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An Introduction to US Foreign Tax Credits: The Transcript

An Introduction to US Foreign Tax Credits: The Transcript

Did you happen to miss our webinar on US foreign tax credits, its many baskets, the foreign earned income exclusion and more?

If so, don't worry, as we've just released the event's full transcript.


A special thanks to our rock-star panelists, who were:

- John Richardson, Lawyer, Citizenship Solutions, Canada

- Dr. Karen Alpert, Finance Lecturer, University of Queensland Business School, Australia

Find below a few of the event's main highlights.

What's the substantial presence test?

Dr. Karen Alpert, Finance Lecturer, University of Queensland Business School, AustraliaKaren Alpert: "First of all, if you have 183 days in the US, you have passed the substantial presence test and you might become a resident alien. The only time you wouldn't, is if you're on a special visa like a student visa that says that you aren't subject to the substantial presence test. But even if you're not subject to that substantial presence test and you're there for 183 days, the source of the capital gains becomes the US and the US wants to collect tax on the entire gain."

What's the foreign earned income exclusion?

Karen Alpert: "The first thing everyone will tell you, 'Hey, you're so lucky you'll get to exclude that employment income.' That's the one thing most Americans know about the taxation of US expats, that there is a foreign earned income exclusion. Probably more people know about that than anything else. In 2019, you can exclude the first 105,900 dollars of foreign earned income from your US taxes. But that doesn't rule out paying tax where you live. You can do that instead of taking out a foreign tax credit for that income."

John Richardson, Lawyer, Citizenship Solutions, CanadaJohn Richardson: "A couple of mistakes I see all the time. First of all, a tremendous number of people include investment income under the foreign earned income exclusion. It's very common to do that. I guess don't do that. But the second thing that's interesting, is that a lot of people running a small business, let's say their revenue is 200 thousand dollars and their profit is 100 thousand dollars, would include the 100 thousand dollar figure under the foreign earned income exclusion."

How does the foreign earned income exclusion differ from the foreign tax credit?

Karen Alpert: "If your foreign tax rate is less that the US tax rate, the exclusion may be good because it's going to eliminate US tax that will not be eliminated completely by the foreign tax credit. But if you're in a country like Australia, Canada, most of Europe, where the foreign tax rate is higher than the US federal tax rate, then by using the foreign tax credit, you will be generating excess credit and you will have to pay more taxes where you live than the US is going to charge."

John Richardson: "The transition tax is where the US made up some fake income and forced people to put it in as real income on their tax return, so they would have to pay real tax on fake income. There were a number of people who had these credits that they carried forward and said, 'Oh, really? I will pay that real tax generated on the fake income by past tax credits.'"

How can one apply foreign tax credits to the sale of principal residence?

John Richardson: "The principal residence is a consistent problem for Americans abroad in all countries that do not tax the gain on the sale of the principal residence. There's a 250 thousand dollar exclusion and, in our conversation yesterday, you said it might be good for them to move every few years to make sure they're without gain. But the point is that, for Americans abroad, they are either downwardly mobile people because they have to pay a capital gains tax when they sell or they are permanently mobile people because they have to move and move and move."

How is income that has been resourced by treaty handled?

Karen Alpert: "So basically what we're talking about here is US-sourced income. So a good example is dividends on your Apple stock. That's clearly US-sourced income. But if you're an Australian resident, the Australian treaty says that for non-US citizens, the US has the right to tax 15% of dividends. The Australian treaty in article 27 has a provision that says that any tax that the US has that's in excess, or that's due solely to being applied based on citizenship taxation and the savings clause, the US has to allow a credit for Australian tax paid other than that 15%."

John Richardson: "The resourcing is by far the most complex area and it depends on the kind of income and the kind of treaty… I think the bottom line on the resourcing, it's an extremely broad area, and the general principle is to define US income as foreign income for the purposes of the treaty, which then generates foreign tax and that foreign tax can then be used to offset the US tax on it."

Happy reading!