Claiming foreign tax credits on your TY 2025 return to prevent double taxation
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Please note this article is designed fundamentally for US taxpayers in the UK. If you reside in a different jurisdiction then the treatment of your income may be different and you should discuss this with your tax preparers for that jurisdiction. The content of this article may still be useful for your understanding of foreign tax credits and the importance of paying foreign tax earlier.
Please note this article is designed fundamentally for US taxpayers in the UK. If you reside in a different jurisdiction then the treatment of your income may be different and you should discuss this with your tax preparers for that jurisdiction. The content of this article may still be useful for your understanding of foreign tax credits and the importance of paying foreign tax earlier.
To minimize the US tax liability for US taxpayers living abroad, the key strategy is claiming a foreign tax credit for non-US taxes paid on reportable income, typically through tax withholding on salary or payable when filing a foreign tax return. For taxpayers living in the UK, since UK tax rates are generally higher than US rates, this usually eliminates the majority/all of the potential US tax liability.
Taxpayers must ensure enough foreign tax credits are available in 2025 to offset US tax on income where the US does not have primary taxing rights. By default, a foreign tax credit is claimed on US tax returns on the “cash basis” i.e. a credit is claimed for taxes actually paid during the US tax year. Due to differences in UK and US tax years and payment timing, issues can arise if foreign income is earned or realized but the related UK tax isn’t paid within the US tax year. For example, a capital gain realized in July 2025 is taxed in the UK year ending 5th April 2026, where the payment is due by 31st January 2027. This potentially results in a shortfall of foreign tax credit on the 2025 US return unless you have credits of the right type carried forward from prior years.
Therefore, to maximize credits, you should calculate/estimate and pay your UK tax liability for the 5th April 2025 UK tax year by 31st December 2025. If you wait until the UK deadline (31st January 2026), you may lack sufficient credits for your 2025 US return and be double taxed. If Jaffe & Co receives your complete tax information by 16th October, we will endeavor to prepare your UK return by 31st December, though this is not always possible. You may also need to make a payment of UK tax against income you have earned or realized between 6th April and 31st December 2025, by the end of the year 2025.
Please note that some US-source income (e.g. retirement distributions, interest, certain capital gains) may be primarily taxable by the UK. So even if US tax has been withheld (or not) from certain income originating from the US, a payment may still need to be made to ensure the foreign tax credit is available.
Note further that foreign tax credits are categorized into “baskets” (e.g., passive for interest/dividends, “general limitation” for wages), and credits from one basket cannot offset tax in another (i.e. credits from your PAYE tax cannot be used to offset US tax on your capital gains in most cases).
In general, you may need to pre-pay UK tax by 31st December 2025 if in 2025 you (not exhaustive):
Please see below for further details and of course if you have further questions please contact us. Time spent on these matters is chargeable at our usual hourly rates.
FAQs:
Who needs to consider prepaying UK taxes? You may need to act if you receive or expect to receive foreign (non-US) income in 2025 on which foreign taxes are not withheld at source; such as capital gains, rental income, self-employment income, or certain retirement income. This is especially relevant for one-off or first-time income events, US-source income primarily taxed by the UK (e.g., retirement income for UK residents), or if you have a new or existing foreign corporation or partnership in 2025. If you lack sufficient carry-forward foreign tax credits to cover the potential US tax on your 2025 Form 1040, you may need to prepay UK (or other resident country) taxes. Again, this is relevant even for income arising from the US which is subject primarily to UK tax when living in the UK, namely interest income and retirement income.
What are foreign tax credits (FTCs) and why are they important? FTCs allow you to claim a credit on your US tax return for foreign taxes paid on worldwide income, preventing double taxation. See IRS Publication 514 for details. Without them you could potentially owe US tax on income that you have already paid tax (or will need to pay) on elsewhere.
