Foreign Tax Credit

Foreign Tax Credit is a non- refundable tax credit for income taxes paid to a foreign Government as a result of a foreign income tax withholdings. The foreign tax credit is available to anyone who either worked in a foreign country or has investment income from a foreign source. Foreign taxes are usually claimed on the IRS Form 1116, unless the taxpayer qualifies for the de minimize exception. The credit can only be claimed on income that is also subject to deduction of domestic taxation.

 The Foreign Tax Credit is intended to reduce the double tax burden that would arise when foreign source income is taxed by both the United States and the foreign country from which the income is derived. Four tests are required to qualify for the credit; the tax must be imposed on you, you must have paid or accrued the cost, the tax must be a legal and actual foreign tax liability and the tax must be an income tax.

Generally, only income taxes paid or accrued to a foreign country or a U.S. possession, or taxes paid or accrued to a foreign country or U.S. possession in lieu of an income tax, will qualify for the foreign tax credit. Income tax systems that tax residents on worldwide income generally offer a foreign tax credit to mitigate the potential for double taxation.

Maximum Allowable Foreign Tax Credit

Your foreign tax credit cannot exceed your US tax liability multiplied by a percentage, which is the total foreign- source income divided by your total worldwide income.

Carryback and carryover of the Foreign Tax Credit

Any foreign tax credit amount in excess of the maximum limit may be carried back to a previous tax year or carried forward to a future tax year. You can carry back the foreign tax credits to the immediate preceding tax year, or carry- forward the credit for the next 10 tax years.

Claiming the Tax Credit

 You may claim the foreign tax credit or deduction each year. You can change your choice by amending the tax return within ten years of the original due date of the tax return.

Limitations on credit

A common limitation is based on the domestic income tax considered generated by the foreign source income subject to tax. The limitation may be applied overall or at one or more of the following subsets: by country or region, by type of income, by member of a group and by sub- type of domestic tax.

Questions:

• How is foreign tax adjusted to the previous or forth coming year?
• How is double taxation reduced?