Robert Smith, a U.S. citizen, is a salesman who lived and worked in Country X for all of 2008, except for one week he spent in the United States on business. He is single and under 65. He is a cash-basis taxpayer who uses the calendar year as his tax year.
During the year, Robert received income from sources within Country X and the United States.taxmap/pubs/p514-009.htm#en_us_publink10001709
Robert received wages of $2,400 for services performed during the one week in the United States. He also received dividend income of $3,000 from sources within the United States. None of the dividends are qualified dividends.taxmap/pubs/p514-009.htm#en_us_publink10001710
Robert received the following income from Country X during the year and paid tax on the income to Country X on December 31. The conversion rate throughout the year was 2 pesos to each U.S. dollar (2:1).
| ||$100,000 wages||$27,400|
| ||(200,000 pesos)||(54,800 pesos)|
| ||$4,000 dividend income||$450|
| ||(8,000 pesos)||(900 pesos)|
| ||$1,000 interest income||$50|
| ||(2,000 pesos)||(100 pesos)|
Robert is a bona fide resident of Country X and figures his allowable exclusion of foreign earned income on Form 2555, Foreign Earned Income (not illustrated). He excludes $87,600 of the wages earned in Country X. taxmap/pubs/p514-009.htm#en_us_publink10001712
Robert was entitled to the following itemized deductions.
|Interest on home mortgage||$5,900|
|Real estate tax||1,500|
|Employee business expenses|
(See the following discussion for computation.)
Robert paid $3,400 of unreimbursed business expenses, of which $1,000 were definitely related to the wages earned in the United States and $2,400 were definitely related to wages earned in Country X.
Robert must prorate the business expenses related to the wages earned in Country X between the wages he includes on his U.S. tax return and the amount he excludes as foreign earned income. He cannot deduct the part of the expenses related to the income that he excludes. He figures his allowable expenses (related to the wages earned in Country X) as follows:
His employee business expense deduction is $842. This is the difference between his business expenses of $1,298 ($298 + $1,000 from U.S. business trip) and the 2%-of-adjusted- gross-income limit ($456).
Robert must use two Forms 1116 to figure his allowable foreign tax credit. On one Form 1116, he will mark the block to the left of General category income, and figure his foreign tax credit on the wages of $12,400 (Country X wages minus excluded wages). On the other Form 1116, he will mark the block to the left of Passive category income, and figure his foreign tax credit on his interest income of $1,000 and dividend income of $4,000.
Under the later discussions for each part on the Form 1116, Robert's computations are explained for each Form 1116 that must be completed. Both Forms 1116 are illustrated near the end of this publication.taxmap/pubs/p514-009.htm#en_us_publink10001715
Before making any entries on Form 1116, Robert must figure his taxable income on Form 1040.
His taxable income is $10,591 figured as follows:
|Gross Income|| |
|Wages (Country X)||$100,000|
|Less: Foreign earned income exclusion||87,600|
| ||$ 12,400|
|Interest income (Country X)||1,000|
|Dividend income (U.S.)||3,000|
|Dividend income (Country X)||4,000|
|Total (Adjusted gross income)||$22,800|
|Less: Total Itemized Deductions||8,709|
|Taxable income before the |
|Less: Personal Exemption||3,500|
On each Form 1116, Robert enters $14,091 (his taxable income before the personal exemption) on line 17 of Part III. taxmap/pubs/p514-009.htm#en_us_publink10001716
In figuring the limit on both Forms 1116, Robert must separately determine his taxable income from Country X (Form 1116, line 7).taxmap/pubs/p514-009.htm#en_us_publink10001717
On this Form 1116, Robert figures his taxable income from Country X for general category income only. He does not include his passive category income of interest and dividends.taxmap/pubs/p514-009.htm#en_us_publink10001718
Robert enters the wages earned in Country X of $12,400 on line 1a.taxmap/pubs/p514-009.htm#en_us_publink10001719
The unreimbursed employee business expenses related to these foreign source wages included in income are $298, as shown earlier. Robert must determine which part of the 2%-of-adjusted-gross-income limit ($456) is allocable to these employee business expenses. He figures this as follows:
The denominator ($1,298) is the total allowable unreimbursed business expenses ($1,000 + $298). The amount of deductible expenses definitely related to $12,400 of taxable foreign wages is $193 ($298 − $105). He enters $193 on line 2. He attaches this explanation to his Form 1116 that he files with his tax return.
Robert enters $1,500 on line 3a. This is his real estate tax, which is not definitely related to income from any source. Robert must prorate this itemized deduction by using the ratio of gross income from Country X in general category income (line 3d) to his gross income from all sources (line 3e). For this purpose, gross income from Country X and gross income from all sources include the $87,600 of wages that qualify for the foreign earned income exclusion. He figures the ratable part of deductions, $1,359, as follows and enters it on line 3g.
Robert apportions his qualified home mortgage interest, $5,900, to general category income as follows:
|1.||Enter gross foreign source income of the type shown on Form 1116. Do not enter income excluded on Form 2555 ||$12,400|
|2.||Enter gross income from all sources. Do not enter income excluded on Form 2555 ||$22,800|
|3.||Divide line 1 by line 2 and enter |
the result as a decimal
|4.||Enter deductible home mortgage interest (from Schedule A (Form 1040))||$ 5,900|
|5.||Multiply line 4 by line 3. Enter the result here and on Form 1116, |
Robert enters this amount, $3,209 on line 4a.
