Oregon Tax Consultants Practice Exam

Can you deduct foreign income taxes?

1. No, never

2. Only if the income is exempt from US taxes

3. Yes, as a credit or deduction

4. Only as a credit

The correct answer is: Yes, as a credit or deduction

In certain situations, you can deduct foreign income taxes, which is why the correct response indicates that they may be taken as either a credit or a deduction. When you pay taxes to a foreign government on income that you also report to the IRS, you are generally permitted to either take a tax credit or deduct those taxes on your U.S. tax return. The credit approach often proves more beneficial, as it directly reduces the amount of tax owed, thereby preventing double taxation on the same income. Alternatively, the deduction can provide some relief as well, although it's typically less advantageous than the credit due to the nature of how deductions lower taxable income. Certain conditions apply; for example, you can claim these deductions or credits in the year the foreign taxes were paid or incurred. It's crucial to assess which method—credit or deduction—provides greater tax savings based on your specific financial situation. As for the other options, they lack the nuances involved in U.S. tax law regarding foreign income taxes. Notably, claiming foreign income taxes never offers a blanket "no," as the existence of tax treaties and specific forms (like Form 1116 for the foreign tax credit) demonstrate that deductions and credits are very much applicable under particular circumstances.