Case Study: Taxation of Foreign Income for U$.$S$.$ Citizens and Residents

Scenario:

Sarah is a U$.$S$.$ citizen who has been living and working in Germany for the past five years. During her time in Germany, she has earned income from her job as a software engineer, as well as rental income from a property she owns in the United Kingdom. As tax season approaches, Sarah is unsure about how her foreign income will be taxed by the U$.$S$.$ government.

Analysis:

Foreign Earned Income Exclusion:

U$.$S$.$ citizens and residents living abroad, like Sarah, may be eligible for the Foreign Earned Income Exclusion $($FEIE$).$ This allows them to exclude a certain amount of their foreign earned income from U$.$S$.$ taxation.

For tax year $2023,$ the maximum exclusion amount is $$108,700.$ This means that Sarah can exclude up to $$108,700$ of her foreign earned income from her U$.$S$.$ tax return.

Housing Exclusion or Deduction:

In addition to the FEIE, Sarah may also qualify for the Foreign Housing Exclusion or Deduction. This allows her to exclude or deduct certain housing expenses incurred while living abroad.

The housing exclusion is limited to $30\%$ of the FEIE amount, while the housing deduction is subject to various limitations based on factors like income and location.

Foreign Tax Credit:

If Sarah pays taxes to a foreign country on her foreign earned income, she may be eligible for the Foreign Tax Credit $($FTC$).$ This allows her to offset her U$.$S$.$ tax liability by the amount of foreign taxes paid.

Sarah will need to file Form $1116$ to claim the foreign tax credit, providing details of the foreign taxes paid and the income to which they relate.

Reporting Foreign Assets:

Sarah is also required to report any foreign financial accounts or assets that she owns or has signature authority over if their aggregate value exceeds certain thresholds.

Failure to report foreign assets can result in significant penalties, so Sarah must ensure she complies with all reporting requirements.

Question:

Based on the case study, which tax provision allows U$.$S$.$ citizens and residents living abroad to exclude a certain amount of their foreign earned income from U$.$S$.$ taxation?

A$)$ Foreign Tax Credit

B$)$ Foreign Earned Income Exclusion

C$)$ Foreign Housing Exclusion

D$)$ Foreign Housing Deduction