The IRS Foreign Earned Income Exclusion for US Expats in 2023: A Complete Guide

12/09/2021

Updated February 1, 2023

The US is one of just two countries in the world with a citizen-based taxation system. Under this system, all citizens and permanent residents must file tax returns regardless of where in the world they live. Unfortunately, this means that expats are often required to file taxes (and are sometimes subject to taxation) by two countries: the US, and the country where they work and reside. Fortunately, there are a number of provisions that can help US expats avoid double taxation. One of the most important and useful of these provisions is called the Foreign Earned Income Exclusion (FEIE).

In this article, we’ll go over the FEIE in-depth: what it is, who qualifies, how to claim it, and more.

Note: The recommendations in this article apply to filing the Foreign Earned Income Exclusion for the 2022 tax year (in other words, the taxes you file in 2023!).

What is the Foreign Earned Income Exclusion?

The FEIE is an IRS exemption that American expats can claim when they file their US tax return from abroad. The provision in many cases allows expats to drastically reduce (or completely eliminate) their US tax bill. The FEIE allows expats to exempt a certain amount of their income from taxation. The precise amount increases a little bit each year to account for inflation, and the FEIE threshold for the 2022 tax year is $112,000.

Let’s consider how the Foreign Earned Income Exclusion works with different types of income:

Earned income

Expats should note, however, that the FEIE can only be used to exclude earned income. Earned income is income that comes from work or services rendered. This includes:

• Salary/wages
• Commissions
• Bonuses
• Tips
• Self-employment income
• Professional fees
• The monetary value of certain benefits, like:
  • Sick leave
  • Vacation
  • Severance
  • Benefits earned in a union strike
  • Some disability benefits (if provided to you before the minimum retirement age)
• Reimbursements for work-related expenses (e.g. food/travel allowances for business trips, professional training, relocation expenses)
• Non-taxable combat pay (if you elect to treat it as earned income)

Unearned or passive income

This does not include unearned income, also called passive income. Passive income is any income from any source other than work. Examples of passive income that cannot be claimed on the FEIE include:

• Social security benefits
• Pension income
• Rents
• Dividend income
• Interest on investment
• Gambling winnings
• Capital gains
• Annuities
• Child support or alimony payments
• Trust fund payments

Other types of income

A few more types of income that are not FEIE-eligible include:

• Payments received as a military or civilian employee of the U.S. Government
• Payments received for services conducted in international waters
• Payments received after the end of the tax year or the 365-day period being claimed using the Physical Presence Test (even if the service was performed during that time)
• Meals and lodging that are excluded from income for the convenience of the employer

Note that the FEIE does not exclude you from having to pay any state or local taxes you may be subject to depending on where you most recently lived, but some US states do allow the FEIE to be considered in the state tax calculation.

Read more: US Expat Taxes In 2023: A 12-Step Guide To Tax Filing Success

How to Qualify for the Foreign Earned Income Exclusion

Before they can claim the FEIE, expats must demonstrate that their tax home is abroad by meeting one of two IRS tests. The first of these is called the Physical Presence Test, which requires expats to prove that they were physically present for at least 330 full days outside the US in a 365-day period that does not need to coincide with the tax year.

The second of the two IRS tax home tests is the Bona Fide Residence Test, which requires expats to prove that they are permanent residents in a foreign country through official documents like a permanent residency visa, foreign income tax records, or proof of housing rental/ownership and utility bills in the expat’s name. The bona fide residency must occur for a period that includes at least one calendar year, and that overlaps with the tax year filed.

The right test for you depends on your circumstances. For example, the Physical Presence Test is useful for expats who are moving between countries (such as digital nomads) or who can’t demonstrate permanent residence in any one foreign country. However, you will have to limit and carefully count the days you spend in the US in order to meet the requirements.

Of course, moving abroad doesn’t always cleanly coincide with the tax year. Learn more about the implications of moving abroad mid-year, as well as how to plan your mid-year move to your best tax advantage!

The Bona Fide Residence Test, on the other hand, is useful for expats who can demonstrate that their tax home is in another country and don’t want strict limits placed on the number of days they spend in the US each year.

What is the Foreign Housing Exclusion/Deduction?

If you qualify for the FEIE, earn over $112,000 (the FEIE threshold for tax year 2022), and rent a home abroad, you can exclude even more income from taxes by claiming the Foreign Housing Exclusion (FHE).

The FHE allows you to exclude additional foreign earned income to the value of qualifying housing expenses, which include:

• Rent payments
• Utility bills (besides phone and TV bills)
• Fees for securing a leasehold
• Residential parking costs
• Occupancy taxes
• Property insurance
• Furniture rental
• Necessary repairs

A few things that do not count as qualifying housing expenses include:

• Mortgage payments
• Purchased furniture
• Domestic services (e.g. cleaning, cooking, or nannying services)

To calculate the amount you can exclude, you’ll subtract your base housing amount from your qualifying expenses. The maximum FHE amount you can claim in most countries is typically 30% of the FEIE limit — which again, for the 2022 tax year, is $112,000 — or $33,600 total.

To claim the FHE, fill out the relevant portions of IRS Form 2555 (not on IRS Form 2555-EZ, though), which we’ll go over in detail below. And keep in mind: the FHE is only for expats who work for an employer. Self-employed expats will instead claim the Foreign Housing Deduction (FHD), which functions similarly.

How to File the FEIE

To obtain the tax benefit of the Foreign Earned Income Exclusion, expats must file IRS Form 2555 along with their federal tax return. 

