Form 1116 Foreign Tax Credit Computation when foreign source exceeds $20,000

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Form 1116 Foreign Tax Credit Computation when foreign source exceeds $20,000

This year I have foreign source ordinary dividends of $28,000 in which $1900 of foreign tax was paid. I choose to take the credit. These are linked to a single Form 1116 and Foreign Tax Credit Computation Worksheet. Incidentally, I am itemizing deductions this year.

TurboTax is requiring an entry on the Worksheet in Part I 4 b 1 b and c. These appear to serve to limit investment interest expense deductions, which is $0. In other words, the allocation ratio doesn't matter because the result will be $0 in any event. To get past this form error, I put in $0 and $1 respectively for b and c. I cannot put $0 in c. This is not covered in any interview or tax help.

Meanwhile, I think I do have greater than $20,000 in foreign source income, especially when adding in cap gains. Nevertheless, TurboTax is checking the box that says "Total foreign source qualified dividends and capital gains is less than $20,000". At no point has TurboTax asked for the amount of foreign source *qualified* dividends. The amount in Box 1b on the 1099-DIVs are not necessarily limited to the funds that involve foreign source. I've not entered the foreign source qualified dividend percentage, yet TurboTax thinks it has what it needs.

Should I just relax and trust that it knows what it is doing?

[DaveF1006 · Accepted solution]

No. Do not trust the "checked box".If your actual foreign qualified dividends are over $20,000, you are currently in an "unreported" error state. 

1. First report the dividend in the Interest and Dividend of your income section as a 1099 DiV. Be sure to enter the foreign tax paid in Box 7. You will need to check the box that says My Form has info in other boxes
2. After this is entered, there will be a follow-up that will ask you about your foreign dividends. Here you mention the amount of foreign dividends received and the country of origin. This information is usually contained in a supplemental disclosure form that came with your financial statements.

Now go to your foreign tax credit section and the deductions and credit section of your return. As you navigate through the section, you will notice that the section recognized that you have reported this already. Continue through this section until you reach a screen asking if you have "No other income or expenses." Even if it feels true, select NO.

Now, enter the Qualified Amount: This will open up supplemental screens. One will specifically ask: "Any foreign source qualified dividends or long-term capital gains?"

• The Result: If you enter an amount over $20,000, TurboTax will:
• Uncheck the "Adjustment Exception" box.
• then Automatically apply the IRS multiplier (typically 0.4054 for the 15% bracket) to your foreign income on Line 1a.

Now you should be able to trust the program

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I really appreciate your explanation! I've gone through the process you described, this time saying No to the "No other income or expenses", which I tried to complete but ran into a snag I'd asked about in this forum a few weeks ago. 

I should mention that all my foreign income is passive from a RIC.

TRP International Discovery reported a significant Box 2a cap gain. In the instructions from TRP with the 1099-DIV, it said to compute the foreign source amount "multiply the amount in Box 1a of your Form 1099-DIV by the “Foreign source income %”. There is no mention of box 2a cap gains. The answer I got about that in this forum was that the cap gain did not include any foreign income. That seems strange for an international fund, but I went with that. Is this correct? If so, then the $20,000 threshold is moot for me.

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Update: The explanation I got from ChatGPT made sense to me: 

Capital gain distributions (Box 2a) are different

Box 2a reflects net realized capital gains of the fund itself — sales of securities inside the fund.

For foreign tax credit sourcing:

• Capital gains are sourced by the fund’s tax residence, not by where the underlying securities are located.

• A U.S.-domiciled mutual fund (like TRP International Discovery) is treated as a U.S. person.

• Therefore, its capital gains are U.S.-source, even if the gains came from selling foreign stocks.

👉 Result: Foreign source amount for Box 2a = $0, unless the fund explicitly says otherwise.

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Still, that left me with the question about how to handle TT insisting on entries computing the allocation ratio for Deductible other interest. Since my investment interest expense is zero, the ratio doesn't matter.

[DaveF1006]

You found the right path. In the worksheet (Part I, line 4b), if the software won't accept a $0 in a denominator (column c), entering $1 is the standard "tax-pro hack."

Why it works: $0$ divided by $1$ is $0$. It satisfies the software's need for a value while ensuring that exactly $0.00$ of interest is allocated to your foreign income. This preserves your full Foreign Tax Credit.

Please, let us know if this works and help you move on with your return. 

@Click 

[jnfrench]

A denominator can never be 0. That creates a mathematical indeterminacy. Therefore, no fields on forms should accept the value 0 if they will be used as the denominator of a division calculation.

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Yes, this did work for getting data populated on the worksheet as requested. It's still a little odd to me that there are so many other fields on the worksheet to enter data and these two are the only ones that are required to get past form error checking.

Now just a curiosity thing and doesn't affect me one bit, but it made my head hurt when TT was saying I had less than $20,000 in qualified foreign income when the only information that it had requested heretofore was how much total foreign income (% of Box 1a), which was in fact over $20,000.  It was less than $20,000 qualified income (qual % of Box 1a), but it didn't know that. It may have been applying the ratio for the entire 1099-DIV, but that would be erroneous since the 1099-DIV was for many funds.

Anyway, thanks again!

[Click]

> A denominator can never be 0.

Well, yes. As my degree is in mathematics, I realized that.

> no fields on forms should accept the value 0 if they will be used as the denominator of a division calculation

I would assert that a better way to handle it would be if the value in I4b1a was zero (it is), then fields b,c,d should be disabled and a calculated zero put in box I4b1d. That would eliminate having to put in faux data just to satisfy the error checking.

[jnfrench]

Agreed. The code is wrong, and entering workarounds for data can be dangerous in the long term.