How is foreign income typically treated in U.S. taxation?

Foreign income is typically subject to U.S. taxation, but the U.S. tax system offers some relief to mitigate the potential for double taxation that might arise from earning income abroad. This is primarily achieved through the foreign tax credit system, which allows taxpayers to offset their U.S. tax liability by the amount of foreign taxes they have already paid on that income.

When a U.S. citizen or resident earns income from foreign sources, they are required to report that income on their U.S. tax return. The potential eligibility for foreign tax credits means that taxpayers can receive credit for taxes paid to foreign governments, which reduces their overall tax burden to the U.S. This structure encourages American businesses and individuals to engage in international activities without incurring excessive tax liabilities due to overlapping tax requirements from different jurisdictions.

In contrast, foreign income is not exempt from U.S. taxes and does not benefit from a universally lower tax rate. It must always be reported to the IRS, and while certain exclusions may apply for specific types of foreign-earned income under certain conditions (like the Foreign Earned Income Exclusion), it still must be reported and may incur taxation, considering the taxpayer's overall financial situation.