How to exclude my foreign income from US taxes based on double tax avoidance agreement?

[Kasiopaya94]

My husband and I have some foreign (German) bank accounts and have earned interests from those accounts but already paid German Capital Gains Tax on those interests.

I entered the interest as other reportable income, because I need it to be in the report for Form 8938 "Statement of Specified Foreign Financial Assets" where I have to include Form, line and schedule where I reported this income in my tax report.

I entered the foreign taxes we already paid in Foreign Tax credit. 

TT subtracts the foreign tax from the tax we have to pay, but it does take the complete interests we earned (and reported with other reportable income) additionally to the rest of our income and bases federal taxes on the total gross income including those taxes.

Due to the double tax avoidance agreement with Germany the amount we earned and already paid taxes for in Germany should not be included in the total gross income. How can I exlude this income from the total gross income?

I already tried using the field "Gross Income Adjustment (positive or negative)" in the foreign Tax credit section (what leads to Form 1116) - but this doesn't adjust anything. 

I cannot delete the foreign income completly, because then I don't have anything to put in Form 8938, but I also don't want to pay double taxes. 

Any suggestions on what I can do to have the interest income in the report, but do not have it count for US taxes?

Thank you!

[DaveF1006]

I think there's some confusion here that needs clarifying. If you are a US resident for tax reporting purposes, your interest is reported in the United States under the terms of the US/Germany tax treaty. I like to point out two provisions in the tax treaty.

1.  Under Article 11, it says "Interest derived and beneficially owned by a resident of a Contracting State shall be taxable only in that State".
2. Now in Article 3 of the treaty, it states " the term "a Contracting State" and "the other Contracting State" mean the United States or the Federal Republic of Germany as the context requires.  This implies that the "contracting State" is the United States" since you are a resident.
3. In Article 4, " For the purposes of this Convention, the term "resident of a Contracting State" means any person who, under the laws of that State, is liable to tax therein by reason of his domicile, residence, place of management, place of incorporation etc".

From the context of the language, it suggests that interest is only taxable to a resident of a contracting state, which in this instance, is the US. You should not make any gross income adjustments based on this fact. 

Report the total Gross Income on form 1116 to receive full credit for your capital gains tax that was assessed in Germany.