Article Updated on May 30, 2003
Note: Article Originally Titled "REPEAL OF FOREIGN EARNED INCOME EXCLUSION AND HOUSING ALLOWANCE PROPOSED BY THE SENATE"
On May 8, 2003, the Senate Finance Committee ("the Committee") by a vote of 12-9 passed the modification, put forth by the Chairman, Chuck Grassley (R-IA), to the Jobs and Growth Tax Act of 2003 ("the Bill"), containing many of the tax cuts advanced by the Administration, but with a much smaller dividend exclusion than the total exclusion advocated by the President. The full House of Representatives passed its own version of the bill on May 9. In the revenue offsetting section of the Bill, the Senate is proposing a repeal of foreign earned income exclusion and housing allowance for tax years after 2004. Sec. 350 of the Bill and sec. 911 of the Internal Revenue Code ("IRC").
The Committee believes that the exclusion under IRC Sec. 911 may result in an unfair advantage for individuals who have moved to lower-tax foreign countries, in that such individuals are taxed at a lower global effective rate than similarly situated individuals living and working in the United States. The Committee believes that U.S. citizens living and working abroad still receive the benefits of U.S. citizenship and thus should pay U.S. tax on their foreign income, subject to normally applicable foreign tax credit rules. Sec. 350 of the Bill.
As the House version of the bill does not contain similar provision, this difference between the two bills will be reconciled through the Joint Conference Committee during this summer. The reconciled bill is expected to be up for vote around September or October of this year.
Assuming that the repeal of foreign earned income and the housing allowance is passed, many US companies and US expats will need to change their compensation strategy to maximize the applicable foreign tax credits and to lower local country taxation.
As most European countries have comparable tax rates as in the US, Americans working in Europe will not experience an increase in their US tax burden, with proper application of foreign tax credit. Unlike European countries, most Asian countries have lower tax rates than in the US. As such, Americans living in Asia will experience an increase in their US tax burden, even after proper application of foreign tax credit.
Currently, many US expats want their income to be sourced to foreign country to maximize their foreign earned income exclusion and their housing allowance. If the repeal is passed, then the tax planning will be changed to source more income to the US while minimizing local country taxation (which is the exact result that the Congress wants).
Many US companies equalize the tax burden of its employees working overseas. With the repeal of the foreign earned income exclusion and the housing allowance, their equalization policies will have to be updated to incorporate this change in tax strategy.
On May 28, 2003, President Bush signed the Jobs and Growth Tax Relief Reconciliation Act of 2003, H.R. 2. In the final version of bill, the repeal of foreign earned income exclusion has been dropped. In a narrow vote (with Vice President Cheney breaking the tie), the foreign earned income exclusion has been saved.