If I have carryover FTCs, do I need to prepay UK tax? If you have enough of the correct “basket” of FTCs to cover the potential US tax on 2025 income, no prepayment may be needed. Note: “General limitation” basket credits cannot be used for income from a non-US partnership or Foreign Disregarded Entity.
Do I need to act if I sold US stock? If you are on the UK remittance basis (up to the UK tax year 2024/25) and do not remit proceeds, or claim relief under the Foreign Income and Gains regime (from the UK tax year 2025/26 going forward), generally no action is needed. If you are subject to UK tax on the gain, you may need to prepay UK tax, even for US stocks (except REITs).
How do I know if I have the correct type of FTCs? The main “baskets” are:
What do I need to do if prepayment is required? Make a prepayment of UK tax on the relevant income by 31st December 2025.
How much UK tax should I prepay? You should estimate and pay what the UK tax liability is likely to be on the relevant income (or the US liability if much lower). This depends on the nature of the income and the tax bracket that applies to you. If it is ordinary income it may be taxed at 20%, 40% or 45% in the UK; if a capital gain it would likely be at 18% or 24%. You should not try to pay an excessive amount of UK tax that will eventually be refunded to you as this amount would be disallowed in the US. Consult us or your UK tax advisor (if not us) for more details.
What if I have a UK company? You should pre-pay the corporation tax that you expect to owe for 2025 before the end of 2025. (Note that in most cases the year-end of the company for UK corporation tax purposes should be December 31st.) You should also make a pre-payment of UK tax against the dividends that you have paid yourself during 2025 before the end of the year. If you operate through a company for which a Foreign Disregarded Entity election has been made, if the net income earned by the company is very high and you have not paid a reasonable amount of dividends, you may want to pay further dividends before the end of the year so that the total amount of UK corporation tax (19% up to 25%) and personal tax is greater than the rate of tax you will incur on your Tax Year 2025 Form 1040.
What if I am on the Remittance Basis in the UK and have US investment income? From 6th April 2025, the Remittance Basis is abolished. Taxpayers may qualify for the new Foreign Income and Gains (FIG) regime. We recommend reviewing our article on the new rules and be cautious when making remittances.
What if I don’t prepay UK tax when required? You may owe both US and UK tax on the same income, requiring an amended US return to claim the FTC carry-back, incurring extra tax preparation fees and at least temporary double taxation. In the very worst case scenario you may end up incurring full tax in both jurisdictions without a chance of recovery.
If I have investment income from outside the UK and US, where do I pay tax first? If you have income from a third country you should seek to determine whether you need to pay tax on that income initially to that third country. Generally, income from real assets in that country (e.g. a rental property) is subject to tax initially in that country. You would then report it in the UK (if required), and then claim the final credit on your US tax return.
Can tax paid on my employment income cover the US tax on my investment income? FTCs are basket-specific and, generally, credits for earned income cannot offset tax on investment income. For Controlled Foreign Corporations (CFCs), dividends from your own company are usually General Limitation basket, so tax paid on your employment income can offset US tax on those specific dividends.
How do I prepay UK taxes? If registered for Self-Assessment, log in to your Government Gateway account to pay at any time. Please consult us or your UK tax advisor (if not us) for details.
Will I still owe Net Investment Income Tax (NIIT)? The Net Investment Income Tax is a surtax on the investment income of high earners; it only applies to investment income. Unfortunately—no matter what foreign tax credits you have—it is not possible to offset the NIIT due to a quirk in the way the law is written. See here for details on the NIIT.
If my UK dividend income is less than £500 and no UK tax is due, will I owe US tax? The US taxation of dividends is very complicated, especially when the dividends are foreign-source, and depends on: your overall level of income; whether the dividends are “qualified” or non-qualified; your filing status; and the proportion of shares you own of the company that is paying the dividend, among other things. If you have very low overall income, the dividends are likely to be taxed at 0% so you do not need any foreign tax credits; if you have higher income and you do not have enough of the correct type of foreign tax credits available then you could potentially owe US tax on the dividends.
