Maximum and Prorated Exclusion Amounts

Maximum Exclusion

The amount of foreign wages and salary a taxpayer can exclude per year is limited to actual foreign earned income or the annual maximum dollar limit, whichever is less. Starting with tax year 2006, the foreign earned income exclusion is adjusted each year for inflation by the Internal Revenue Service.  

Maximum Foreign Earned Income Exclusion Amounts by Year

•Tax year 2014: $99,200 

•Tax year 2013: $97,600 

•Tax year 2012: $95,100 

•Tax year 2011: $92,900 

•Tax year 2010: $91,500 

•Tax year 2009: $91,400 

•Tax year 2008: $87,600 

•Tax year 2007: $85,700 

•Tax year 2006: $82,400 

•Tax years 2002-2005: $80,000 

•Tax year 2001: $78,000 

•Tax year 2000: $76,000 

•Tax year 1999: $74,000 

•Tax year 1998: $72,000 

Sources: Revenue Procedure 2013-35 (PDF) for the 2014 amount, Revenue Procedure 2012-41 (PDF) for the 2013 amount, Revenue Procedure 2011-52 (PDF) for the 2012 amount, Revenue Procedure 2010-40 (PDF) for the 2011 amount, Revenue Procedure 2009-50 (PDF) for the 2010 amount, Revenue Procedure 2008-66 (PDF) for the 2009 amount, Revenue Procedure 2007-66 (PDF) for 2008 amount, Revenue Procedure 2006-53 (PDF) for 2007 amount, Revenue Procedure 2006-51 (PDF) for 2006 amount; see also Internal Revenue Code Section 911 for the tax law concerning the foreign earned income exclusion. 

Prorated Exclusion

Under the physical presence test, a taxpayer can choose any consecutive 12-month period to qualify for the foreign earned income exclusion. This creates the possibility that the amount of the exclusion may need to be spread over two year and that the amount of the maximum exclusion in a year may need to be prorated. To prorate the maximum exclusion, use the number of days you were physically present during the tax year. The exclusion is calculated by the ratio of the number of days physically present in the foreign county (numerator) to the number of days in the year (denominator). (See Publication 54, section on part-year exclusion.) 

The pro-rated exclusion amount may not exceed the maximum allowable exclusion. Taxpayers may also qualify for a prorated exclusion if you intended to meet all the time requirements but you left the country due to civil unrest. According to IRS Instructions for Form 2555:

Waiver of Time Requirements

If your tax home was in a foreign country and you were a bona fide resident of, or physically present in, a foreign country and had to leave because of war, civil unrest, or similar adverse conditions, the Waiver of Time Requirements minimum time requirements specified under the bona fide residence and physical presence tests may be waived. You must be able to show that you reasonably could have expected to meet the minimum time requirements if you had not been required to leave. Each year the IRS will publish in the Internal Revenue Bulletin a list of countries and the dates they qualify for the waiver. If you left one of the countries during the period indicated, you can claim the tax benefits on Form 2555, but only for the number of days you were a bona fide resident of, or physically present in, the foreign country.

If a person can claim either of the exclusions or the housing deduction because of the waiver of time requirements, attach a statement to the return explaining that the taxpayer expected to meet the applicable time requirement, but the conditions in the foreign country prevented you from the normal conduct of business. Also, enter "Claiming Waiver" in the top margin on page 1 of Form 2555.

Persons who live and work outside the United States can exclude from federal income tax amounts paid by their employer for housing. This includes any amounts paid directly to the taxpayer or on the taxpayer's behalf for housing, rent, education for the taxpayer's children, or tax equalization ("gross up") payments.

Time Requirements

For the housing exclusion, you must meet the same time requirements under the bona fide or physical presence tests.  

Qualifying Expenses

The following expenses qualify for the foreign housing exclusion: 

•Rent,

•Fair rental value of housing provided by the employer,

•Repairs,

•Utilities other than telephone,

•Real property and personal property insurance (homeowners & renters insurance),

•Occupancy taxes,

•Nonrefundable security deposits or lease payments,

•Furniture rental,

•Residential parking fees.

Additionally, taxpayers may be eligible to exclude housing amounts paid by their employer. Employer-provided amounts include: 

•Tax equalization payments paid by your employer,

•Education expenses for your dependent children.

For more information on excluding employer-provided housing expenses, see the Foreign Housing Exclusion and Deduction section of Publication 54. 

Non-Qualifying Expenses

The following expenses do not qualify for the foreign housing exclusion: 

•Lavish or extravagant expenses (as determined by a person's circumstances),

•Deductible interest and taxes (for example mortgage interest),

•Cost of buying property (for example, principal payments on a mortgage),

•Domestic labor (for example, maids and gardeners),

•Pay television,

•Home improvements,

•Purchased furniture,

•Depreciation of property or improvements

Coordination with the Foreign Earned Income Exclusion

Persons can claim the foreign earned income exclusion, the foreign housing exclusion, or both. However, the same income cannot be excluded twice. Generally, it is advantageous to consider the foreign housing exclusion if a person's foreign earned income exceeds the maximum amount of the foreign earned income exclusion amount. 

Maximum Foreign Housing Exclusion

The amount of the housing exclusion is 16% of the foreign earned income exclusion amount ($15,616 for 2013). There are higher maximum amounts for selected foreign locations. The IRS lists the housing exclusion amounts in an appendix to the Instructions for Form 2555. 

Self-employed persons cannot claim the foreign housing exclusion. Instead, they must claim the foreign housing deduction instead. (See Publication 54, the section on the foreign housing deduction.)

How does the Foreign Earned Income Exclusion Impact the Tax Calculation?

Since 2006, taxpayers claiming the foreign earned income exclusion will pay tax at the tax rates that would have applied had they not claimed the exclusion. In other words, the federal income tax is calculated by first calculating the amount of income tax on income without taking the foreign earned income exclusion into account, and then subtracting the tax as calculated on the amount of foreign earned income that is excluded. The result is the amount of the federal income tax liability. To facilitate this calculation, taxpayers use the Foreign Earned Income Tax Worksheet found in the Instructions for Form 1040 (it's located on page 40 of the 2012 Form 1040 Instructions).