Core

FEIE vs. Foreign Tax Credit

US citizens and residents abroad can choose between the Foreign Earned Income Exclusion (FEIE, Form 2555) and the Foreign Tax Credit (FTC, Form 1116). The FEIE excludes up to $130,000 of foreign earned income, while the FTC credits foreign taxes paid. For Canadians in higher-tax provinces, the FTC is typically more beneficial.

Key Points

  • The FEIE excludes foreign earned income up to the annual limit ($130,000 for 2025).
  • The FTC provides a dollar-for-dollar credit for foreign taxes actually paid.
  • You cannot claim the FTC on income already excluded under the FEIE.
  • The FEIE requires meeting either the bona fide residence test or the physical presence test.
  • Revoking an FEIE election locks you out for 5 years without IRS approval.

Action Items

  1. 1.Compare your total tax liability under both the FEIE and FTC scenarios.
  2. 2.If Canadian taxes exceed US taxes on the same income, the FTC generally produces a better result.
  3. 3.Consider state taxes, as some states do not recognize the FEIE.
  4. 4.Be cautious about electing the FEIE, since revoking it has a 5-year lockout period.

Frequently Asked Questions

Can I use both the FEIE and FTC at the same time?

You can use both, but you cannot claim the FTC on income that has been excluded under the FEIE. You can use the FTC for income categories not covered by the exclusion.

Which is better for someone living in Canada?

For most Canadians, the FTC is better because Canadian tax rates are generally higher than US rates. The FTC captures the full tax paid, while the FEIE only excludes income up to a cap.

Related Scenarios

Critical

TFSA US Tax Trap

The Tax-Free Savings Account is tax-exempt in Canada but receives no treaty protection in the US. The IRS classifies a TFSA as a foreign grantor trust, requiring Forms 3520 and 3520-A annually. Failure to file can result in penalties starting at $10,000 per form per year.

Critical

FBAR Filing Requirements

The Report of Foreign Bank and Financial Accounts (FBAR) must be filed by any US person with foreign financial accounts exceeding $10,000 in aggregate at any point during the year. The FBAR is filed electronically with FinCEN, not the IRS, and has its own deadline and penalty regime.

Core

Substantial Presence Test

The Substantial Presence Test (SPT) uses a weighted formula across three years to determine if a foreign national is a US tax resident. If you meet the test, you are taxed on worldwide income. Understanding the SPT is essential for snowbirds and anyone splitting time between Canada and the US.

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