CLVN's US Tax Blog

2011 Foreign Earned Income and Housing Exclusion Amounts

For taxable year 2011, the maximum foreign earned income exclusion amount under §911(b)(2)(D)(i) is $92,900, figured on a daily basis, times the number of days during the year that you meet the bona fide residence test or the physical presence test.

The foreign housing exclusion is calculated by deducting the "base amount" from your qualified foreign housing expenses (subject to the limits discussed below). The base amount is 16% of the maximum foreign earned income exclusion amount ($14,864 for 2011), figured on a daily basis, times the number of days during the year that you meet the bona fide residence test or the physical presence test. There is a limitation on the maximum amount of qualified housing expenses. This limit for most cities is 30% of the foreign earned income exclusion ($27,870 for 2011). However, there are numerous exceptions (cities with higher limits). These exceptions can found in IRS Notice 2011-8.

David Colvin is a CPA and CFP^® based in Amsterdam, Netherlands since 1998.  His niche focus is serving high-net-wealth individuals with cross-border tax and financial issues.  In addition to his activities at CLVN, he is an advisor to Maxim Global Wealth Advisors.

Should you "revoke" the Foreign Earned Income Exclusion?

Based on the current US tax laws for expats, many taxpayers (mainly those in high tax countries) may be better off if they "revoke" one of the main benefits for expats, the Foreign Earned Income and Housing Exclusions.

Some background - the Foreign Earned Income and Housing Exclusions are not "optional".  If you don't want to claim the Foreign Earned Income and/or Housing Exclusions (after you have once claimed them on a prior tax return), you need to "revoke" them by attaching a statement to your tax return (see IRC Sec. 911(e)(2) for those of you who like to read the Internal Revenue Code).

Why the change now?  The Tax Increase Prevention and Reconciliation Act of 2005 (ironically) changed (by increasing) the way expats calculate the US tax on "non-excluded" income.  Prior to the 2006 tax year, expats would deduct the exclusions and then calculate the tax on the remaining income, so you got to use the lowest marginal tax rates.  As of 2006, you need to add back the exclusions before calculating tax, which means you generally "start" at a much higher marginal tax rate (the IRS calls this the "stacking rule"). 

Since Foreign Tax Credits are calculated based on average tax rates, but the income gets taxed at the higher "marginal" tax rates, you "lose out" when calculating you foreign tax credits  if you use the exclusion (and have sufficient foreign tax credits).

For example, a taxpayer in the Netherlands (without the 30% ruling) earning $200K might pay $75K in Dutch income tax.  If they use the exclusion, their US tax would be (roughly) based on $200K - $80K = $120K (less deductions and exemptions).  Let's say the "marginal" US tax rate is 30%, or $36K of tax before credits.  The tax after credits would be zero and the Foreign Tax Credit Carryover would be $9K ($75K Dutch tax paid less $30K allocated to excluded income less $36K used as a Foreign Tax Credit).

If the taxpayer did not claim the exclusion, the Dutch tax would remain the same, but the US tax would be based on $200K.  In this case the "average" tax rate might be (again very roughly) around 25%, or $50K (this is lower than the first example because you get to use the lower tax brackets to calculate the average rate).  After applying Foreign Tax Credits, the US tax would still be zero, but the Foreign Tax Credit Carryover would now be $25K ($75K less the $50K used as a Foreign Tax Credit).

Since "excess" tax credits carry over for 10 years, the taxpayer would be leaving $16K "on the table" by taking the exclusion (since the tax due in both cases is zero, but the carryover with the exclusion was $9K and without it was $25K).  In the event the taxpayer then moved back to the US (and continued to have foreign travel days), or to a no tax country such as Dubai, or a very low tax country such as many in Asia, they may have missed out on a huge benefit by unnecessarily using foreign tax credits. 

Sound complicated?  It is.  It turns out this decision is very complex for many taxpayers, not least because you need to know what you are doing for the next several years, because if you do choose to revoke the exclusion, you cannot claim it again until the sixth taxable year after the exclusion was revoked. 

Note:  If you have the "30% ruling" in the Netherlands, it probably doesn't make sense to revoke, but it doesn't hurt to do a quick analysis just in case (we currently do this analysis for all of our clients).

David Colvin is a CPA and CFP^® based in Amsterdam, Netherlands since 1998.  His niche focus is serving high-net-wealth individuals with cross-border tax and financial issues.  In addition to his activities at CLVN, he is a major shareholder of Taxpat BV and an advisor to Maxim Global Wealth Advisors.

Do you pay double tax if your income exceeds the Foreign Earned Income Exclusion?

I frequently get questions about what happens when your wages exceed the amount of the Foreign Earned Income Exclusion ($91,400 for 2009).  A common misconception is that you will then need to pay "double" tax - to the US and also to the Netherlands. 

This is incorrect.  The tax laws and tax treaties are specifically designed so that you only pay tax once on each item of income (either to the US or to the Netherlands).  If your wages exceed the exclusion amount, the remaining income is eligible for Foreign Tax Credits (to the extent that it was earned outside of the US).  What this means is that you are allowed to use the Dutch tax that you pay to offset the US tax on the same income.  As long as the Dutch taxes you paid are higher than the US taxes, you should not owe any additional US tax.

David Colvin is a CPA and CFP^® based in Amsterdam, Netherlands since 1998.  His niche focus is serving high-net-wealth individuals with cross-border tax and financial issues.  In addition to his activities at CLVN, he is a major shareholder of Taxpat BV and an advisor to Maxim Global Wealth Advisors.