Foreign Housing Deduction and Exclusion

I am living overseas. Can I deduct or exclude my foreign housing costs?

Yes you can, but only if you meet certain conditions. The foreign housing exclusion and deduction are in addition to the foreign earned income exclusion. You can claim the exclusion or deduction from you gross income but you must make the election if you qualify.

What are the requirements to exclude my foreign housing costs?

To qualify for the foreign housing deduction or exclusion you must

1. Be a US Citizen or resident alien and

2. Have foreign earned income and

3. Your tax home is in a foreign country and

4. You meet either the bona fide residence test or the physical presence test and

5. Applies only to amounts consider incurred or paid for with employer-provided amounts.

What are the requirements to deduct my foreign housing costs?

1. Be a US Citizen or resident alien and

2. Have foreign earned income and

3. Your tax home is in a foreign country and

4. You meet either the bona fide residence test or the physical presence test and

5. Applies only to amounts paid for with self-employment earnings.

Which foreign housing costs qualify for the exclusion and deduction?

Qualified housing expenses include any reasonable expenses you have paid for or incurred for housing in a foreign country for you and (if they live with you) for your spouse and dependents. You can only take into consideration those housing expenses for the part of the year that you qualify for the foreign earned income exclusion.

· Rent

· The fair rental value of housing provided in kind by your employer

·  Repairs

·  Utilities (other than telephone charges)

·  Real and personal property insurance

·  Nondeductible occupancy taxes

·  Nonrefundable fees for securing a leasehold

·  Rental of furniture and accessories

·  Residential parking

Which foreign housing costs do not qualify for the exclusion and deduction?

·  Expenses that are lavish or extravagant under the circumstances

·  Deductible interest and taxes (including deductible interest and taxes of a    tenant-stockholder in a cooperative housing corporation)

· The cost of buying property, including principal payments on a mortgage

·  The cost of domestic labor (maids, gardeners, etc.)

·  Pay television subscriptions

·  Improvements and other expenses that increase the value or appreciably    prolong the life of property

·  Purchased furniture or accessories

·  Depreciation or amortization of property or improvements

How much of my allowable foreign housing costs can I exclude or deduct?

The housing cost amount is considered your total allowable foreign housing expenses minus the base housing amount. The calculation to arrive at the amount you can deduct or exclude from your income involves 3 steps.

Step 1 – Calculate your base housing amount. Your base housing amount is 16% of the maximum foreign earned income exclusion for the tax year (for example, the maximum base amount is $95,100 x 16% = $15,216). If you qualify for the foreign earned income exclusion for part of the year, you must multiply the daily rate of $41.69 times the number of days you qualify for the foreign earned income exclusion. The base housing amount is the amount you cannot exclude. Consider this amount to be the typical amount you would have spent on housing if you were living in the US

Step 2 – Determine your limit on housing expenses. Housing expenses are generally limited to 30% of the maximum foreign earned income exclusion for the tax year (for example, the maximum base amount is $95,100 x 30% = $28,530 or a daily rate of $78.16). However, if you live in an area that is deemed to be a high-cost area, your exclusion will be higher.

Step 3 – Subtract your base housing amount from you eligible housing expenses.

Here is an example for a high-cost area and the standard exclusion. The taxpayer has $40,000 in qualified housing expenses.

                                                  High-Cost City                    Other City                          

                                                  Berlin, Germany               Cairo, Egypt                       

Your Housing Limit                             $50,800                                $28,350

Qualified Housing Expenses              $40,000                               $40,000

Allowable Housing Expenses              $40,000                              $28,350 A

Base Amount                                       $15,216                              $15,216 B

Your Foreign Housing Exclusion (A-B) $24,784                             $13,134

An important note in regards to taking the foreign housing credit or deduction; your foreign earned income will be reduced by Your Foreign Housing Exclusion. Let’s take for example you earned $110,000 while living in Berlin. You must subtract Your Foreign Housing Exclusion from your foreign earned income $110,000 - $24,784 = $85,216. Your foreign earned income exclusion is now limited to $85,216 but your total exclusion is now $85,216 + $24,784 = $110,000.

What if my housing expenses exceed the housing limit? Can I carryover any unused amounts?

You can only carry over to the next year any part of your housing deduction that is not allowed because of the limit. This means it is only available to self-employed individuals and they are only allowed to carry over your excess housing deduction to the next year. If they cannot deduct it in the next year, the excess amount cannot carry over to any other year.

Which tax form is used to claim the foreign housing exclusion?

You must complete the Form 2555. The Form 2555-EZ cannot be used.

Can my spouse and I both claim the foreign housing exclusion or deduction?

1. If you and your spouse live in the same foreign household and file a joint return, the housing amounts must be calculated together. If you file married filing separate, only one spouse can claim the exclusion or deduction. Either spouse can claim the deduction or exclusion in both cases. However, if you and your spouse have different periods of residence or presence and the one with the shorter period of residence or presence claims the exclusion or deduction, you can claim as housing expenses only the expenses for that shorter period.

2. If you and your spouse live apart and maintain separate households, you both may be able to claim the foreign housing exclusion or the foreign housing deduction. You both can claim the exclusion or the deduction if the two following conditions are met.

· You and your spouse have different tax homes that are not within reasonable commuting distance of each other.

· Neither spouse's residence is within reasonable commuting distance of the other spouse's tax home.

Disclaimer of Liability: This publication is intended to provide general information to our clients, friends and readers. It does not constitute accounting, tax, or legal advice; nor is it intended to convey a thorough treatment of the subject matter.

IRS Circular 230 Disclosure

To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. federal tax advice contained in this document is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code, or (ii) promoting, marketing, or recommending to another party any transaction or matter that is contained in this document.

Last updated: August 19, 2013