Deductions Related to your foreign earned income

[ned415]

I'm on the page where Turbo Tax says the following: You may have deductions related to your foreign earned income. These deductions must be entered in other areas of TurboTax. The portion of these deductions allocable to foreign earned income should be entered here. For example, you should enter your business expenses in the Business Income Interview, and here you will enter the business expenses which related to your foreign earnings. 

I have 3 examples and need clarification.

1. I have a business that generated $50k foreign revenue, operating expenses is $30k, which means net profit is $20k. Based on the statement above, do i enter $30k here?

2. Suppose I have some work-related expenses with my foreign employer, and they were not reimbursed. I would usually enter them in the work expense deduction section. Do I also enter these expenses here as well?

3. Suppose I have a foreign rental that generated $10k in total expenses, do i also enter this here?

Thanks.

[DaveF1006]

It depends. 

1. Answering the question on the foreign rental, this would not be excluded income because it is not Foreign Earned income. This would strictly be entered in the Rental properties and Royalties section in your return.
2. Yes, you would enter $30,000 as the net foreign income. Be sure though to enter this first your Business and income section in your return and your net income will be the portion of your Foreign income you will report for the exclusion.
3. There will be a page where you will enter business related expenses called Deductions Related to XXXX Foreign Income.  You will list those employee business related expenses in this section.

[ned415]

Do you mean i should enter my business expenses in this section? It is looking for deductions, not the net foreign income for this specific section. could you confirm?

for employee related expenses that had not been reimbursed, i had done a little more research and was advised not to enter them here. is this true, can you confirm?

thanks for your comment about the foreign rental income, it makes sense to me.

[DaveF1006]

Let's back track a little. You would report your business income and expenses in the wages and income section of your return. You would do this to pay the self-employment tax which is generally the same whether you are living in the United States or abroad.  

Next you would combine the $20,000 earned from self-employment and your gross pay earned as an employee to determine your foreign income and exclusion. For the deductions, you can deduct such things as moving expenses, other business expenses, or the employer-equivalent portion of self-employment tax paid on self-employed earnings in a foreign country. Your self-employment tax has already been determined after you reported your Schedule C income as outlined in the first paragraph. Since the $20K is a net amount, you would not be deducting business expenses against your foreign income since these are already accounted for in the computation of your self-employment tax. You may deduct the amount of the self-employment tax though along with moving expenses to the foreign country if you moved in 2023.

As far as the employee business expenses, when I originally researched this, it mentions that business expenses can be deducted. On further research, this is a gray area at best. Employee business expenses are no longer deductible on Federal 1040 returns so as cautionary approach, you should not deduct these here. In fact in IRS Publication 54, it mentions "U.S. citizens and resident aliens living outside the United States are generally allowed the same deductions as citizens and residents living in the United States". Based on this, I retract my earlier statement and not report employee business expenses.

Now the last thing to do is to exclude $20K net profit from your US return since this will be foreign income you wish to exclude.  Once this is excluded, all you have left is the self-employment tax which you are required to pay.  To exclude this $20,000 from your US return go to.

1. Select Wages and income>other income
2. Miscellaneous Income, 1099-A, 1099>start
3. Scroll to the bottom of the page to Other Reportable Income
4. Other taxable income, answer yes
5. Then give a brief description of the income, which is Self-Employment Income Reported as Foreign Income to be excluded and then enter the income as -20,000. Make sure the minus sign is placed in front of the amount.

A lot of information to digest so hopefully i made this clear.

@ned415 

[ned415]

Hi, thanks for your response. I agree with everything you have said, and the question that I had originally is from one of the section where I want to exclude my foreign income. It says: 

You may have deductions related to your foreign earned income. These deductions must be entered in other areas of TurboTax. The portion of these deductions allocable to foreign earned income should be entered here. For example, you should enter your business expenses in the Business Income Interview, and here you will enter the business expenses which related to your foreign earnings. 

Next, it asks me "Did you have deductions related to foreign earned income?" The employer-equivalent portion of self-employment tax paid on self-employed earnings in a foreign country automatically shows up here. 

