In today’s global economy, many U.S. citizens and residents earn income overseas or pay taxes to foreign governments. While this opens doors to diverse financial opportunities, it also introduces the challenge of double taxation — being taxed on the same income by both the U.S. and a foreign country. Fortunately, the Foreign Tax Credit (FTC) helps to resolve this issue. But what happens when you can’t use the full credit in the year it’s earned? That’s where the carryover rules come into play. In 2025, understanding these rules is more important than ever for smart tax planning.
What Is the Foreign Tax Credit?
The Foreign Tax Credit is a provision in the U.S. tax code that allows taxpayers to offset taxes paid to foreign countries against their U.S. tax liability. This is especially relevant for:
- U.S. citizens working abroad
- Dual citizens
- Green card holders
- U.S. companies with foreign subsidiaries or operations
The credit is typically claimed using IRS Form 1116, and it helps prevent the burden of paying tax on the same income twice — once to a foreign government and again to the IRS.
The Problem of Excess Foreign Tax
The IRS limits the amount of foreign tax credit you can claim in a given year. The maximum allowable credit is based on the proportion of your total income that is foreign-sourced. If you pay more in foreign taxes than what the IRS allows you to claim as a credit in that year, the extra amount becomes what’s called “excess foreign tax.”
This excess doesn’t go to waste — you may be eligible to carry it back one year or forward up to ten years.
What Are the Foreign Tax Credit Carryover Rules?
As of 2025, the FTC carryover rules work as follows:
- Carryback: You may apply any unused FTC to the immediate prior tax year if you had foreign-sourced income then and didn’t fully use your allowable credit.
- Carryforward: If you can’t carry the excess back (or don’t want to), you can carry it forward for up to 10 years.
For example, if you had $5,000 in eligible foreign taxes in 2025 but could only claim $3,500 due to IRS limits, the unused $1,500 can be:
- Carried back to 2024 (if you had enough foreign income then), or
- Carried forward and used through 2035
Who Can Use the Carryover?
Most individual taxpayers and businesses who claim the FTC on Form 1116 are eligible for the carryover provisions. However, there are exceptions:
- You must claim the credit, not a deduction. If you choose to deduct foreign taxes on Schedule A instead of taking the credit, you forfeit the right to carry over unused amounts.
- The foreign tax must be on foreign-sourced income, not U.S. income taxed by a foreign government.
- Certain types of income, such as income subject to GILTI (Global Intangible Low-Taxed Income) under IRC Section 951A, may not qualify for carryover if the foreign taxes associated with them are ineligible.
How to Claim Carryback or Carryforward Credits
To apply carryover FTC:
1. File IRS Form 1116
You must complete Form 1116 for each year you’re claiming a credit — even when claiming a carryover. This includes:
- Identifying the source country
- Categorizing the income type (general, passive, etc.)
- Calculating limitations using the foreign tax credit limitation formula
2. Indicate Carryovers Clearly
There’s a specific line on Form 1116 for carryback and carryforward amounts. Make sure to include this when filing to ensure you get proper credit.
3. Keep Good Records
The IRS expects you to maintain documentation showing:
- How much foreign tax you paid
- When it was paid
- How much was carried back or forward
- Proof of foreign-sourced income
Using a tax professional or tax software can help track these amounts over multiple years, avoiding missed opportunities.
Strategy Tips for 2025
✅ Evaluate Whether to Carry Back or Forward
If your previous year’s tax return showed a low U.S. tax liability on foreign income, carrying back your credit might offer no benefit. In such cases, carry the credit forward to a future year when you expect more foreign-sourced income or higher U.S. tax on that income.
✅ Coordinate with Foreign Tax Treaties
Tax treaties between the U.S. and certain countries may affect your eligibility for the credit or how much of it you can claim. Understanding these treaties can help you maximize your carryover.
✅ Be Mindful of Expiration
FTC carryforwards expire after 10 years. If you’ve been carrying forward credits from as far back as 2015, those will expire in 2025 unless used.
Common Pitfalls to Avoid
- Failing to File Form 1116: If you don’t properly file Form 1116, the IRS may disallow your credit — including carryovers.
- Double-Dipping: You can’t claim both a deduction and a credit for the same foreign tax. Choose one method.
- Incorrectly Categorizing Income: Passive income, general category income, and other types must be calculated separately. Mixing them up can lead to incorrect carryover calculations.
Conclusion
The Foreign Tax Credit carryover rules are a powerful tool for reducing U.S. tax liability on foreign income, especially in years where you can’t fully utilize the credit. With the option to carry unused credits back one year or forward ten, taxpayers have the flexibility to smooth out international tax burdens over time.
In 2025, as international work, investment, and digital nomad lifestyles continue to grow, the importance of understanding these carryover provisions cannot be overstated. Whether you’re an individual with overseas earnings or a business with international operations, mastering these rules can mean the difference between overpaying taxes and optimizing your global financial strategy.
