in both countries (say 20%) then the only tax I pay on the rental properties is 20% ONCE due to the foreign tax credit. Correct?

Expert:  PDtax replied 1 year ago.
Yes, if the UK taxes them both as worldwide income while you are resident there. Keep in mind social Security would likely not be taxed because the amount earned would be under the taxable threshold in the US.

The rental properties do generate a dollar for dollar credit. You are correct that if the tax rate is the same, the credit would cover the US tax liability.

Thanks again.

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