First, not all foreign taxes qualify you for the foreign international tax credit. The credit is only for paid or accrued foreign income tax or a tax that is similar to a US income tax.

The simple answer is foreign income tax. But, what taxes are considered foreign income tax? The IRS explains it as any foreign income tax or a tax “in lieu” of an income tax. 

This is where it becomes tricky the different types of taxes that may be considered “in lieu” of income tax. If your situation is more complex it is best to seek a tax professional. However, typically foreign taxes on wages, dividends, interest, royalties, and excess profits qualify for the credit.

If you paid foreign income tax on a mutual shareholder fund, then you may qualify if the fund decided to pass on the credit to its shareholders. You should receive a 1099-div if they chose to pass on the credit.

Another thing to be aware of...

When you are having to pay foreign income tax check for a tax treaty between the US and that country so that you are taxed at the negotiated rate. If you paid foreign income tax and there is a reduced rate treaty with that foreign country, you are only allowed to submit the credit at the reduced treaty rate even if you were overcharged.

How do I claim back foreign tax credit?

To calculate your refund for back taxes can be complicated as laws and treaties may have changed, but the IRS typically allows for a taxpayer to go back 10 years to file the adjustments.

How to apply for the foreign tax credit

Qualifying can be the tricky part, but once qualified it is rather simple to apply the credit. Form 1116 is included with your tax return to calculate your foreign income tax credit. The amount of taxes you owe is reduced by the qualifying foreign taxes you have paid. It is treated as though a portion of your tax bill was already paid, which it has been though to a different country. 

Conclusion

Be sure you are informed if you are paying any foreign tax so you are taxed at the correct rate, and can take the appropriate credits to avoid paying more than you should. If you have any additional questions on avoiding double taxation and foreign international tax credits feel free to give us a call.