Both U.S. residents and citizens must pay tax on income earned from foreign sources, but there may be a credit on your United States taxes coming your way if you paid income taxes to another country.
Deciding Between Credit or Deduction
Your foreign tax credit can benefit your bottom line as a credit on your taxes or as an itemized deduction. Taking the credit will allow you to reduce your United States income tax by the actual dollar amount you paid or accrued to a foreign entity. Choosing the deduction route enables you to reduce the income that is subject to taxation.
It may be advantageous to take either a deduction or credit depending on the rest of your taxation situation in a particular year. If you reconsider your decision within ten years from which the taxes were due, you can file an amended return in most cases.
Contesting Your Liability?
If you are contesting the amount of tax due to a foreign entity, you can take a credit for it on your United States taxes only if you pay the fee while you appeal it. You can adjust the credit when the appeal is over, and you know the final amount of foreign taxation.
To figure out your taxes, you will need to convert the amount you paid a foreign entity into U.S. dollars. The rate of exchange for income taxes paid to a foreign country is the rate on the day that you paid your taxes in that country.
There are many variables involved in determining the correct course to take when planning your foreign tax exposure. To determine what that is in your situation, it is important to get legal advice from experts in foreign taxation and its implications for your United States tax return.