Foreign Housing Exclusion or Deduction
When a taxpayer qualifies for the foreign earned income exclusion under either the bona fide residence or physical presence tests, he/she can also claim an exclusion or a deduction from gross income for housing expenses.
The housing exclusion applies only to amounts considered paid for with employer-provided amounts. The housing deduction applies only to amounts paid for with self-employment earnings. With the exception of higher-cost locations (see “higher caps for high-cost locations” below), the housing amount is the total of a taxpayer’s housing expenses for the year minus a base amount. The base amount is:
• 16% of the annual exclusion limitation amount.
Housing Exclusion Cap
The housing exclusion is limited to 30% of the taxpayer’s earned income exclusion for the year less the base amount. Thus, for 2023, the maximum housing allowance exclusion is $16,800 (($120,000 x .30) – ($120,000 x .16)).
Example: Bill Howser qualified for the foreign earned income exclusion under the physical presence test for all of 2023. During the year, he spent $26,400 for housing. Bill’s housing amount is the lesser of the deduction cap of $16,800 or $7,200 ($26,400 less 19,200*). Thus, the deduction is $7,200.
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*$19,200 = 120,000x .16
Higher Caps for High-Cost Locations
The Code allows the 30% cap amount to be replaced by higher amounts based on geographic differences in housing costs relative to housing costs in the U.S. Accordingly, Notice 102023-26 identifies locations within countries with high housing costs and provides an adjusted limitation on housing expenses to be used for these localities for tax year 2023. The 2023 annual notice is available at: Notice 2023-26, Determination of Housing Cost Amounts Eligible for Exclusion or Deduction for 2023 (irs.gov)
Option to Use 2023 Adjusted Housing Limitations for 2023
Notice 2023-26 provides an option for taxpayers in locations where the limitation on housing expenses based on the IRS’ table in that notice are higher than the limitation on housing expenses for the same location in the table in Notice 2022-10. A taxpayer in such a location may choose to use the 2023 amount on their 2022 return in lieu of the one in Notice 2022-10. The IRS made a similar option available to qualified individuals for their 2021 and 2020 returns. The IRS anticipates that future annual notices providing adjustments to housing expense limitations will make a similar option available to qualified individuals that incur housing expenses in the immediately preceding year. For example, when adjusted housing expense limitations for 2024 are issued, it is expected that taxpayers will be permitted to apply those adjusted limitations to the 2023 taxable year.
Housing Expenses Include
Reasonable expenses paid or incurred for housing in a foreign country for taxpayer, spouse and dependents. These include rent, the fair rental value of housing provided in kind by an employer, and other expenses for housing. Other expenses include repairs, utilities (other than telephone charges), real and personal property insurance, non-deductible occupancy taxes, non-refundable fees for securing a leasehold, rental (but not the purchase) of furniture and accessories, and residential parking.
Housing expenses do not include expenses that are lavish or extravagant under the circumstances. They also do not include deductible interest and taxes (including deductible interest and taxes of a tenant) or the costs of buying property, including principal payments on a mortgage. Nor do they include the cost of domestic labor (maids, gardeners, etc.), pay television subscriptions, improvements and other expenses.
Caution
No double benefit. A taxpayer can’t include in housing expenses any amounts that were excluded from gross income as meals or lodging for the convenience of an employer or that were deducted as moving expenses.The TCJA removed the moving expense deduction other than for armed forces members as the move relates to a permanent change of station for years 2018-2025. Armed Forces members aren’t eligible to claim a Sec 911 exclusion.
Foreign Housing Exclusion
If a taxpayer has no self-employment income, the entire housing amount is considered paid for with employer-provided amounts. This means that it can be entirely excluded (up to the limits).
Employer-provided amounts include any amounts paid to a taxpayer by his/her employer that are taxable foreign earned income (without regard to the foreign earned income exclusion) for the tax year. This could include:
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Salary,
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Any reimbursement for housing expenses,
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Amounts the employer pays to a third party for the employee’s housing
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The fair rental value of company-owned housing furnished to the employee, unless that value is excluded from the employee’s income because it is provided for the employer's convenience
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Amounts paid by the employer as part of a tax equalization plan, and
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Amounts paid to the employee or a third party by the employer for the education of the employee’s dependents.
If a taxpayer chooses the housing exclusion, he/she must figure it out before determining the foreign earned income exclusion. He/she cannot claim less than the full amount of the housing exclusion to which he/she is entitled.
Caution
Once a taxpayer chooses to exclude either foreign earned income or foreign housing costs, he/she cannot take a foreign tax credit for taxes on income which is excluded.
Foreign Housing Deduction
If a taxpayer has no self-employment income, he/she can’t take a foreign housing deduction. How the housing deduction is figured depends on whether the taxpayer has only self-employment income or both self-employment income and employer-provided income. In either case, the amount to deduct is subject to these limits:
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Self-employed -- no employer-provided amounts - If none of the housing amount includes employer-provided amounts, the housing amount, subject to the limit below, is deducted in figuring adjusted gross income. Claim the deduction by including it in the total on the appropriate line of Form 1040 or 1040SR (2023 Schedule 1, line 24j)
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Self-employed and employer-provided amounts - If a taxpayer is both an employee and a self-employed individual during the year, deduct part of the housing amount and exclude part of it. To find the part that qualifies as a housing exclusion, multiply the housing amount by the employer-provided amounts and then divide the result by the taxpayer’s foreign earned income. The balance of the housing amount can be deducted (but the deduction can’t be more than the taxpayer’s foreign earned income less the total of: (1) the taxpayer’s foreign earned income exclusion, plus (2) his/her housing exclusion, if any).
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Carry over to the next year any part of the housing deduction that is not allowed because of the limits. Carryover is allowed to the next year only. If the taxpayer can’t deduct it in the next year, it can’t be carried over to any other year.