You may be entitled to claim the foreign tax credit if you paid foreign income taxes. The foreign tax credit helps relieve you of the burden of paying taxes twice on the same income. The credit is nonrefundable and is subject to carryover provisions for any amounts that cannot be used in the current tax year.
There are 4 requirements that must be met in order to claim the foreign tax credit:
The tax must be imposed on you.
You must have paid or accrued the tax.
The tax must be the legal and actual foreign tax liability.
The tax must be an income tax or a tax in lieu of income tax meaning that it is a gain derived from capital, labor, or both.
The types of foreign income that you may have paid foreign income taxes on include compensation for services provided in that country, interest paid by a payer located outside the U.S., dividends paid by a corporation located outside the U.S., and gains on the sale of nondepreciable personal property sold while maintaining a tax home outside the U.S.
You are allowed to claim either a foreign tax credit or a deduction for the foreign taxes paid. Usually, the credit will give you the larger tax savings. However, certain restrictions on the credit may make the deduction the better option for you.
Some international mutual funds invest in foreign businesses and pay foreign income taxes. If you own shares in an international mutual fund, you may be entitled to claim the foreign tax credit. To find out, check the Form 1099-DIV that your mutual fund company sent you. If the mutual fund paid foreign income taxes, your mutual fund company will report the amount paid on your Form 1099-DIV.
You use Form 1116, Foreign Tax Credit, to calculate the credit. However, if all of the following conditions are met, you can claim the credit directly on Form 1040:
Your foreign income is only from passive income, such as interest, dividends, rents, royalties, annuities, sales of non-income-producing property or property held for investment, etc.
The amount of foreign income taxes that you paid is not more than $300 ($600 if married filing joint return).
All of your foreign income is shown on Form 1099-DIV or Form 1099-INT.
You elect this procedure for the tax year.
To learn more, see IRS Publication 514, Foreign Tax Credit for Individuals.