U.S. Individual Foreign Tax Credit Introduction
If you paid or accrued foreign taxes to a foreign country or U.S. possession and are subject to U.S. tax on the same income, you may be able to take either a credit or an itemized deduction for those taxes.
You can take the foreign tax as a deduction or claim as a credit to reduce your U.S. taxable income/tax liability. In most cases, it is to your advantage to take foreign income taxes as a tax credit.
You can claim a credit only if your foreign taxes are qualified:
You can file Form 1116 to compute your foreign tax credit for certain taxes paid or accrued to foreign countries or U.S. possessions.
The foreign tax credit is calculated as follows:
Step1: Determine the qualified foreign income taxes paid or accrued for the tax year.
Step2: Compute the foreign tax credit limitation. Your foreign tax credit cannot be more than your total U.S. tax liability multiplied by a fraction. The numerator of the fraction is your taxable income from sources outside the United States. The denominator is your total taxable income from U.S. and foreign sources.
Step3: Determine the lesser of qualified foreign taxes paid (step 1) or the foreign tax credit limitation (step 2).
Any unused foreign tax credits can be carried back one year and then carried forward for 10 years.