Foreign Tax Credit vs Foreign Earned Income Exclusion: Can You Use Both?

So you’ve moved abroad—traded in your U.S. zip code for a new country, a new life, maybe even a better coffee. But one thing you didn’t leave behind? The IRS. U.S. citizens are taxed on their worldwide income, no matter where they live.

The good news: Uncle Sam does throw expats a couple of lifelines. One is the Foreign Earned Income Exclusion (FEIE), which lets you exclude a chunk of your salary from U.S. tax. The other is the Foreign Tax Credit (FTC), which gives you dollar-for-dollar credit for income taxes you already paid abroad.

The tricky part is figuring out which option cuts your bill the most—and whether you can combine them for an even better result. Spoiler: sometimes, yes. But the strategy depends on your income, your host country’s tax rates, and how clever you are about mixing and matching the rules.

What is the Foreign Earned Income Exclusion (FEIE)?

The Foreign Earned Income Exclusion is a U.S. tax rule that lets qualifying Americans abroad exclude a chunk of their foreign earned income from U.S. tax—for 2025, up to $130,000 per person. You claim it on IRS Form 2555 with your U.S. return.

How it works (the essentials)

• What it covers: Salary, wages, and self-employment income from a foreign source.
• What it doesn’t: Investment income (e.g., dividends, capital gains, interest), pensions, Social Security, and U.S.-source pay aren’t “earned” for FEIE purposes.
• Where to claim: Form 2555 (you can also add the Foreign Housing Exclusion/Deduction if you qualify).

Who qualifies

• Pass one test: the Bona Fide Residence Test (resident of a foreign country for an uninterrupted tax year) or the Physical Presence Test (≥330 full days abroad in any 12-month period).
• Your tax home must be in a foreign country during the qualifying period.

Key nuances smart expats care about

• 2025 limit: $130,000 per qualifying taxpayer (indexed annually).
• SE tax still applies: FEIE doesn’t reduce self-employment (Social Security/Medicare) tax on Schedule SE.
• No double-dipping: Income you exclude with FEIE can’t also generate a Foreign Tax Credit (FTC). Use FEIE for some income and FTC (Form 1116) for other income if that optimizes your outcome.
• Housing tie-in: The Foreign Housing Exclusion/Deduction is computed off the FEIE limit and can add meaningful savings in high-cost cities.

What is the Foreign Tax Credit (FTC)?

The Foreign Tax Credit is a U.S. tax provision that lets Americans abroad claim a dollar-for-dollar credit for foreign income taxes they’ve already paid. Instead of excluding income (like the FEIE), it directly reduces your U.S. tax bill. You claim it on Form 1116 with your U.S. return.

How it works (the essentials)

• What it covers: Foreign income taxes paid on wages, self-employment income, passive income (dividends, interest, royalties), and general category income.
• What it doesn’t: It won’t generate a refund if the credit is larger than your U.S. liability—it can only reduce your tax to zero.
• Where to claim: IRS Form 1116, attached to your U.S. income tax return.

Who qualifies

• Any U.S. taxpayer—citizens, resident aliens, or expats—who paid or accrued foreign income tax.
• You don’t need to meet residence or physical presence tests; eligibility is based on paying or owing foreign income taxes.

Key nuances smart expats care about

• Carryovers: Unused credits can be carried back one year or forward up to 10 years.
• Flexibility: Unlike FEIE, the FTC can apply to both earned income and investment income.
• High-tax advantage: Expats in high-tax countries often rely on the FTC to eliminate U.S. tax liability entirely.
• FEIE coordination: Income excluded under FEIE (Form 2555) can’t also be used to generate FTC. Many expats combine strategies—FEIE for wages, FTC for passive income—for maximum tax benefits.

Foreign Tax Credit vs Foreign Earned Income Exclusion: Key differences

Both the FEIE and FTC aim to keep U.S. expats from double taxation, but they take very different approaches. The FEIE cuts income out of your taxable base, while the FTC directly chips away at the federal income tax you owe on your U.S. tax return.