My question is do I enter any other items here including the gross self-employment expenses? The reason why I suspect gross self-employment expenses are entered here is this one example from IRS: https://www.irs.gov/individuals/international-taxpayers/figuring-the-foreign-earned-income-exclusion

Please let me know if my hypothesis is correct? Perhaps I am wrong and nothing gets entered here at all except for the employer-equivalent portion of self-employment tax paid on self-employed earnings in a foreign country. Thanks.

Self-employed individual

In order to compute the foreign earned income exclusion, you must first know the amount of your:

• Foreign earned gross receipts
• Expenses definitely related to the foreign earned gross receipts
• Deduction for ½ self-employment tax

The exclusion amount will be reduced by the pro rata share of your expenses and self-employment tax deduction. This is because you cannot take deductions against amounts excluded from income.

For example, you operated a service business in a foreign country during all of 2023 and your:

• Schedule C Gross Receipts were $150,000
• Schedule C Expenses were $50,000
• Schedule C Net Income was $100,000
• Self-Employment (SE) Tax was  $14,130
• Deduction for ½ SE Tax was $7,065

You would compute your exclusion this way:

For tax year 2023, the maximum foreign earned income exclusion amount is the lesser of the foreign income earned or $120,000 per qualifying person. Since you are excluding $120,000 of your $150,000 gross receipts, you will need to multiply that same ratio by the expenses that are directly related to your Schedule C gross receipts, as follows:

• ($120,000 ÷ $150,000) x ($50,000 + $7,065) = $45,652 of expenses allocable to excluded income

This amount, $45,652, is then subtracted from the $120,000 to arrive at $74,348, which is entered on Line 45 of Form 2555, Foreign Earned Income, and is then entered as a negative amount on the appropriate line of Schedule 1 (Form 1040), with the notation "Form 2555."

[ThomasM125]

In the Foreign Earned Income and Exclusion section in TurboTax, you would enter your gross foreign business receipts and later your foreign business expenses that relate to those receipts. For instance, assuming you are under the maximum allowed foreign income exclusion amount, if your foreign sales were $50,000 and you had $25,000 of foreign expenses relating to them, you would enter both amounts plus the foreign portion of net self-employment tax in the Foreign Earned Income and Exclusion section. The result will be your net foreign earned income for exclusion amount, which will then be automatically entered on line 8(d) of schedule 1 of your Form 1040 (foreign earned income exclusion.) Form 2555 Foreign Earned Income will also be generated automatically.

[ned415]

I'm assuming I would add

1. net foreign income (sales - expenses*) in the section

2. specifically for the foreign deduction section, do I add the foreign expenses* from #1?

[ThomasM125]

No, any foreign deductions will get subtracted from the net foreign income you entered. So, either don't enter any deductions or don't include them in the foreign profit amount you entered in step 1 above.

[ned415]

Thanks for the reply, but in the Foreign Deductions section, what I am confused about is that part of the instructions says "These deductions must be entered in other areas of TurboTax" as you could see from my original post. When I read this, this means that my foreign earned business expenses would be entered here because they were entered separately in the self-employment section. Am I wrong here? Or is there another interpretation that I'm just not getting...

[DaveF1006]

I am going to give you complete instructions on how to enter this correctly and hopefully clarify any confusion that may have developed from the earlier posts. Hopefully this will provide clarity and leave no room for doubt. 

1. First of all, enter your Schedule C income and expenses.  This is done to determine your self-employment tax that you will need to pay.
2. Next we will negate your resulting net profit information provided above. We only did this to determine your self-employment tax. We negate this income so you won't be double-taxed on the same income when you report this as foreign income in the foreign income and exclusion section.    

• Select Wages and income>other income 
• Miscellaneous Income, 1099-A, 1099>start
• Scroll to the bottom of the page to Other Reportable Income 
• Other taxable income, answer yes Then give a brief description of the income excluded and the amount of Schedule C net profit generated above. This will not erase your self-employment tax though that you need to pay. Be sure to put a minus sign in front of the amount you are excluding. 

        3. Now begin working on foreign income and exclusion.

        4. Follow the instructions.  Enter the deductions again. Be sure to enter the self-employment tax as a deduction.

        5. As the instructions dictate, enter the gross amount of your foreign self-employment income here and the enter the            business expenses, including the self-employment tax. 

If you have any further questions, please reach out. Hopefully I have presented this information logically that leaves very little room for doubt.

@ned415