Purpose Of The IRS Form 2555
With kudos to the IRS Form 2555 and the foreign earned income exclusion benefit, many U.S. expats working overseas don’t have to pay U.S. income tax on their earnings. If you qualify, you can use IRS Form 2555 to figure your foreign earned income exclusion and your housing exclusion. You cannot exclude or deduct more than your foreign earned income for the year.
Let’s take a quick peek at this valuable tax break for your federal tax return and how you can take advantage of this tax savings.
IRS Form 2555 And Worldwide Income
If you are a U.S. citizen or a U.S. resident alien living in a foreign country, you are subject to the same U.S. income tax laws that apply to citizens and resident aliens living in the United States in that you are subject to US tax reporting and taxation on your worldwide income. If you qualify to claim the foreign earned income exclusion on the IRS Form 2555, the exclusion will not apply until it is claimed by filing this form.
Who Qualifies For The Foreign Earned Income Exclusion
You qualify for the foreign earned income exclusion available to taxpayers who have foreign earned income if both of the following apply.
- You meet the tax home test and
- You meet either the bona fide residence test or the physical presence test
Tax home test. To meet this test, your tax home must be in a foreign country, or countries, throughout your period of bona fide residence or physical presence, whichever applies. For this purpose, your period of physical presence is the 330 full days during which you were present in a foreign country, not the 12 consecutive months during which those days occurred.
Your tax home is your regular or principal place of business, employment, or post of duty, regardless of where you maintain your family residence. If you do not have a regular or principal place of business because of the nature of your trade or business, your tax home is your regular place of abode (the place where you regularly live).
You are not considered to have a tax home in a foreign country for any period during which your abode is in the United States. However, if you are temporarily present in the United States, or you maintain a dwelling in the United States (whether or not that dwelling is used by your spouse and dependents), it does not necessarily mean that your abode is in the United States during that time.
The idea behind the tax home test is that the exclusion isn’t intended to help short-term temporary workers but rather those who permanently relocate overseas.
Bona Fide Residence Test
To meet this test, you must be one of the following:
- A U.S. citizen who is a bona fide resident of a foreign country, or countries, for an uninterrupted period that includes an entire tax year (January 1–December 31, if you file a calendar year return), or
- A U.S. resident alien who is a citizen or national of a country with which the United States has an income tax treaty in effect and who is a bona fide resident of a foreign country, or countries, for an uninterrupted period that includes an entire tax year (January 1–December 31, if you file a calendar year return). See IRS Publication 901 , U.S. Tax Treaties, for a list of countries with which the United States has an income tax treaty in effect.
Whether you are a bona fide resident of a foreign country depends on your intention about the length and nature of your stay. Evidence of your intention may be your words and acts. If these conflict, your acts carry more weight than your words. Generally, if you go to a foreign country for a definite, temporary purpose and return to the United States after you accomplish it, you are not a bona fide resident of the foreign country. If accomplishing the purpose requires an extended, indefinite stay, and you make your home in the foreign country, you may be a bona fide resident.
Physical Presence Test
To meet this test, you must be a U.S. citizen or resident alien who is physically present in a foreign country, or countries, for at least 330 full days during any period of 12 months in a row. A full day means the 24-hour period that starts at midnight.
The 12-month period on which the physical presence test is based must include 365 days, part of which must be in the tax year being reported. The dates may begin or end in a calendar year other than the tax year being reported as long as part of the 12-month period includes a portion of the tax year being reported.
U.S. expats face a number of unique challenges that most U.S. workers and taxpayers in the U.S. never have to address. The foreign earned income exclusion is a nice tax break, but in it also complicates your U.S. tax return, but it is well worth the savings in having to pay taxes twice on the same income.
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Tax Samaritan is a team of Enrolled Agents with over 25 years of experience focusing on US tax preparation and representation. We maintain this tax blog where all articles are written by Enrolled Agents. Our main objective is to educate US taxpayers on their tax responsibilities and the selection of a tax professional. Our articles are also designed to help taxpayers looking to self prepare, providing specific tips and pitfalls to avoid.
When looking for a tax professional, choose carefully. We recommend that you hire a credentialed tax professional such as Tax Samaritan that is an Enrolled Agent (America’s Tax Experts). If you are a US taxpayer overseas, we further recommend that you seek a professional who is experienced in expat tax preparation, like Tax Samaritan (most tax professionals have limited to no experience with the unique tax issues of expat taxpayers).
Randall Brody is an enrolled agent, licensed by the US Department of the Treasury to represent taxpayers before the IRS for audits, collections and appeals. To attain the enrolled agent designation, candidates must demonstrate expertise in taxation, fulfill continuing education credits and adhere to a stringent code of ethics.
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