The recently signed American Jobs Creation Act of 2004 contains a number of provisions that affect United States citizens residing outside the United States.

Significant changes have been made to the foreign tax credit law, effective in calendar years 2007. Under current law, income and the foreign tax applicable to that income had to be allocated between nine so-called "baskets".

Under the new law there will be two categories or "basket", a passive income category and a general category.

Under current law, foreign taxes accrued or paid in the current year that are unused, can be carried back two years, and then carried forward five years.

Under the new law unused foreign tax credits can only be carried back one year, but can now be carried forward ten years.

The effective dates of the carry back and carry forward provisions differ and are best illustrated. An unused foreign tax credit from 2004 can be carried back to 2002 and 2003. An unused foreign tax credit from 2005 can only be carried back to 2004.

Foreign tax credit carry forwards from 1999 that were due to expire in 2004, can now be carried forward to 2009. Foreign tax credit carry forwards from 2004, can now be carried forward to 2014.

The prior tax law was of benefit to individuals who had extensive foreign business travel in the two years prior to a transfer to a high tax country. The new law will mitigate this benefit.

However, individuals who currently reside in a high tax country will now have ten years after their return to the United States to use up their carry forward credits versus five years under the old law.

The long promised relief from the alternative minimum tax is one year away.

nder the current tax law, if your US tax liability is $40,000, and all of your income is from sources from outside the US, and you paid at least $40,000 in income tax to a foreign country, your US income tax after taking into account the foreign tax credit would be zero.

However, under the alternative minimum tax, the foreign tax credit could only offset 90 percent of the alternative minimum tax, leaving you with a $4,000 tax to pay. Effective for calendar 2005, the 90 percent limit has been repealed.

An individual, who elects to claim a credit for foreign income taxes on an accrued basis, must translate the foreign currency to United States dollars based on the average exchange rate for that year.

Under the new tax law, a taxpayer using the accrued basis can now elect to translate the foreign currency now elect to translate the foreign currency to United States dollars based on the exchange rate on the date the taxes were paid.

Once this election is made, it can only be revoked with the consent of the IRS.

If a US citizen or resident alien has an interest or signature authority over a foreign account whose value exceeds $10,000 during the year, the individual must file Form 90-22.1 with the Treasury Department by June 30 of the following year.

As a result of years of non-compliance, the penalty for wilful failure to file the Form 90-22.1 is now a minimum of $25,000 and a maximum of $100,000.

The new law introduced a new civil penalty for non-wilful failure of up to $10,000, effective for 2004. If there is any doubt in one's mind as to whether they need to file, do so.

Most tax preparation services provide you with the Form 90-22.1, at no additional cost to you, when they prepare your tax returns.

Supplemental Wage Payments in Excess of $1,000,000 must have tax withheld at the maximum tax rate that for 2005 will be 35 percent.

The new tax law specifically excludes from the definition of wages for income tax, social security or medicare withholding any income received as a result of a transfer of stock from an Incentive Stock Option Plan or an Employee Stock Purchase Plan, and the disposition of stock received from such plans.

What is left unsaid in the new law is that gains from a disqualifying disposition of stock are still subject to income tax. The new law simply does not require the employer to withhold the tax.

The sole benefit to the individual is that there may be a savings in that the income will not be subject to social security and medicare tax.

Foreign Tax Credits and Iraq

Under US tax law an individual is allowed to claim as a credit against US income taxes for taxes paid to a foreign country, except that such credits are disallowed when the income taxes are paid to countries whose governments the United States does not recognise or those who have been identified as sponsors of international terrorism. Since 1991 Iraq has been on this list.

On September 27, 2004 the United States Treasury removed Iraq from that list and any income taxes paid to Iraq after that date are now creditable foreign income taxes.

The tax advice given by this column is, by necessity, general in nature. You should, of course, check with your own US tax consultant as to how specific transactions affect you since tax advice varies with individual circumstances.

@EDITRULE:

James Paul Sabo, CPA, is the President of ETS Ltd., PO Box HM 1574, Hamilton HM GX , Bermuda. Questions should be sent to: jsaboexpatriatetaxservices.com