Foreign Tax Credit
Updated on April 23, 2025
Reviewed By
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Table of Contents
What is the Foreign Tax Credit?
The Foreign Tax Credit (FTC) is a non-refundable credit that offsets income taxes paid to a foreign government. It is designed to reduce US tax liability for individuals living and working abroad or those earning foreign investment income.
This tax credit helps prevent double taxation by allowing US taxpayers to claim credits for taxes paid to another country.
How does it work?
The Foreign Tax Credit directly reduces the tax amount you owe, unlike a deduction that lowers your taxable income. While some tax credits are refundable, the FTC is not.
For instance, if you have been reporting foreign income and assets on which you owe US$2,000 in taxes and qualify for a US$1,000 FTC, your tax liability will be reduced to US$1,000. This effectively ensures that you do not pay taxes twice on the same income.
What is the difference between tax credits and deductions?
A tax credit directly reduces the amount of tax owed, dollar-for-dollar. For example, a US$1,000 tax credit reduces your tax bill by US$1,000.
A tax deduction, on the other hand, reduces your taxable income, which in turn lowers the amount of tax you owe. For example, if you are in the 22% tax bracket and claim a US$1,000 deduction, it lowers your taxable income by US$1,000, effectively saving you US$220 in taxes.
Can I claim the Foreign Tax Credit?
If you are a US citizen or resident alien, the credit is generally available to you. Here are the eligibility criteria for the FTC:
- Be a US citizen or resident alien.
- Have paid or accrued income tax or capital gains tax to a foreign government.
- Have foreign-source income on which the tax was imposed.
If you reside in the US but still pay taxes to a foreign country, you may also be eligible to claim the credit or opt for a deduction.
What are qualifying foreign taxes?
Not all foreign taxes qualify for the Foreign Tax Credit. To be eligible, the tax must meet the following conditions:
- Legally imposed: The tax must be a foreign tax you are legally obligated to pay.
- Paid or accrued: The tax must have been either paid or accrued during the tax year.
- Income-based: The tax must be based on income, war profits, or excess profits. Generally, income taxes, capital gains taxes, and certain withholding taxes qualify.
- Not eligible for a refund: If you receive a refund or credit for the tax from the foreign government, you cannot claim it for the FTC.
How much Foreign Tax Credit can I claim?
Foreign Tax Credit is a dollar-for-dollar reduction, but the amount you claim cannot exceed your total US tax liability multiplied by a certain fraction.
The numerator of this given fraction is your taxable income from foreign sources (outside of the US), and the denominator is your total taxable income from combined US and foreign sources.
Need help claiming the Foreign Tax Credit? Contact us today.
How do I calculate for the FTC?
Here’s an example calculation for the Foreign Tax Credit (FTC):
Mark, a US citizen in Canada, has a total taxable income of US$100,000, including in that amount a US$50,000 of Canadian-sourced income. He paid the Canadian government US$12,000 (already converted) in taxes and his current US tax liability is US$20,000.
The Foreign Tax Credit Limit is calculated using the formula:
Mark’s FTC limit = (Foreign taxable income/Total taxable income) × US tax liability
Mark’s FTC limit = (US$50,000/US$100,000) × US$20,000
Mark’s FTC limit = US$10,000
So Mark’s FTC limit is US$10,000 and he can only claim that instead of the whole US$12,000. However, since Mark paid US$12,000 in foreign taxes but could only claim $10,000, the remaining US$2,000 can be carried forward to future years to offset future US tax liabilities.
This is called a carryover of unused foreign tax.
How many years can I carryback or carryforward my Foreign Tax Credit?
For Foreign Tax Credit, you can carryback one tax year and carry forward up to 10 years if you don’t use the full credit in the carryback year or the current year.
Take note that any foreign tax credit that remains unused after 10 years expires and can no longer be used to offset US taxes.
How can I claim a Foreign Tax Credit?
If you want to claim FTC, you need to file Form 1116 with your tax return. This form is specifically for that purpose if you’re an individual, estate, or trust. If you are filing on behalf of a corporation, file Form 1118, Foreign Tax Credit—Corporations.
Here’s the process of claiming the FTC:
- Gather necessary forms: Collect your foreign tax returns and the necessary documents that show the amount of foreign income and taxes you paid.
- Fill out Form 1116 or 1118: The form will require you to supply specific details about your foreign income and the taxes you’ve already paid. The IRS uses this form to calculate the amount of credit you are entitled to claim.
- File your US tax return: You will file the completed form along with your US tax return (Form 1040). The amount of the Foreign Tax Credit will be applied to your US tax liability.
Can I be exempt from the Foreign Tax Credit limit?
Yes, you can if you meet the following conditions:
- Your qualified foreign taxes for the tax year do not exceed US$300 if filing individually or US$600 if filing a joint return.
- For the tax year, your only foreign source gross income is passive.
- All of your gross foreign income and foreign taxes are reported on a payee statement, such as Form 1099-DIV or 1099-INT.
- You elect this procedure for the tax year. When making this election, you cannot carry over any unused foreign tax to the next tax year.
Foreign Tax Credit vs. Foreign Earned Income Exclusion?
Both the Foreign Tax Credit (FTC) and the Foreign Earned Income Exclusion (FEIE) help US taxpayers minimize tax liabilities when earning income abroad. But they differ in nature and treatment.
- Foreign Earned Income Exclusion (FEIE): Allows qualifying individuals to exclude a portion of their foreign income from US taxation. For 2025, the exclusion limit is US$130,000.
- Foreign Tax Credit (FTC): Provides a dollar-for-dollar credit for taxes paid on foreign income, reducing the US tax bill.
Can I use both?
Yes, but not on the same dollar of income. The FTC can only be applied to foreign income that exceeds the exclusion limit under the FEIE. This means a taxpayer can use the FEIE to exclude income up to the threshold and then apply the FTC to additional foreign income beyond that.