That difference shapes how each one plays out in practice:

• Income levels matter. The FEIE has a hard cap—$130,000 in 2025—while the FTC scales with your U.S. tax rate and the amount of foreign tax you’ve already paid. High earners in high-tax countries usually benefit more from the FTC.
• Country of residence counts. In a low-tax country (think UAE), the FEIE may deliver bigger relief. In high-tax countries (think Germany or France), the FTC often wipes out U.S. liability entirely.
• Self-employment tax stays sticky. The FEIE won’t touch it—you’ll still owe U.S. Social Security and Medicare. The FTC can sometimes help if you’re also paying into a foreign system covered by a totalization agreement.
• Collateral effects. Claiming the FEIE can limit access to other tax breaks like the Child Tax Credit, while the FTC usually leaves them intact.

In short: the FEIE is a blunt but simple tool, while the FTC is more flexible and powerful in the right circumstances. The best choice depends on your mix of income, where you live, and how your foreign source income is taxed abroad.

Can you use both the FTC and FEIE?

The FEIE and FTC aren’t mutually exclusive, but you need to use them carefully.

Here’s the rule: you cannot claim the Foreign Tax Credit on income you’ve already excluded under the Foreign Earned Income Exclusion (Form 2555). In other words, no double-dipping. But you can split your income by type or category and apply the best tool for each.

Example: Say you earn $140,000 in self-employment income while living abroad and also have $5,000 in foreign capital gains.

• You could exclude $130,000 of wages with the FEIE.
• The remaining $10,000 of wages, plus the $5,000 in capital gains, would still be taxable income.
• On that portion, you can use the Foreign Tax Credit (Form 1116) to offset U.S. tax with foreign taxes paid.

This mix-and-match approach often delivers the lowest U.S. tax bill, especially for expats in high-tax countries or those with a blend of earned and passive income. Just be prepared for extra paperwork: separate forms are required for each income category.

Which is better for U.S. citizens abroad?

There’s no one-size-fits-all answer to the FEIE vs. FTC debate—it depends on where you live, how much you earn, and what kind of income you have.

• Low-tax countries: The Foreign Earned Income Exclusion (Form 2555) often provides the most relief, since you’re not paying much to a local tax authority.
• High-tax countries: The Foreign Tax Credit usually wins, because it credits the significant foreign taxes you’re already paying, often wiping out most or all of your U.S. tax bill.
• Mixed situations: Many expats combine the two—excluding wages under the FEIE while applying the FTC to dividends, rental income, or capital gains.

The smart move is to run the numbers both ways. Use the IRS worksheets or—better yet—work with a tax professional who can compare strategies and make sure you’re not leaving money on the table.

Mistakes to avoid

The Foreign Earned Income Exclusion and the Foreign Tax Credit are powerful tools for reducing your U.S. tax bill abroad—but they’re also easy to misuse. The rules are packed with fine print, and one wrong move can cost you credits, future savings, or even compliance. Expats who rush through their tax filing without a strategy often leave money on the table or trigger avoidable IRS headaches.

Some of the most common mistakes include:

• Double-dipping confusion: Trying to exclude income under the FEIE and claim the FTC on that same income.
• Currency slip-ups: Forgetting to convert balances and taxes paid into U.S. dollars using official IRS exchange rates.
• Overusing FEIE: Applying the FEIE to all earned income and missing out on valuable carryforward credits available under the FTC.
• Retirement blind spots: Lower reported income under the FEIE can limit IRA contributions or affect future Social Security benefits.
• DIY errors: Filing incorrectly without guidance from a tax guide or professional can create more problems than it solves.

Your expat tax power play

When it comes to Foreign Tax Credit vs. Foreign Earned Income Exclusion, there’s no one-size-fits-all answer. The right move depends on your income, your host country, and the type of income you’re reporting. For many expats, the best strategy is a mix of both.

What’s certain? The rules are complex, and mistakes can be costly.

Bright!Tax makes it simple. Our CPAs specialize in helping Americans abroad navigate FEIE, FTC, and every other expat tax twist. Ready to cut through the confusion and lower your U.S. tax bill? Reach out today and let’s get started.

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