One of the most common concerns people have about becoming an expat is that the taxes will be astronomical. After all, you will likely need to pay taxes in your new country of residence as well as file a federal US tax return, as is required of all US citizens and residents. But with the right tax strategy, you can often eliminate the risk of double taxation — and one of the most powerful tools at your disposal is the Foreign Housing Exclusion (FHE).
Below, we’ll go over what the FHE is, what it covers, who qualifies for it, how to claim it, and more. Read on for the full download!
What is the Foreign Housing Exclusion?
The Foreign Housing Exclusion is a tax exclusion that allows US citizens or residents living abroad to exempt reasonable housing expenses from income that would otherwise be subject to taxes — ultimately helping to minimize your tax liability.
What counts as a reasonable housing expense?
There are a number of different housing expenses that are FHE-approved, including:
- Utilities (e.g. water, electricity)
- Necessary repairs
- Property insurance
- Application fees
- Occupancy taxes
- Residential parking fees
- Rental of furniture and accessories
A few things that don’t count as reasonable expenses include:
- Purchased furniture
- Phone, internet, and TV/streaming services
- Mortgage payments
- Cleaning or nannying services
- Renovations designed to increase the value of the property
- Excessively lavish or extravagant expenses
If you’re unsure of whether an expense is considered reasonable, check with a tax professional.
Who qualifies for the Foreign Housing Exclusion?
To pass the bona fide residency test, you must be able to provide evidence that you have been a tax resident of another country for at least one full tax year. Things like rental contracts, utility bills, employment contracts, visas, or foreign tax returns can all demonstrate that you are a bona fide resident.
To pass the physical presence test, you must be able to prove that you spent a minimum of 330 days during any 365-day period outside of the US.
In addition, the FHE can only be applied to income received from an employer — if you’re self-employed, you would instead claim the Foreign Housing Deduction.
Should a husband and wife split the Foreign Housing Exclusion?
Married couples sometimes wonder, “Can we both claim the foreign housing exclusion?” If you live in the same household, however, you won’t be able to. You can either file a joint tax return with an FHE claim or file individual returns with only one claiming the FHE.
If you live in separate households, on the other hand, you can file separate claims with each partner claiming the FHE for their respective household. However, your households can’t be within commuting distance of one another. And keep in mind that there are many benefits to filing jointly, so filing separate returns with their own FHE claims isn’t guaranteed to be a better option than filing jointly with one FHE claim.
How is the Foreign Housing Exclusion different than the Foreign Earned Income Exclusion?
While the FHE and FEIE share the same requirements and are both designed to provide relief against double taxation for US citizens and residents abroad, they are two separate exclusions. The FHE allows you to exclude expenses related to housing from your foreign-earned income. Whereas the FEIE allows you to exclude a certain amount of foreign-earned income from taxation.
Despite the fact that they are two separate exclusions, there’s no need to choose between one or the other — you can claim both.
What are the Foreign Housing Exclusion & Foreign Earned Income Exclusion limits?
While the FHE and FEIE are both quite generous, there are limits on how much they cover. The FEIE limit changes each year, but for 2023, it can be applied to the first $120,000 of your earned income.
The FHE is typically capped at 30% of the FEIE limit — applied to 2023, then the limit would be $36,000. Your FHE write-off is also not allowed to exceed your total earned income for the tax year. So if you’re wondering, “Can the Foreign Housing Exclusion be more than my income exclusion?” the answer is no. Adding one more caveat in the mix – different limits for different locations exist as well! For specific amounts, reference the Form 2555 instructions found on the IRS website.
How to Calculate the Foreign Housing Exclusion
Your total FHE amount will include the total of your eligible foreign housing expenses in the year minus the base housing amount. To get your base housing amount, take 16% of the FEIE maximum (again, $120,000 for 2023) divided by 365 (or 366 for leap years), then multiply by the number of qualified days — that is, the number of days you met either the bona fide residence or physical presence test — in the last tax year.
For those of you who are visual learners, that would look a little like this:
FHE Total = Eligible Expenses – Base Housing Amount
Base Housing Amount = [(.16 × FEIE Max) ÷ 365] × Number of Qualified Days
Let’s say you pay $25,000 in eligible expenses and have 345 qualified days in 2023:
Base Housing Amount: [(.16 × $120,000) ÷ 365] × 345 = $18,148
FHE Total: $25,000 – $18,148
Ultimately, you would be able to claim an FHE of $6,852.
What about the maximum FHE you could claim in 2023, assuming all 365 days of the year were qualified and taking into account that the maximum you can claim in eligible expenses is 30% of the FEIE limit?
Base Housing Amount: [(.16 × $120,000) ÷ 365] × 365 = $19,200
FHE Total: (.30 × $120,000) – $19,200
So the highest anyone’s FHE claim could possibly be is $16,800.
How to Claim the Foreign Housing Exclusion
To claim the FHE, you’ll have to claim the FEIE, which you can do by filing IRS Form 2555 along with your US tax return. The form consists of nine parts in total:
- Part I: Personal details like your name and full foreign address
- Part II: Start dates, end dates (if applicable), and other details of your bona fide residence
- Part III: Log of the dates you spent in and outside of the US as part of your physical presence test and other details related to your stays
- Part IV: Details of the income you earned outside of the US
- Part V: Indicate whether you plan to claim the FHE
- Part VI: Calculate your FHE
- Part VII: Calculate your FEIE
- Part VIII: Enter the total of your FEIE and FHE if you plan on claiming it
- Part IX: Calculate your Foreign Housing Deduction, if self-employed
You can also find a step-by-step guide to filling out the IRS Form 2555 here.
Get Help With the FHE & Beyond
Need help figuring out the FHE, FEIE, or just completing your taxes in general? The Bright!Tax team is full of experts on expat taxes who can work with you to file your return accurately and on time, all while making the most of any tax breaks available to you.
Reach out today to learn more or get started!