US taxes on non-taxed (?) UK income

This year is a tricky one for me-- I'm a USC living in the UK and in previous years, I've been able to file normally and claim $2000 for the child tax credit on my US taxes filing jointly with my UK husband (who also has a SSN from when we lived in America). This year, however all of our income with the exception of carer's allowance was nontaxable UK income (no US income at all). Because of this, it looks like I can't file for the foreign income tax credit and therefore owe taxes to the US on the income, which reduces the child tax credit. Is this right? We received income-related ESA, carer's allowance, child benefit, child tax credits, DLA, and housing benefit.

So my questions:
1) do I include the UK child tax credits in the total income?
2) is there any way to file and still receive the full US child tax credit amount?

Thank you! Happy to provide more info if needed.

ETA: we have no savings, assets, or investments in the US or UK.

Did you claim the foreign tax credit in previous years? If so, did you have any excess foreign tax credits? You can carry those forward to this year and apply them against any US tax liability on your UK income. Also, if you end up paying any UK tax during 2012, you can also carry back any excess foreign tax credit to 2011.

Can't answer your questions about UK or US child tax credits though.

Yes, I claimed the foreign tax credit in previous years but didn't have any excess, unfortunately.

Thank you for the link-- yes, it definitely seems as though the income is not subject to tax. How should ensure this is reflected on my 1040? Would that (my total income amount) be what goes on line 7 or would it need to be elsewhere? And do you know what implications that would have regarding the US child tax credit? I'm guessing that not paying or receiving a credit for US taxes means that I would not be eligible for it? Further to that, would I be able to opt into paying US tax on it and therefore be eligible for a partial child tax credit? (ie. if my tax owed was $1300, I'd receive $700 back from child tax credit?)

Income, other than a pension, paid from the public funds of the United Kingdom, its political subdivisions, or local authorities to an individual for services performed for the paying governmental body is exempt from U.S. income tax. However, the exemption does not apply if the services are performed in the United States by a resident of the United States who either:

Is a U.S. citizen, or
Did not become a U.S. resident only to perform the services.

But please run this by a professional to get an opinion. If UK non-taxable Government social security benefits  are indeed exempt from US tax you'd probably have to file an 8833 to claim tax treaty exemption.

Ah, I see. In general, are you allowed to opt-in to paying taxes on exempt income?

UK benefit income is taxable in the US. It goes on the Other Income line of the 1040.

Oh, thanks! Do you know if I need to include UK tax credits that I've received in that figure, or should that be left off/put elsewhere?

UK benefit income is taxable in the US. It goes on the Other Income line of the 1040.

OK I'm freestyling a bit, but hear me out. The non-taxable UK benefits the OP has are UK social security benefits

http://www.hmrc.gov.uk/manuals/eimanual/eim76100.htm

and here's paragraph 3 of Article 17 which is exempt form the savings clause. It uses the term "social security benefits"

Paragraph 3
Paragraph 3 provides for exclusive residence-country taxation of social security benefits. Like the prior Convention, but unlike the U.S. Model, the Convention provides that payments made by one of the Contracting States under the provisions of its social security or similar legislation to a resident of the other Contracting State will be taxable only in the other Contracting State. This paragraph applies to social security beneficiaries, whether they have contributed to the system as private-sector or government employees. The phrase “similar legislation” is intended to refer to United States Tier 1 Railroad Retirement benefits.

I'd argue that the OP's paymenst are social security benefits and therefore US tax exempt.
Again I'm an amateur and open to correction

The law is any source of income needs to be included however the tax credits could fall under the US/UK treaty and be exempt from reporting(Benefits are 100% not in the treaty and fully taxable). I'm not sure on the credits but if you have enough standard or itemized deductions and personal allowances to cover it, I would include it to be on the safe side. I'm leaning that they are exempt but I have not seen them in practice.

I'm a professional and have been doing US/UK expat tax for 10 years. UK Benefits are completely taxable. They are not considered social security. The only benefit that qualifies for this is UK pension payments for the elderly. I have a really good link in the office to a court case that goes into detail  and I will post tomorrow from the office.

I'm a professional and have been doing US/UK expat tax for 10 years. UK Benefits are completely taxable. They are not considered social security. The only benefit that qualifies for this is UK pension payments for the elderly. I have a really good link in the office to a court case that goes into detail  and I will post tomorrow from the office.

OK thanks, the treaty is not very specific on this, if it was "social security pension" it would be clear, but "benefits" leaves open the possibility of other payments as the UK definitely defines maternity allowance etc. as social security benefits and as there's the phrase "under the terms of it's social security legislation" it's even more suggestive, so I'll be interested in the link and the actual law. The Treaty might mean social security pension, but that's not what it says! This is what the UK says are social security benefits.

http://www.hmrc.gov.uk/manuals/eimanual/EIM76000.htm

However, if UK SS benefits (excluding pension) are taxable in the US it leads to the situation where a US citizen earning $30k UK income can use FEIE or foreign tax credits to exclude it from US taxation, but if instead they get $30k of UK non-taxable Government benefits like attendance allowance (given to the disabled and blind if they need help around the house) they have to pay tax on them to the US. This seems like a bizzare situation and something to bring to the attention of the UK government as it's reducing a benefit that it pays to it's residents and specifically excludes from taxation.

Another annoying aspect of this is that it could be argued that these non-taxable UK social security benefits are the equivalent of US welfare payments that are not included as income on the 1040, this might well be a case the law turns out to be an ass.

"This year, however all of our income with the exception of carer's allowance was nontaxable UK income (no US income at all)"

I'm no expert on taxes, but I do receive CA and it is most definitely taxable in the UK and also in the US.  If you receive CA than you must be caring for someone receiving Disability Living Allowance, DLA is not taxable in the UK.   

 

"This year, however all of our income with the exception of carer's allowance was nontaxable UK income (no US income at all)"

I'm no expert on taxes, but I do receive CA and it is most definitely taxable in the UK and also in the US.  If you receive CA than you must be caring for someone receiving Disability Living Allowance, DLA is not taxable in the UK.  

 

The situation is dealt with reasonably for the social security pension and if the benefits are taxable in the UK, like Carer's Allowance, at least you can take a credit on your US taxes. The situation becomes ridiculous for UK non-taxable benefits. As I'm now realizing your DLA will be taxed by the USA as no one's included a mechanism to exclude it. I'm still interested to see why in the US/UK tax treaty "social security benefits" is interpreted to mean only state pension payments. This is a situation where the most vulnerable have been forgotten.

These payments are obviously given to people in difficult circumstances who are often of reduced means and the UK Government has given them a tax break on essentially welfare payments that come out of the public purse. For there to be no mechanism to exclude these payments from US tax just feels all wrong. I think I'll be sending a letter the MP in the UK constituency where I was born, HMRC and anyone else that might be as annoyed at this as I am.

The Department of Treasury would differ with you on that (from a recent press release)

“When taxpayers overseas avoid paying what they owe, other Americans have to bear a disproportionate share of the tax burden,”  said Emily McMahon, the acting assistant Treasury secretary for tax policy.

Well said, Emily. I think it's outrageous that hard-working Americans like Mitt Romney pay outrageously high rates of tax at 13.9% while welfare queens in foreign lands pay nothing.