The foreign earned income exclusion, the foreign housing exclusion, and the foreign housing deduction are based on foreign earned income. For this purpose, foreign earned income is income you receive for services you perform in a foreign country in a period during which your tax home is in a foreign country and you meet either the bona fide residence test or the physical presence test.
Earned income is pay for personal services performed, such as wages, salaries, or professional fees. The list below classifies many types of income into three categories. The column headed "Variable Income" lists income that may fall into the earned income category, the unearned income category, or partly into both.
Salaries and wages
Social security benefits
Scholarships and Fellowships
In addition to the types of earned income listed, certain noncash income and allowances or reimbursements are considered earned income. The fair market value of property or facilities provided to you by your employer in the form of lodging, meals, or use of a car is earned income.
Earned income includes amounts paid to you as allowances or reimbursements for the following items:
Earned income was defined earlier as pay for personal services performed. For further information on specific types of income – such as income from sole proprietorships, partnerships, and corporations, stock options, royalties, rents, and fringe benefits – refer to Chapter 4 of Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad.
The source of your earned income is the place where you perform the services for which you receive the income. Foreign earned income is income you receive for performing personal services in a foreign country. Where or how you are paid has no effect on the source of the income. For example, income you receive for work done in France is income from a foreign source even if the income is paid directly to your bank account in the United States and your employer is in New York City.
If you receive a specific amount for work done in a foreign country, report that amount as foreign earned income. If you cannot determine how much is for work done in a foreign country, or for work done partly in a foreign country and partly in the United States or in international waters or airspace, determine the amount of foreign source income using the method that most correctly shows the proper source of your income. In most cases you can make this determination on a time basis. Foreign source income is the amount that results from multiplying your total pay (including allowances, reimbursements, and noncash fringe benefits) by a fraction. The numerator (top number) is the number of days you worked within a foreign country. The denominator (bottom number) is the total number of days of work for which you were paid.
You are a U.S. citizen, a bona fide resident of a foreign country, and working in the foreign country as a mining engineer. Your salary is $76,800 per year. You also receive a $6,000 cost of living allowance, and a $6,000 education allowance. Your employment contract did not indicate that you were entitled to these allowances only while outside the United States.
Your total income is $88,800. You work a 5-day week, Monday through Friday. After subtracting your vacation, you have a total of 240 workdays in the year. You worked in the United States during the year for 6 weeks (30 workdays) and worked in the foreign country for the remaining 210 workdays. To figure the part of your income that was for work done in the foreign country during the year, divide the number of days you worked in the foreign country during the year (210) by the total number of days you worked during the year (240) and multiply that by your total income ($88,800), as follows:
210/240 × $88,800 = $77,700
Your foreign earned income is $77,700.