The FEIE lets qualifying Americans exclude up to ~$126,500 of foreign earned income from U.S. taxation. But for most Americans in Italy — a high-tax country — the Foreign Tax Credit is usually the better choice. Here's how to evaluate both.
What Is the FEIE?
The Foreign Earned Income Exclusion (IRC §911, filed via Form 2555) allows qualifying U.S. citizens and resident aliens living abroad to exclude a portion of their foreign earned income from U.S. federal income tax. For 2024, the exclusion amount is approximately $126,500, indexed annually for inflation.
What counts as "earned income":
- Wages and salaries from an employer
- Net self-employment income (freelance, consulting, business)
- Professional fees
What does NOT qualify:
- Pension or retirement income
- Dividends and capital gains
- Interest income
- Rental income
- Deferred compensation
Qualifying for the FEIE
You must meet one of two tests:
Bona Fide Residence Test
You've been a bona fide resident of a foreign country for an uninterrupted period that includes an entire tax year. Residency is determined by intent, not just physical presence.
Physical Presence Test
You were physically present in a foreign country (or countries) for at least 330 full days during any 12 consecutive months.
FEIE vs. Foreign Tax Credit in Italy
This is the most important decision for Americans in Italy. The key factors:
- Italy's top IRPEF rate is 43% — well above U.S. rates (max 37%)
- The FTC eliminates U.S. tax dollar-for-dollar on income already taxed by Italy
- For most Americans in Italy, Italian taxes paid typically exceed U.S. liability — meaning the FTC results in zero additional U.S. tax
- The FEIE, by contrast, excludes income rather than providing a credit — but you still owe self-employment tax on excluded income
Key Rules When Using Both
- You cannot use the FEIE and the FTC on the same income in the same year
- You can use the FEIE for some income and the FTC for others (e.g., excluding part of earned income, crediting taxes on passive income)
- Revoking a prior FEIE election is restricted — you generally can't switch back for 5 years
Self-Employment Tax Consideration
This is a critical trap many Americans miss: the FEIE does not eliminate the U.S. self-employment tax (15.3% on net self-employment income up to the Social Security wage base). Even if you exclude all your earned income under the FEIE, you still owe self-employment tax on that excluded income.
The U.S.-Italy Totalization Agreement may exempt you from U.S. self-employment tax if you're paying Italian INPS contributions. See: Can Americans Working in Italy Keep Paying U.S. Social Security?
Electing the FEIE when the FTC would have been better — or failing to elect when you should — can have multi-year tax consequences. The election can be revoked, but re-election is barred for 5 years. This decision deserves careful analysis before filing.
Housing Exclusion
In addition to the income exclusion, Form 2555 also allows a Foreign Housing Exclusion for employer-provided housing allowances or reimbursements that exceed a base amount. In Italy, housing costs in major cities can be significant — making this worth evaluating if your employer provides a housing benefit.
FEIE or FTC — Which Is Right for You?
The decision depends on your income level, Italian taxes paid, and long-term plans. Our bilingual team analyzes both options and files whichever strategy minimizes your total tax burden.
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