There’s a lot of fake news floating around the interweb regarding the Foreign Earned Income Exclusion (FEIE) and other tax benefits for U.S. taxpayers living abroad. Five minutes perusing comments on social media will reveal a wide range of conflicting advice, vague explanations, and outright falsehoods about who qualifies and how much can be saved.
Sadly, this sea of misinformation has led many digital nomads, remote workers, and expats to miss out on what could be life-changing tax benefits. Whether it’s failing to understand the requirements or mistakenly thinking they don’t qualify, countless individuals are unknowingly leaving tens of thousands of dollars on the table every year.
Here’s the reality: through careful planning and understanding of the tax code, a digital nomad can avoid paying income tax entirely. Pretty sweet deal, huh?
In this article, we’ll cut through the noise and provide a clear, accurate breakdown of the FEIE — how it works, who qualifies, and the steps you can take to ensure you’re maximizing your tax savings.
U.S. Taxation: You Can Run, But You Can’t Hide
Before we dive into the FEIE, let’s explain why it matters in the first place.
We’re all familiar with the concept of paying income taxes. In exchange for a cut of your earnings, the government provides you services (at least, that’s what they’re supposed to do). But what happens if you live abroad and don’t actually benefit from your own tax payments?
That’s why most countries maintain residency-based taxation systems. Canada, the UK, Australia, and most European nations do not tax their citizens if they move abroad and no longer meet residency criteria.
The USA, however, is one of only two countries on Earth (the other being the African dictatorship of Eritrea) that imposes a citizenship-based taxation regime. All citizens and Green Card holders must file tax returns and potentially pay taxes on their worldwide income, regardless of where they reside.
Numerous proposals have been floated over the years to reduce the tax burden on U.S. taxpayers living overseas, but none have become law. There’s no escaping the Tax Man…at least for now.
What is the Foreign Earned Income Exclusion?
Despite the USA’s onerous tax filing requirements, the tax code does provide some relief for overseas filers in the form of the FEIE. This tax provision allows U.S. citizens and resident aliens living and working abroad to exclude a certain amount of their foreign-earned income from U.S. federal income taxes.
Note that the FEIE only applies to federal income taxes. In the vast majority of cases, you will still be subject to Social Security and Medicare tax.
What is the maximum amount of income covered by the FEIE?
The exclusion amount is adjusted annually by the IRS for inflation. For tax year 2024, the exclusion is set at $126,500. It will rise to $130,000 for 2025.
Only earnings at or below the limit can be excluded from income taxes. In other words, an overseas filer earning $200,000 in tax year 2025 won’t need to pay federal income taxes on the first $130,000 of income, but will be subject to federal income tax on the remaining $70,000.
How “foreign earned income” is defined
Many expats and nomads remain misinformed about how the IRS defines “foreign earned income.” Here, we’ll break down the definition of “earned income” and how the government determines if it is “foreign.”
What is earned income?
The IRS defines foreign earned income as “income you receive for services you perform in a foreign country in a period during which your tax home is in a foreign country and you meet either the bona fide residence test or the physical presence test.”
Earned income consists of things like wages, salaries, or professional fees. Unearned income, such as dividends, capital gains, and pensions, is not covered by the FEIE.
Earned Income
- Salaries and wages
- Commissions
- Bonuses
- Professional fees
- Tips
Unearned Income
- Dividends
- Interest
- Capital gains
- Gambling winnings
- Alimony
- Social security benefits
- Pensions
- Annuities
Non-cash income, such as allowances and reimbursements, is also covered under the FEIE. According to the IRS, amounts paid to you by your employer for the following expenses count as earned income:
- Cost of living
- Overseas differential
- Family
- Education
- Home leave
- Quarters
- Moving (unless excluded from income)
These items, on the other hand, are not covered by the FEIE:
- Reimbursements for expenses you incur on your employer’s behalf.
- The value of meals and lodging provided for your employer’s convenience.
- Pension or annuity payments, including Social Security benefits.
- Compensation received as an employee of the U.S. government.
- Employer’s contributions to a nonexempt employee trust or a nonqualified annuity contract.
- Payments received after the close of the tax year following the year in which the services were performed.
What is “foreign” income?
The IRS classifies foreign income according to “the place where you perform the services for which you receive the income.”
Many nomads and expats erroneously believe that wages paid by American employers are not eligible for the FEIE. To be clear, where your employer is based has no bearing on whether the income is classified as “foreign-sourced.” All that matters is where you were located when the work was performed. If you are based in Spain, but your New York-based employer pays wages into your American bank account, that still counts as foreign-sourced income. All of the following examples would fall under the FEIE:
- A digital nomad working remotely in a foreign country for a U.S. company.
- An expat working overseas for a foreign company.
- A freelancer living overseas with clients in various countries.