Robert adds the amounts on lines 2, 3g, and 4a, and enters that total ($4,761) on line 6.taxmap/pubs/p514-009.htm#en_us_publink10001723
He subtracts the amount on line 6 from the amount on line 1a to arrive at foreign source taxable income of $7,639 in this category. Robert enters this amount on line 7.taxmap/pubs/p514-009.htm#en_us_publink10001724
On this Form 1116, Robert determines the taxable income from Country X for passive interest and dividend income.taxmap/pubs/p514-009.htm#en_us_publink10001725
He adds the $1,000 interest income and the $4,000 dividend income ($5,000) from Country X and enters the total ($5,000) on line 1a. None of the dividends are qualified dividends.taxmap/pubs/p514-009.htm#en_us_publink10001726
Robert figures the part of his itemized deduction (real estate tax) allocable to passive category income as follows and enters the amount on line 3g.
| $5,000 |
Robert apportions the qualified home mortgage interest to passive category income as follows:
|1.||Enter gross foreign source income of the type shown on Form 1116. Do not enter income excluded on Form 2555|| ||$ 5,000|
|2.||Enter gross income from all sources. Do not enter income excluded on Form 2555|| ||$22,800|
|3.||Divide line 1 by line 2 and enter |
the result as a decimal
|4.||Enter deductible home mortgage interest (from Schedule A (Form 1040))|| ||$ 5,900|
|5.||Multiply line 4 by line 3. Enter the result here and on Form 1116, line 4a|| ||$ 1,294|
He enters this amount, $1,294, on line 4a.
Robert adds the amounts on lines 3g and 4a and enters that total ($1,362) on line 6.taxmap/pubs/p514-009.htm#en_us_publink10001729
He subtracts the amount on line 6 from the amount on line 1a to arrive at foreign source taxable income of $3,638 in this category. Robert enters this amount on line 7.taxmap/pubs/p514-009.htm#en_us_publink10001730
Robert uses Part II, Form 1116, to report the foreign tax paid or accrued on income from foreign sources.taxmap/pubs/p514-009.htm#en_us_publink10001731
On this Form 1116, Robert enters the amount of foreign taxes paid (withheld at source), in foreign currency and in U.S. dollars, on the wages from Country X.taxmap/pubs/p514-009.htm#en_us_publink10001732
On this Form 1116, Robert enters the amount of foreign taxes paid, in foreign currency and in U.S. dollars, on the interest and dividend income.taxmap/pubs/p514-009.htm#en_us_publink10001733
Robert figures the amount of foreign tax credit in Part III on each Form 1116.taxmap/pubs/p514-009.htm#en_us_publink10001734
On this Form 1116, Robert figures the amount of foreign tax credit allowable for the foreign taxes paid on his wages from Country X.taxmap/pubs/p514-009.htm#en_us_publink10001735
He has a carryover of $200 for unused foreign taxes paid in 2007 and enters that amount on line 10. He attaches a schedule showing how he figured his $200 carryover to 2008 after carrying back the unused $350 tax paid in 2007 to the first preceding tax year. (This schedule is shown in Table 6.) The unused foreign tax in 2007 and the excess limit in 2006 are general category income. The unused foreign tax of $200 is carried over to general category income in 2008.taxmap/pubs/p514-009.htm#en_us_publink10001736
On line 12, Robert must reduce the total foreign taxes paid by the amount related to the wages he excludes as foreign earned income. To do this, he multiplies the $27,400 foreign tax he paid on his foreign wages by a fraction. The numerator of the fraction is his foreign earned income exclusion ($87,600) minus a proportionate part of his definitely related business expenses ($2,400 − $298 = $2,102). The denominator of the fraction is his total foreign wages ($100,000) minus his total definitely related business expenses ($2,400).
|$27,400||×|| $87,600–$2,102 |
He enters the result, $24,003 on line 12.
His total foreign taxes available for credit are $3,597 ($200 carryover from 2007 + $3,397 paid in 2008 ($27,400 − $24,003)). taxmap/pubs/p514-009.htm#en_us_publink10001738
By completing the rest of Part III, Robert finds that his limit is $1601.taxmap/pubs/p514-009.htm#en_us_publink10001739
The foreign tax credit on the general category income is the lesser of the foreign tax available for credit, $3,597, or the limit, $1601. taxmap/pubs/p514-009.htm#en_us_publink10001740
Robert now figures the foreign tax credit allowable for the foreign taxes he paid on his interest and dividend income from Country X.
By completing Part III of Form 1116, he finds that the limit on his credit is $763.
The foreign tax credit is the lesser of the foreign tax paid, $500, or the limit, $763.taxmap/pubs/p514-009.htm#en_us_publink10001741
Robert summarizes his foreign tax credits for the two types of income on Part IV of the Form 1116 with the largest amount on line 21. He uses the Part IV of Form 1116—General category income.
Robert leaves line 28 blank because he did not participate in or cooperate with an international boycott during the tax year. The allowable foreign tax credit is $2,101($500 + $1,601), shown on line 29. He also enters this amount on Form 1040, line 47.
Table 6. Robert's Schedule Showing Computation of His Carryover
|Maximum credit allowable under limit||$750||$1,200|
|Foreign tax paid in tax year|| 600|| 1,550|
|Unused foreign tax (+) to be carried over or excess of limit (-) over tax||−$150||+$350|
|Tax credit carried back from 2007|| 150|| |
|Net excess tax to be carried over to 2008||0||+$350|
|Less carrybacks to 2006||150|
|Amount carried over to 2008||$200|