Foreign taxes you paid land in one of two places on your Form 1040. If you claim them as a credit, the amount is calculated on Form 1116, carried to Schedule 3, Line 1, and then flows to Line 20 of Form 1040, reducing your tax dollar for dollar. If you claim them as a deduction, the amount goes on Schedule A, Line 6, and feeds into Line 12e of Form 1040 as part of your itemized deductions. Most filers take the credit, and a smaller group with only a few hundred dollars of foreign tax can skip Form 1116 entirely and enter the number straight on Schedule 3.
Credit or Deduction: One Choice for the Whole Year
You can either credit or deduct the foreign taxes you paid, but not both in the same year. The election is all-or-nothing: if you credit any qualified foreign taxes, you must credit all of them, and if you deduct any, you must deduct all of them.1Internal Revenue Service. Publication 514 (2025), Foreign Tax Credit for Individuals
The credit is usually the better choice because it offsets tax directly, while a deduction only shrinks taxable income. A $500 foreign tax payment saves roughly $110 to $185 in federal tax as a deduction, depending on your bracket, versus a full $500 reduction as a credit. The deduction mainly makes sense if your foreign tax rate is high enough that the credit limitation would waste a large portion of it, or if you’re already itemizing and the numbers happen to favor it. For someone with foreign dividends or interest from a brokerage account, the credit is almost always the right call.
The Credit Path: Form 1116 to Schedule 3 to Line 20
The foreign tax credit sits in Sections 901 and 27 of the Internal Revenue Code, and Form 1116 is where you calculate it.2Office of the Law Revision Counsel. 26 USC 901 – Taxes of Foreign Countries and of Possessions of United States The form has you identify your foreign-source income, list the taxes you paid (with amounts in both the foreign currency and U.S. dollars), and then apply a limit so the credit doesn’t exceed the U.S. tax that would have been owed on that income.
The limitation formula multiplies your total U.S. tax by the ratio of foreign-source taxable income to worldwide taxable income.3Internal Revenue Service. Foreign Tax Credit – How to Figure the Credit If a quarter of your taxable income came from abroad, you can credit foreign taxes only up to a quarter of your U.S. tax. Anything above that limit isn’t lost; it carries.
The credit total from Form 1116 goes to Schedule 3, Line 1. Schedule 3 sums up several nonrefundable credits and moves the total to Form 1040, Line 20.4Internal Revenue Service. 2025 Schedule 3 (Form 1040) Because the credit is nonrefundable, it can zero out your tax but cannot by itself generate a refund.
One filing detail that catches people: you need a separate Form 1116 for each category of foreign income. The two most common for individuals are passive category (dividends, interest, royalties) and general category (wages, self-employment income). Foreign dividends plus foreign wages means two Forms 1116, each calculating its own limit, with the credits then combined on Schedule 3.5Internal Revenue Service. Instructions for Form 1116 (2025)
The $300/$600 Shortcut That Skips Form 1116
If your foreign taxes are small, you can bypass Form 1116. Under Section 904(j), you qualify when your total creditable foreign taxes are $300 or less ($600 on a joint return) and all your foreign income is passive income reported to you on a payee statement like a 1099.6Office of the Law Revision Counsel. 26 USC 904 – Limitation on Credit
When you qualify, you enter the foreign tax amount directly on Schedule 3, Line 1, and it flows to Form 1040, Line 20 just as it would after Form 1116.4Internal Revenue Service. 2025 Schedule 3 (Form 1040) No Form 1116 needs to be attached. The trade-off is that using the shortcut means giving up the carryback and carryforward for any unused credit from that year.7Internal Revenue Service. Topic No. 856, Foreign Tax Credit For a small credit fully absorbed in the current year, that’s rarely a concern. Near the threshold with a limitation squeezing your credit, filing Form 1116 to preserve the carryover can be worth the extra time.
The Deduction Path: Schedule A, Line 6 to Line 12e
If you take the deduction instead, foreign income taxes go on Schedule A, Line 6, the “other taxes” line.8Internal Revenue Service. 2025 Instructions for Schedule A (Form 1040) Section 164 of the Internal Revenue Code authorizes the deduction for foreign income, war profits, and excess profits taxes.9Office of the Law Revision Counsel. 26 USC 164 – Taxes Your total from Schedule A then moves to Line 12e of Form 1040.10Internal Revenue Service. Schedule A (Form 1040) 2025 Itemized Deductions
One useful feature of Line 6: it sits outside the state and local tax (SALT) cap. The SALT limitation applies only to Lines 5a, 5b, and 5c, which cover state and local income taxes, real property taxes, and personal property taxes.11Internal Revenue Service. Topic No. 503, Deductible Taxes Foreign income taxes on Line 6 are not capped. Even so, taking the deduction only makes sense if your total itemized deductions clear the standard deduction, which for 2026 is $16,100 for single filers and $32,200 for joint filers.
Numbers to Pull Before You File
Most of the figures you need come from year-end statements from your broker or bank. Foreign taxes withheld on dividends appear in Box 7 of Form 1099-DIV, and foreign taxes withheld on interest appear in Box 6 of Form 1099-INT, both already in U.S. dollars.12Internal Revenue Service. Instructions for Form 1099-DIV (01/2024) You’ll also want the gross amount of foreign-source income tied to those taxes, since the credit limitation depends on the ratio of foreign to total income.
If you paid the tax directly in a foreign currency, convert it to U.S. dollars using either the yearly average rate or the spot rate on the payment date. The IRS accepts rates from the Treasury Department, the Federal Reserve, and widely used sources like oanda.com and xe.com.13Internal Revenue Service. Foreign Currency and Currency Exchange Rates Sloppy conversions or misreported foreign taxes can trigger a 20% accuracy-related penalty on any underpayment.14Office of the Law Revision Counsel. 26 USC 6662 – Imposition of Accuracy-Related Penalty on Underpayments
When the Credit Is Bigger Than the Tax
Because the credit is nonrefundable and capped by the limitation formula, you can end up with more qualified foreign taxes than you can use in a single year. Excess credits carry back one year or forward up to ten.7Internal Revenue Service. Topic No. 856, Foreign Tax Credit
Schedule B (Form 1116) reconciles the prior-year carryover with the current year. The carryforward figure comes onto Line 10 of Form 1116, where it feeds the current-year credit calculation. You attach Schedule B for each income category with an active carryover. One boundary to note: you cannot carry a credit back to a year in which you deducted your foreign taxes instead of crediting them.5Internal Revenue Service. Instructions for Form 1116 (2025) The election you made in the earlier year controls what can land there.