- A U.S. citizen who emigrated and now permanently lives/works in a foreign country.
Determining Eligibility for the FEIE
To qualify for the Foreign Earned Income Exclusion (FEIE), the IRS requires you to meet either the Bona Fide Residence Test or the Physical Presence Test. These tests determine whether you qualify as a resident of a foreign country and can exclude foreign-earned income from your U.S. taxes. Let’s break each one down in more detail:
Bona Fide Residence Test | Physical Presence Test | |
Duration | Full calendar year (Jan. 1 to Dec. 31) | 330 full days within any consecutive 12 months |
Intent | Must show intent to establish a permanent residence | No intent required; based solely on physical time abroad |
Travel Flexibility | Allows temporary trips back to the U.S. | U.S. travel days count against the 330-day total |
Who Benefits? | Expats and emigrants with long-term residence abroad | Digital nomads or individuals with temporary assignments abroad |
The Bona Fide Residence Test
The Bona Fide Residence Test establishes that you are genuinely living as a resident in a foreign country for tax purposes. It’s not just about physically being there but also about demonstrating your intent to establish a long-term presence in the country.
Requirements:
- Full Calendar Year: You must reside in a foreign country for an entire tax year (January 1 through December 31). Partial-year residency does not qualify.
- Intent to Reside: You must demonstrate that your stay in the foreign country is not temporary and that you have no immediate plans to return to the U.S.
- Examples of intent include obtaining a residency permit, signing a long-term lease, or integrating into the local community (e.g., sending children to local schools or opening local bank accounts).
- No Specific Time Requirement: Unlike the Physical Presence Test, there’s no minimum number of days you must be in the country, as long as you’re considered a tax resident by the local government.
Temporary trips back to the U.S. or other countries do not automatically disqualify you as long as your intent to reside abroad remains clear. Being a resident of more than one foreign country is acceptable, but you must maintain residence outside the U.S.
The Physical Presence Test
The Physical Presence Test is based purely on the amount of time you spend physically present in a foreign country, regardless of your intent or long-term plans. Unlike the Bona Fide Residence Test, the Physical Presence Test does not require residency in a specific country or a connection to its tax system. This test is particularly useful for digital nomads, frequent travelers, or individuals with temporary overseas assignments.
Requirements:
- 330 Full Days: You must be physically present in a foreign country (or countries) for at least 330 full days during a consecutive 12-month period.
- A “full day” means spending 24 continuous hours in a foreign country. Days of travel or partial days spent in transit do not count.
- Consecutive 12-Month Period: The 12-month period does not have to align with the calendar year. It can span across two tax years, as long as you meet the 330-day requirement within that time frame.
If the 330 full days required by the Physical Presence Test span across two tax years, there are several pathways to claiming the FEIE.
Scenario 1: You meet the 330-day requirement before filing
If you have already completed the 330-day period before the tax filing deadline (including extensions), you can claim the FEIE for the relevant income in the first tax year without any additional steps.
- Example: You are physically present in foreign countries from June 1, 2024, to May 31, 2025. You can use the Physical Presence Test to claim the FEIE on your 2024 tax return because your 330-day period will end before the extended filing deadline (e.g., October 15, 2025, if you file for an extension).
Scenario 2: You file your return before completing the 330 days
If you file your tax return for the first year (e.g., 2024) before completing the 330-day period, you won’t yet qualify for the FEIE because you haven’t fulfilled the requirement. However, once you complete the 330 days, you can file an amended return (Form 1040-X) to claim the exclusion for the earlier tax year.
- Example: You are physically present in foreign countries from July 1, 2024, to June 30, 2025. By the April 15, 2025, deadline, you haven’t yet reached 330 days, so you can’t claim the FEIE on your 2024 tax return. After completing the 330 days in June 2025, you file an amended return for 2024 to claim the exclusion retroactively.
Scenario 3: The 330 days span multiple tax years
If the 330-day period spans two tax years, you can claim the FEIE for the portion of income earned in each tax year during that period.
- Example: You are physically present in foreign countries from September 1, 2024, to August 31, 2025. On your 2024 tax return, you can claim the FEIE for income earned between September 1, 2024, and December 31, 2024. On your 2025 tax return, you can claim the FEIE for income earned between January 1, 2025, and August 31, 2025.
Which test should you use?
- Choose the Bona Fide Residence Test if:
- You plan to settle in a foreign country for an extended period.
- You have strong ties to the foreign country (e.g., a home, local bank accounts, or community involvement).
- You need flexibility to travel to the U.S. during the year.
- Choose the Physical Presence Test if:
- You move frequently between countries or lack long-term ties to one location.
- You cannot meet the full calendar-year requirement of the Bona Fide Residence Test.
- You have a temporary foreign assignment or work as a digital nomad.
Key points to remember
- Filing an amended return: If you filed before completing the 330 days, you will need to amend your tax return using Form 1040-X once you meet the requirement.
