2025 and 2026 Foreign Earned Income Exclusion

Living and working abroad can offer unique opportunities, but it also introduces a maze of U.S. tax rules that many expats don’t expect. The foreign earned income exclusion can significantly reduce your tax bill in 2025 and 2026, but it doesn’t apply to everyone or every type of income. Understanding where the exclusions stop, and the exceptions begin, can help you avoid costly surprises and make smarter financial decisions overseas.

Given the complexity of expat taxes, you may want to consider working with a financial advisor who offers tax planning and preparation services.

What Is the Foreign Earned Income Exclusion?

As American expatriates will tell you, the U.S. does things a little differently from many Western nations. Americans owe taxes on their income no matter where they earn it worldwide. This contrasts, say, with many EU nations, which only levy taxes on income that citizens earn while working domestically.

There’s a catch, however. While you owe the government taxes on all income earned worldwide, you can qualify to exclude income earned overseas from your income taxes. This is called the foreign earned income exclusion, and, along with the foreign housing deduction and the foreign housing exclusion, it is one of the major tax breaks which inure to U.S. citizens who live and work abroad.

This exclusion allows qualifying taxpayers to exempt a portion of their income from U.S. federal income taxes altogether. In 2026, you may claim it for up to the first $132,900 ($130,000 in 2025) that you earn. This means that if you earn $150,000 in 2025, you would pay federal income taxes on a total of: $150,000 (your income earned) – $130,000 (the maximum exclusion) = $20,000.

Like the foreign tax credit, the purpose of the foreign-earned income exclusion is to prevent double taxation. It makes sure that you aren’t taxed twice (once by the local government and once by the U.S. government) on the same income.

Claiming the Foreign Earned Income Exclusion

As noted above, the foreign-earned income exclusion functions as a tax deduction. It allows you to deduct all of your qualifying, foreign-earned income from your U.S. taxable income.

You may claim this exclusion under three circumstances:

You are a U.S. citizen who was a resident of a foreign country or countries for the entire taxable year (the bona fide residence test);
You are a U.S. citizen or a U.S. resident alien who was physically present in a foreign country or countries for at least 330 complete days during a period of 12 consecutive months (the physical presence test);
Or you are a U.S. resident alien who is a citizen or national of a foreign country with which the U.S. has an income tax treaty and who resided in that country for the entire taxable year.

In the first category, establishing bona fide residence is a case-specific test. Per the IRS:

It is determined by the facts of your situation and may include such factors as your intention or purpose for being in the foreign country, your activities in the foreign country, and whether you paid taxes to the foreign country, among other things. The IRS decides whether you qualify as a bona fide resident of a foreign country largely based on facts you report on Form 2555, Foreign Earned Income. The IRS cannot make this determination until you file Form 2555.

In the second category, it’s important to note that you don’t need to live abroad for 330 consecutive days. You can come home from time to time, just so long as you live abroad for at least 330 days out of 12 consecutive months. It also does not need to apply to the same taxable or calendar year. You can qualify for the physical presence test even if the 12 consecutive months bridge two separate years.

If you qualify based on one of these three tests, you may deduct up to the maximum amount (again, $130,000 in 2025 and $132,900 in 2026) from your taxable U.S income. This can only apply to money earned while working overseas. Any money that you earned while working or living in the U.S., most money earned off of investments or any money in excess of the cap, is not subject to the deduction.

Exceptions to the Exclusion

SmartAsset: 2023 Foreign Earned Income Exclusion

Not all income earned abroad is eligible for the foreign earned income exclusion. Passive income such as interest, dividends, capital gains and rental income is excluded from the exclusion, even if it’s earned while living overseas. Only earned income, such as wages or self-employment income from services performed abroad, may qualify.

Certain types of government compensation are not eligible for the exclusion. Income paid by the U.S. government to its employees working overseas, including most military and civilian federal employees, generally cannot be excluded. This rule applies regardless of where the services are performed.

Foreign earned income must be tied to work physically performed in a foreign country. If you are paid by a foreign employer but perform services while in the U.S., that income typically does not qualify. Even short trips back to the U.S. can affect how income is classified if work is performed during that time.

To claim the exclusion, you must meet either the bona fide residence test or the physical presence test. If you fail to satisfy one of these tests for the tax year, none of your income can be excluded under the foreign earned income exclusion. This can be an issue for expats who relocate midyear or frequently move between countries.

While the exclusion can reduce or eliminate U.S. income tax on qualifying earnings, it does not exempt self-employed individuals from self-employment tax. Social Security and Medicare taxes may still be owed on excluded income unless a totalization agreement applies. This surprise often catches self-employed expats off guard.

The exclusion has an annual dollar cap, which means higher earners may still owe U.S. taxes on income above the limit. Any earnings beyond the maximum exclusion amount remain subject to U.S. income tax. Planning becomes especially important for professionals with fluctuating or high incomes.

Bottom Line

The foreign earned income exclusion can be a valuable tax break for Americans working abroad, but it comes with important limitations that are easy to overlook. Income type, employer, work location and residency status all play a role in determining whether you qualify, and mistakes can be costly. Taking the time to understand the exceptions, and seeking guidance when needed, can help you stay compliant while making the most of available tax benefits.

Tips on Taxes

Some financial advisors may specialize in tax planning. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
SmartAsset’s tax calculator can show you what you might owe this year.