The form has nine sections:

• Section I is where you’ll input personal details, your employer’s details (if applicable), and where your tax home is
• Section II is for expats who meet the Bona Fide Residence Test
• Section III is for expats who meet the Physical Presence Test
  • Note: You only need to complete either Section II or Section III, depending on which one applies to you
• Section IV is for your earned income and expense details, which should correspond with the figures you enter in Form 1040
• Sections V & VI relate to the Foreign Housing Exclusion/Deduction
• Sections VII-IX are where you’ll enter the final figures used to calculate the total amount you’ll be excluding

Form 2555 is not the most straightforward form to complete, so if you have any queries or doubts, you can look up additional information on the IRS website or seek professional assistance. A reputable and experienced expat tax preparation specialist can help ensure that your tax return is filed to your utmost advantage.

Form 2555-EZ

Some expats may qualify for a simplified, shorter version of Form 2555, Form 2555-EZ. In order to qualify, expats must meet the following criteria:

• The period they are claiming for is a calendar year
• They don’t earn more than the FEIE threshold
• They have no self-employment income
• They have no business or moving expenses for that year
• They are not claiming the Foreign Housing Exclusion

Read more: The Foreign Earned Income Exclusion For US Expats – Form 2555-EZ

Foreign Earned Income Exclusion 2023: FAQ

Still have additional questions about the FEIE? Check out responses to some of the most commonly-asked questions below.

Who should claim the Foreign Earned Income Exclusion in 2023?

We’ve talked about who can claim the FEIE — but who should claim it? The FEIE is particularly beneficial for expats who:

• Earn less than the annual FEIE threshold
• Only have earned income — not unearned/passive income
• Don’t pay foreign income tax 
• Pay foreign income tax at a lower tax rate than the US
• Can prove that they live abroad according to the IRS criteria

This makes the FEIE a great option for digital nomads. Digital nomads can often avoid paying foreign income taxes entirely if they travel from country to country in short stints, provided that they spend at least 330 days a year abroad and don’t maintain a US household. 

The FEIE may not be a good fit for expats who:

• Have large amounts of unearned income
• Earn over the annual FEIE threshold
• Pay foreign income taxes at a higher rate than the US
• Are unable to fulfill IRS criteria to prove that they live abroad

Can I claim the FEIE if I’m self-employed abroad?

Self-employed expats can indeed claim the FEIE if they meet the qualifications. However, it’s worth noting a couple of caveats. For one, the excluded amount will reduce your regular income tax bill, but not your self-employment tax — you will still be on the hook for Social Security and Medicare taxes. For the 2022 tax year, these total 15.3%: 12.4% for social security, and 2.9% for Medicare.

And as mentioned earlier, self-employed individuals must claim the FHD instead of the FHE on Form 2555.

Can the FEIE help me with my student loan payments?

One underrated perk of living abroad as a US expat: It may help you defer income-based student loan repayments without defaulting on them. How? Well, if you qualify for the FEIE and earn less than the threshold limit, you can exclude all of that income from taxes, making your adjusted gross income (AGI) $0.

Many folks on federal student loan payment plans are only responsible for payments based on a percentage of their AGI — so $0 in AGI means $0 in required payments. This strategy may not be right for you depending on certain circumstances, such as if your loans originate from a private company, but it’s certainly worth looking into.

What’s the difference between the Foreign Earned Income Exclusion and the Foreign Tax Credit?

Another major tax provision that can help expats avoid double taxation is the Foreign Tax Credit (FTC). The FTC allows expats to deduct the value of the income tax that they pay to a foreign government from what they owe in US income taxes.

If an expat lives in one of the many countries with a higher income tax than the US, they can not only eliminate their US tax bill, but also be granted tax credits that can be applied to future US tax bills for up to ten years (or back one year, if they file amended returns for those years).

Furthermore, there’s no IRS limit set on the amount in tax credits that can be claimed, and the FTC can be applied to unearned income as well (so long as foreign income tax has been paid on it).

Expats can claim the FTC by filing Form 1116 along with their federal return.

Can I claim the Foreign Earned Income Exclusion and the Foreign Tax Credit?

Expats can claim both the Foreign Earned Income Exclusion and the Foreign Tax Credit, but they cannot apply them both to the same income. Take, for example, an individual residing full-time in France and working as a registered freelancer (autoentrepreneur). In this example, the freelancer has income from both US and French clients. 

Because the freelancer in this example resides full-time in France, they pay taxes on all of their earnings in France (because France taxes on worldwide income). All of the income the freelancer earns, in this example, is taxed at a higher rate than it would be taxed in the US, because France imposes higher taxes.

This freelancer could choose to apply the FEIE to their self-employment income earned in France. However, the French income tax paid on that income can not then be used as a Foreign Tax Credit on that same self-employment income. On the other hand, if French tax were paid on bank interest the freelancer has on an account there, the Foreign Tax Credit can be used for the bank interest, using the FEIE only on the self-employment income.

Want to reduce your taxes as much as possible in 2023?

Let’s face it: taxes are confusing enough as it is. Factor in the additional challenge of avoiding double taxation as a US expat, and they can feel downright overwhelming. If you want to minimize your tax bill as much as possible while getting your taxes done accurately, on time, and with minimal effort on your part, partnering with a tax provider specializing in expat tax projects can be a great option. 

The CPAs at Bright!Tax have completed thousands of tax returns for Americans living abroad – no case is too complex! Get started today and your CPA will be in touch right away to guide you through the next steps!