- Prorated exclusion: The FEIE is applied proportionally based on the income earned during the qualifying period. For instance, if your qualifying period covers 8 months of the tax year, you can exclude 8/12 of the annual exclusion limit.
- Extensions can help avoid amendments: Filing for a tax extension (Form 4868) gives you extra time to qualify for the 330 days and claim the FEIE on your initial return, potentially avoiding the need for an amended return.
FEIE vs. Foreign Tax Credit
In addition to the FEIE, there’s also the Foreign Tax Credit (FTC). While both aim to reduce double taxation on income earned in a foreign country, they work in fundamentally different ways. Here’s a breakdown of the key differences:
FEIE | FTC | |
Foreign Taxes Paid | Low or none | Significant foreign taxes paid |
Type of Income | Earned income only | Any type of income |
Residency Requirements | Must meet residency or physical presence tests | No residency requirement |
Income Level | Best for income under the exclusion limit | Best for income above the exclusion limit |
Tax Complexity | Relatively straightforward | Requires more paperwork and calculations |
Foreign Tax Credit
The Foreign Tax Credit (FTC) is a U.S. tax provision that allows taxpayers to reduce their U.S. federal income tax liability by the amount of income taxes they have paid to a foreign country or U.S. possession. It’s designed to prevent double taxation, which can occur when U.S. citizens or residents are taxed on the same income by both the United States and a foreign government.
The FTC provides a dollar-for-dollar reduction of your U.S. tax liability, meaning every dollar you pay in eligible foreign taxes reduces your U.S. tax by the same amount, up to certain limits.
- Example: If you owe $10,000 in U.S. taxes but paid $8,000 in eligible foreign taxes, you can claim an $8,000 FTC, reducing your U.S. tax liability to $2,000.
Importantly, the FTC covers any type of income that is subject to both U.S. and foreign taxes, including earned and unearned income (e.g., dividends, capital gains, and rental income). Also, there is no residency or physical presence requirement. You simply need to pay or accrue income taxes to a foreign country on income that is also subject to U.S. taxation.
Can you combine the FEIE and the FTC?
Yes, you can combine the FEIE and the FTC, but not on the same income. Here’s how:
- Use the FEIE to exclude up to the allowable limit of foreign earned income.
- Use the FTC for:
- Foreign taxes paid on income that exceeds the FEIE cap.
- Foreign taxes paid on unearned income (e.g., dividends or rental income).
Example: You earn $150,000 abroad and pay $40,000 in foreign income taxes.
- Use the FEIE to exclude $120,000 from U.S. taxable income.
- Use the FTC to claim a credit for the $40,000 in foreign taxes paid on the remaining $30,000.
Filing for the FEIE
Once you have determined your eligibility, you must gather the necessary paperwork for filing the FEIE. This includes the following documents:
- Proof of your residency or physical presence in a foreign country (e.g., passports, visas, utility bills, or lease agreements).
- Form 1040 (U.S. Individual Income Tax Return): File Form 1040, reporting your total worldwide income. Include your foreign-earned income in the “Wages, Salaries, Tips, etc.” section.
- Form 2555 (Foreign Earned Income Exclusion): On Form 2555, you will report your foreign-earned income, residency details to prove you meet the Bona Fide Residence or Physical Presence test, and the exclusion amount. If you incur housing expenses while living abroad, you may be eligible for the Foreign Housing Exclusion or Deduction (also claimed on Form 2555).
Using a tax service to file for the FEIE
Expat tax software providers all support FEIE filing, as well as other nomad and expat-related tax forms. Licenses are granted on an annual basis, typically costing between $80 and $160 for simple federal filing. Free versions are available for eligible taxpayers.
Many nomads and expats also turn to professional expat tax services for full-service preparation. These firms charge anywhere from several hundred to several thousand dollars to prepare your tax returns on your behalf.
Remember, now is not the time to cheap out. Mistakes can amount to thousands of dollars in penalties and fees. Always consult an accounting professional for personal tax questions.
Conclusion: Maximizing Your Tax Savings
The Foreign Earned Income Exclusion (FEIE) is a powerful tool for U.S. taxpayers living and working abroad, offering the potential to save thousands of dollars on federal income taxes. By staying in a tax-advantaged jurisdiction or never residing in one country for more than 183 days of the year, digital nomads and expats can greatly reduce or even eliminate their income taxes.
By understanding the Bona Fide Residence Test and Physical Presence Test, carefully documenting your foreign-earned income, and staying informed about the rules, you can ensure that you’re taking full advantage of the FEIE and not leaving money on the table.
Don’t let misinformation prevent you from keeping more of your hard-earned income. With the right knowledge and careful planning, you can legally reduce your tax burden and focus on enjoying the opportunities that come with living and working abroad.
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