Taxpayers must ensure enough foreign tax credits are available in 2025 to offset US tax on income where the US does not have primary taxing rights. By default, a foreign tax credit is claimed on US tax returns on the “cash basis” i.e. a credit is claimed for taxes actually paid during the US tax year. Due to differences in UK and US tax years and payment timing, issues can arise if foreign income is earned or realized but the related UK tax isn’t paid within the US tax year. For example, a capital gain realized in July 2025 is taxed in the UK year ending 5th April 2026, where the payment is due by 31st January 2027. This potentially results in a shortfall of foreign tax credit on the 2025 US return unless you have credits of the right type carried forward from prior years.
Therefore, to maximize credits, you should calculate/estimate and pay your UK tax liability for the 5th April 2025 UK tax year by 31st December 2025. If you wait until the UK deadline (31st January 2026), you may lack sufficient credits for your 2025 US return and be double taxed. If Jaffe & Co receives your complete tax information by 16th October, we will endeavor to prepare your UK return by 31st December, though this is not always possible. You may also need to make a payment of UK tax against income you have earned or realized between 6th April and 31st December 2025, by the end of the year 2025.
Please note that some US-source income (e.g. retirement distributions, interest, certain capital gains) may be primarily taxable by the UK. So even if US tax has been withheld (or not) from certain income originating from the US, a payment may still need to be made to ensure the foreign tax credit is available.
Note further that foreign tax credits are categorized into “baskets” (e.g., passive for interest/dividends, “general limitation” for wages), and credits from one basket cannot offset tax in another (i.e. credits from your PAYE tax cannot be used to offset US tax on your capital gains in most cases).
In general, you may need to pre-pay UK tax by 31st December 2025 if in 2025 you (not exhaustive):
- Have self-employment earnings for services performed outside the US
- Realize capital gains (except on US real property/businesses)
- Operate through a non-US partnership or perform services for a US partnership abroad
- Start receiving or have a significant increase in investment income
- Become taxed on worldwide income in the UK (no longer on the Remittance Basis or utilizing the new FIG regime)
- Receive US retirement or interest income primarily taxed by the UK, or have substantial non-qualified dividends or a high level of income overall
- Receive income not subject to UK withholding, especially if new or one-off
- Action may also be needed if you incorporated or operated a foreign company in 2025. Often, it is optimal to elect to treat a non-US company as a Foreign Disregarded Entity rather than a Controlled Foreign Corporation. You may need to pre-pay UK corporation tax on 2025 net income and personal tax on dividends before year-end.
Please see below for further details and of course if you have further questions please contact us. Time spent on these matters is chargeable at our usual hourly rates.
FAQs:
Who needs to consider prepaying UK taxes? You may need to act if you receive or expect to receive foreign (non-US) income in 2025 on which foreign taxes are not withheld at source; such as capital gains, rental income, self-employment income, or certain retirement income. This is especially relevant for one-off or first-time income events, US-source income primarily taxed by the UK (e.g., retirement income for UK residents), or if you have a new or existing foreign corporation or partnership in 2025. If you lack sufficient carry-forward foreign tax credits to cover the potential US tax on your 2025 Form 1040, you may need to prepay UK (or other resident country) taxes. Again, this is relevant even for income arising from the US which is subject primarily to UK tax when living in the UK, namely interest income and retirement income.
What are foreign tax credits (FTCs) and why are they important? FTCs allow you to claim a credit on your US tax return for foreign taxes paid on worldwide income, preventing double taxation. See IRS Publication 514 for details. Without them you could potentially owe US tax on income that you have already paid tax (or will need to pay) on elsewhere.
If I have carryover FTCs, do I need to prepay UK tax? If you have enough of the correct “basket” of FTCs to cover the potential US tax on 2025 income, no prepayment may be needed. Note: “General limitation” basket credits cannot be used for income from a non-US partnership or Foreign Disregarded Entity.
