FEIE vs Foreign Tax Credit: Which Saves Expats More?
US Expat Tax
In a high-tax country the credit usually wins. In a low or zero tax country the exclusion does. Most expats file one by habit and never run the other.
Expats confuse the two because both can take the US bill to zero. The foreign earned income exclusion, claimed on Form 2555, removes up to $132,900 of 2026 earned income from the return and stops there. The foreign tax credit, claimed on Form 1116, offsets US tax with the foreign income tax already paid, on any income type, and unused credit carries forward 10 years.
The choice is sticky. Revoke the exclusion and you cannot claim it again for the next 5 tax years without IRS consent. The wrong pick in a high-tax country leaves foreign tax paid and never credited, year after year. Here is how to tell which one fits.
FEIE (Form 2555): removes up to $132,900 of 2026 earned income, wages and self-employment only. Requires a tax home abroad plus bona fide residence or 330 full days abroad in 12 months. Self-employment tax is unchanged.
Foreign tax credit (Form 1116): offsets US tax dollar for dollar with foreign income tax paid on wages, rent, dividends or a pension. Unused credit carries back 1 year and forward 10 years.
Both: when earned income tops $132,900, exclude the first $132,900 and credit the foreign tax on the remainder. Foreign tax on the excluded slice cannot be credited.
The exclusion: Form 2555
The foreign earned income exclusion removes earned income from the return. The 2026 cap is $132,900, set in Rev. Proc. 2025-32. Earned income means wages and self-employment earnings. Dividends, interest, rent and pensions do not qualify and still land on the return.
Qualifying turns on where you live. You need a tax home abroad, and you must pass either the bona fide residence test or the physical presence test, which requires 330 full days abroad in a 12-month period. The IRS page on the foreign earned income exclusion sets out both tests. Our FEIE guide for expats walks through the day count.
The exclusion has limits. It touches income tax only; self-employment tax is unchanged. Any unused portion is lost, and nothing carries to another year. And filing Form 2555 blocks the additional child tax credit for that year.
The credit: Form 1116
The foreign tax credit leaves the income on the return and offsets the US tax with the foreign income tax you paid or accrued, dollar for dollar. Any income with foreign tax on it qualifies: wages, rent, dividends, a pension. The IRS page on the foreign tax credit covers what counts.
Anyone who paid or accrued foreign income tax qualifies. There is no residence test and no day count to pass. Because the income stays in AGI, the additional child tax credit is allowed, and IRA contribution room is preserved.
Unused credit does not vanish. It carries back 1 year and forward 10 years, so a high-tax year banks credit for a later year with less foreign tax. IRS Publication 514 covers the carryover rules. Our page on foreign tax credits for US expats covers the Form 1116 mechanics.
FEIE (Form 2555)
- Form: Form 2555
- What it does: removes up to $132,900 of 2026 earned income
- Income covered: wages and self-employment earnings only
- Who qualifies: tax home abroad, bona fide residence or 330 full days
- Self-employment tax: unchanged
- Unused portion: lost; nothing carries to another year
- Additional child tax credit: not allowed if you file Form 2555
Foreign tax credit (Form 1116)
- Form: Form 1116
- What it does: offsets US tax with foreign income tax, dollar for dollar
- Income covered: any income with foreign tax paid: wages, rent, dividends
- Who qualifies: anyone who paid or accrued foreign income tax
- Self-employment tax: unchanged
- Unused portion: carries back 1 year, forward 10 years
- Additional child tax credit: allowed; income stays in AGI
Where people get it wrong
The common error is filing Form 2555 by reflex. In Spain, Germany, the UK or France, local income tax usually exceeds the US tax on the same wages, so the credit zeroes the US bill and banks the excess for 10 years. The exclusion covers earned income only. Dividends, interest, rent and pensions still land on the return, and foreign tax paid on excluded wages cannot be credited.
The second error is expecting the exclusion to cut self-employment tax. It does not. Form 2555 removes income tax on the earnings; the 15.3 percent self-employment tax survives. What decides that tax is a totalization agreement, and Spain and Portugal both have one with the US.
The third is switching forms casually. Revoking the exclusion locks you out for the next 5 tax years without IRS consent. A later move to a low-tax country can leave you wanting it back. Run the numbers several years out before you revoke.
Earned income above $132,900 is where the two forms meet. Exclude the first $132,900 on Form 2555, then credit on Form 1116 the foreign tax that falls on the remainder. The foreign tax on the excluded slice is lost, so the allocation between the two forms decides the result. Unearned income, from rent to dividends, goes on the credit side regardless.
The verdict
FEIE when local income tax is low or zero (UAE, Cayman Islands), your income is wages or self-employment, and you pass the 330-day or bona fide residence test.
Foreign tax credit when the host country taxes wages at or above US rates, your income includes rent, dividends or a pension, or you need the additional child tax credit and IRA contribution room.
Both when earned income tops $132,900: exclude the first $132,900, then credit the foreign tax that falls on the remainder.
FAQs: FEIE vs foreign tax credit
Can I use both the FEIE and the foreign tax credit?
Which is better for expats, the exclusion or the credit?
Does the FEIE reduce self-employment tax?
What happens if I revoke the FEIE?
Run both forms on your numbers
Most expats in high-tax countries are better served by the credit and file the exclusion anyway, because it is the form they have heard of. The cost shows up as foreign tax paid and never credited, and switching later means a lock-out from the exclusion for 5 tax years.
We prepare US returns for Americans in Spain, Portugal, Germany, the UK and France. The US expat tax guide covers the rest of the filing picture. Thirty minutes is usually enough to know which form fits.
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