What Is the Expat Exclusion and How Do You Qualify?

The Foreign Earned Income Exclusion (FEIE) is a U.S. tax law provision for citizens and resident aliens who live and work abroad. Its function is to provide relief from double taxation, which can occur when both the United States and a foreign country tax the same income. The FEIE allows qualifying individuals to exclude a significant portion of their foreign earnings from their U.S. income tax.

Eligibility Requirements for the Exclusion

To qualify for the foreign earned income exclusion, a taxpayer must satisfy three tests. The first is the tax home test, which requires that your main place of business or employment be in a foreign country. Your tax home is the location of your work, not where you maintain a family home, even if your personal residence is elsewhere.

Once a foreign tax home is established, you must meet either the bona fide residence test or the physical presence test. The bona fide residence test is for U.S. citizens who are genuine residents of a foreign country for an uninterrupted period that includes a full tax year. This test considers your intentions, such as establishing a permanent home and integrating into the foreign community. Temporary visits back to the U.S. do not automatically disqualify you if you maintain your foreign residence.

The physical presence test is for U.S. citizens or resident aliens and is based on time spent abroad. To meet this test, you must be physically present in a foreign country for at least 330 full days during any 12-month period, where a full day is a continuous 24-hour period. The 12-month period is flexible and can begin on any day of the month. For example, a period could run from April 15 of one year to April 14 of the next.

Defining Foreign Earned Income

The exclusion applies only to foreign earned income, which is compensation for personal services performed in a foreign country. This includes salaries, wages, commissions, professional fees, and self-employment income. The source of the income is determined by where the work is physically performed, not where the payment originates.

Certain types of unearned income are disqualified and cannot be excluded. This includes:

• Dividends
• Interest
• Capital gains
• Rental income
• Pensions
• Social security benefits

For example, a salary for work performed in Germany is foreign earned income. However, interest from a U.S. bank account is unearned income and fully taxable in the United States.

Income paid by the U.S. government or its agencies does not qualify as foreign earned income. This rule applies to civilian employees, military personnel, and employees of instrumentalities like military exchanges. Allowances for housing, cost of living, or family expenses provided by a private employer are generally considered part of your earned income.

Calculating the Exclusion Amount

The amount of foreign earned income you can exclude is subject to an annual, inflation-adjusted limit. For the 2025 tax year, the maximum exclusion is $130,000. Your exclusion is capped at either this maximum amount or your total foreign earned income for the year, whichever is less. If you qualify for only part of the tax year, the maximum exclusion must be prorated based on your number of qualifying days.

You may also be able to claim a foreign housing exclusion or deduction for reasonable housing expenses that exceed a base amount. The base housing amount is 16% of the maximum foreign earned income exclusion. For 2025, this base is $20,800 ($130,000 x 0.16). You can only exclude housing expenses above this threshold.

The total amount of housing expenses you can consider is also capped, generally at 30% of the maximum FEIE ($39,000 for 2025), though this limit can be higher in designated high-cost localities. The benefit is a housing exclusion for employees and a housing deduction for self-employed individuals.

The Process for Claiming the Exclusion

Claiming the foreign earned income exclusion is not automatic; it must be elected by filing the correct paperwork with your annual tax return. The primary document is Form 2555, Foreign Earned Income, which must be attached to your Form 1040.

When completing Form 2555, you will need to provide specific information that demonstrates your eligibility. This includes declaring your foreign tax home and specifying whether you qualify under the bona fide residence or physical presence test. You must also report your total foreign earned income.

The form guides you through the calculations for the income and housing exclusions. After determining the final exclusion amount on Form 2555, you transfer that figure to your Form 1040, where it reduces your total income. It is important to file this form even if the exclusion results in no tax liability.

Choosing Between the Exclusion and the Foreign Tax Credit

Taxpayers living abroad often choose between the Foreign Earned Income Exclusion and the Foreign Tax Credit (FTC). You generally cannot claim both benefits on the same income. The FTC is a non-refundable credit that reduces your U.S. tax liability dollar-for-dollar for income taxes paid to a foreign government. This credit is claimed using Form 1116.

The decision between the FEIE and FTC depends on the tax rate in your country of residence. If you live in a country with a low or zero income tax rate, the FEIE is often more advantageous as you would have little foreign tax to claim as a credit. Conversely, if you are in a high-tax country where your foreign tax liability exceeds your U.S. tax liability, the FTC may provide a greater benefit.

Another consideration is that unused foreign tax credits can be carried back to the previous year or forward to future years. Once you choose to claim the FEIE, revoking that choice can prevent you from claiming it again for the next five tax years without IRS consent. This makes the initial decision an important one.