U.S. citizens and resident aliens living outside the United States may want to take the advantage of Foreign Earned Income Exclusion (FEIE). This is an exclusion that allows qualified US expats to exclude up to $107,600 from 2020 US taxes ($108,700 on 2021 US taxes) of their income from their US expat taxes. This tax break is popular for both short-term and permanent expats.
Form 2555, Foreign Earned Income
In order to claim the Foreign Earned Income Exclusion, you must fill out Form 2555 and attached it to your US tax return. Each expat is required to complete their own Form 2555, so if you’re a husband and wife working and living abroad, you’ll complete two forms to attach to your joint US expat taxes. Most of the information will likely be the same if you live and travel together, but the IRS will consider each Foreign Earned Income Exclusion claim separately.
Physical Presence Test and Bona Fide Residence Test
To be eligible for the foreign earned income exclusion, you must have a tax home in a foreign country and be a U.S. citizen or resident alien. You must also be either a bona fide resident of a foreign country or countries for an uninterrupted period that includes an entire tax year (Bona Fide Residence Test), or you must be physically present in a foreign country or countries for at least 330 full days during any period of 12 consecutive months (Physical Presence Test).
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 consecutive months. A full day means the 24-hour period that starts at midnight.
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).
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.
The two tests differ in that one is based exclusively on physical presence while the other is based on a taxpayer’s intentions.
What is Foreign Earned Income?
The Foreign Earned Income Exclusion only applies to earned income. Earned income is pay for personal services performed, such as wages, salaries, bonuses, tips, commissions or professional fees. This means if you have dividends, interest, capital gains, social security benefits, pensions or annuities, they cannot be claimed on the FEIE.