Do I need to act if I sold US stock? If you are on the UK remittance basis (up to the UK tax year 2024/25) and do not remit proceeds, or claim relief under the Foreign Income and Gains regime (from the UK tax year 2025/26 going forward), generally no action is needed. If you are subject to UK tax on the gain, you may need to prepay UK tax, even for US stocks (except REITs).
How do I know if I have the correct type of FTCs? The main “baskets” are:
- General Limitation: earned income, retirement income, your own company dividends (sometimes)
- Passive: investment income, most rental income, capital gains
- Foreign Branch: non-US partnerships, Foreign Disregarded Entities, or certain self-employment income outside the US
What do I need to do if prepayment is required? Make a prepayment of UK tax on the relevant income by 31st December 2025.
How much UK tax should I prepay? You should estimate and pay what the UK tax liability is likely to be on the relevant income (or the US liability if much lower). This depends on the nature of the income and the tax bracket that applies to you. If it is ordinary income it may be taxed at 20%, 40% or 45% in the UK; if a capital gain it would likely be at 18% or 24%. You should not try to pay an excessive amount of UK tax that will eventually be refunded to you as this amount would be disallowed in the US. Consult us or your UK tax advisor (if not us) for more details.
What if I have a UK company? You should pre-pay the corporation tax that you expect to owe for 2025 before the end of 2025. (Note that in most cases the year-end of the company for UK corporation tax purposes should be December 31st.) You should also make a pre-payment of UK tax against the dividends that you have paid yourself during 2025 before the end of the year. If you operate through a company for which a Foreign Disregarded Entity election has been made, if the net income earned by the company is very high and you have not paid a reasonable amount of dividends, you may want to pay further dividends before the end of the year so that the total amount of UK corporation tax (19% up to 25%) and personal tax is greater than the rate of tax you will incur on your Tax Year 2025 Form 1040.
What if I am on the Remittance Basis in the UK and have US investment income? From 6th April 2025, the Remittance Basis is abolished. Taxpayers may qualify for the new Foreign Income and Gains (FIG) regime. We recommend reviewing our article on the new rules and be cautious when making remittances.
What if I don’t prepay UK tax when required? You may owe both US and UK tax on the same income, requiring an amended US return to claim the FTC carry-back, incurring extra tax preparation fees and at least temporary double taxation. In the very worst case scenario you may end up incurring full tax in both jurisdictions without a chance of recovery.
If I have investment income from outside the UK and US, where do I pay tax first? If you have income from a third country you should seek to determine whether you need to pay tax on that income initially to that third country. Generally, income from real assets in that country (e.g. a rental property) is subject to tax initially in that country. You would then report it in the UK (if required), and then claim the final credit on your US tax return.
Can tax paid on my employment income cover the US tax on my investment income? FTCs are basket-specific and, generally, credits for earned income cannot offset tax on investment income. For Controlled Foreign Corporations (CFCs), dividends from your own company are usually General Limitation basket, so tax paid on your employment income can offset US tax on those specific dividends.
How do I prepay UK taxes? If registered for Self-Assessment, log in to your Government Gateway account to pay at any time. Please consult us or your UK tax advisor (if not us) for details.
Will I still owe Net Investment Income Tax (NIIT)? The Net Investment Income Tax is a surtax on the investment income of high earners; it only applies to investment income. Unfortunately—no matter what foreign tax credits you have—it is not possible to offset the NIIT due to a quirk in the way the law is written. See here for details on the NIIT.
If my UK dividend income is less than £500 and no UK tax is due, will I owe US tax? The US taxation of dividends is very complicated, especially when the dividends are foreign-source, and depends on: your overall level of income; whether the dividends are “qualified” or non-qualified; your filing status; and the proportion of shares you own of the company that is paying the dividend, among other things. If you have very low overall income, the dividends are likely to be taxed at 0% so you do not need any foreign tax credits; if you have higher income and you do not have enough of the correct type of foreign tax credits available then you could potentially owe US tax on the dividends.
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