Foreign tax credit or exclusion: choosing for Chilean income

Two tools, two logics

The foreign earned income exclusion (FEIE, Form 2555) takes up to $132,900 of foreign earned income for 2026 out of your U.S. taxable income. It applies to wages and self-employment income only, not to rent, interest, dividends or pensions. You qualify by living in Chile as a bona fide resident for a full tax year, or by being outside the U.S. for 330 full days in any 12-month period.

The foreign tax credit (FTC, Form 1116) keeps the income on your return and then subtracts the Chilean income tax you paid on it from your U.S. tax, dollar for dollar, up to the U.S. tax on that income. Unused credits carry back one year and forward ten.

Why Chile's rates point toward the credit

Chile taxes salaries monthly through the Impuesto Único de Segunda Categoría, withheld by your employer, and taxes other income annually through the Global Complementario on Formulario 22. Both use the same progressive scale, from 0% up to 40% at the top.

• Mid and higher incomes: the Chilean tax on your salary is often equal to or higher than the U.S. tax on it. The credit then reduces your U.S. tax to zero and the excess carries forward, which helps in a later year with U.S.-source income or a move back.
• Lower incomes: the first band of the Chilean scale is tax-free, so a modest salary may have little Chilean tax to credit. Here the exclusion can produce a lower U.S. bill. With children, though, read the next section first.

New residents have one more wrinkle. Under Chile's three-year rule, foreigners who become tax resident in Chile are taxed only on Chilean-source income during their first three years, and the period can be extended. Income from U.S. sources in those years is taxed by the U.S. alone.

Children: the refund you can lose with the exclusion

For 2026 the child tax credit is $2,200 per qualifying child under 17, and up to $1,700 per child is refundable as the additional child tax credit. Refundable means the IRS can pay it to you even when you owe no tax.

The catch: if you claim the foreign earned income exclusion, you cannot claim the refundable part. If you use the foreign tax credit instead, your Chilean salary stays on the return as earned income, and the refundable amount can come back to you even though Chilean tax wiped out your U.S. tax.

For a family with two children, that can mean a refund of up to $3,400 a year that the exclusion would have given up. The child needs a Social Security number valid for work issued before the return's due date, and you (or, on a joint return, at least one spouse) need one too.

Where the U.S.–Chile treaty fits

The income tax treaty between the two countries has been in force since December 2023. It assigns taxing rights for items such as pensions, dividends, interest and business profits, and it lowers withholding rates. For U.S. citizens, a "saving clause" keeps the U.S. right to tax them as if the treaty did not exist, with exceptions. In practice the credit is still the main tool, and the treaty helps decide which country credits which tax. If you rely on a treaty article to change U.S. tax, you may need Form 8833.

How we choose

• We run your return both ways, with the Chilean tax actually withheld and declared on Formulario 22, not an estimate.
• We check the children's credits, your other income (rent, dividends, a business) and any credit carryovers.
• We look ahead: a move back to the U.S., a pay rise, or the end of the three-year rule can change the best answer, and switching away from the exclusion has a five-year cost.

Whichever method you use, Chilean accounts still go on the FBAR and possibly Form 8938. See AFP, APV and the FBAR.