I live abroad and am trying to figure out Form 1116, the Foreign Tax Credit Form. I am not sure if I should count taxes as "paid" or "accrued". My taxes are withheld from my payslip. However, just as in the USA, too much or too little can be withheld, so I could end up paying more or receiving a refund later.

According to the instructions on page 2 of Form 1116, I have to attach a detailed explanation of how I figured the conversion rate for the foreign currency. However, also according to the instructions, if I use the "paid" method I would have to use the exchange rate in effect on the date when I paid the taxes. How can I do that when the taxes were withheld throughout the year? If I use the accrual method I can use the average exchange rate for the year, just as I do for the rest of my tax return (for my income, etc.).

If I do have to use the paid method, how can I determine the exchange rate? What do I write in my "detailed explanation" of how I figured the conversion rate for the foreign currency?

Thanks.

QUOTE," . . . How can I do that when the taxes were withheld throughout the year? . . . "if I use the "paid" method I would have to use the exchange rate in effect on the date when I paid the taxes."--- In principlle, you can use the rate of foreign exchange in effect on the date you paid the foreign taxes to the foreign country. If your tax was withheld in foreign currency throughout the year, you use the rate of exchange in effect for the date on which the tax was actually withheld( what i mean is thatI bet the foreign IRS never withholds your taxes on a daily basis everyday throughout the whole year). Or if you make foreign estimated tax payments, you use the rate of exchange in effect for the date on which you made the estimated tax payment. fo rinstance, like that in US, if you make your estimated payment to the foreign IRS on Apr. 15th of 2010, then you can apply the currency exchange value in effect on that day. I do not think that the IRS(US) requires you to accurately measure the weighted average of the foreign currecy value in effect over the whole year.
"If I use the accrual method I can use the average exchange rate for the year, just as I do for the rest of my tax return (for my income, etc.)."--- If you claim the credit for foreign taxes on an accrual basis, you must generally use the average exchange rate for the tax year to which the taxes relate under the condition that the foreign taxes should be paid by you on or after the first day of the tax year to which they relate, but not later than 2 years after the close of that tax year.
For further foreign currency value info.; You can contact or write to;
Internal Revenue Service
International Section
P.O. Box 920
Bensalem, PA 19020-8518

Wnhough:

Double check that address you gave. I believe the IRS moved most of the International Tax Section to Austin, Texas, with some work still being done in Philadelphia. The office in Bensalem has (I think) been closed.

QUOTE," I believe the IRS moved most of the International Tax Section to Austin, Texas, with some work still being done in Philadelphia. The office in Bensalem has (I think) been closed."--- Thanks a lot! I didn't know that. I just found(cited) it on the IRS website.
http://www.irs.gov/publications/p514/ar02.html#en_US_publink1000224382."Foreign currency and exchange rate"

Thanks for your answers. Are there any advantages/disadvantages to using the accrued vs. the paid method?

QUOTE," Are there any advantages/disadvantages to using the accrued vs. the paid method? "--As far as your foreign tax credit is concerned, You can claim the credit for a qualified foreign tax in the tax year in which you pay or accrue it depending on your method of accounting.Suppose you choose an accrual accounting method, then youcan claim your tax credit only when you accrue your foreign taxes. Your foreign taxes usually accrue(occur) when you earn your foreign income and you carry your tax laiblity to pay. If you choose cash accounting method, you can choose your foreign tax credit either in the year you actually pay it or in the time when you accrue it depednding on a specific situation.
Even though you use the cash method, you can still choose to take a credit for foreign taxes in the year they accrue. You make the choice by checking the box in Part II of Form 1116. Once you make that choice, you must follow it in all later years and take a credit for foreign taxes in the year they accrue. However, the choice to accrue foreign taxes applies to all foreign taxes qualified for the credit. You are unable to take a credit for some foreign taxes when paid and take a credit for others when accrued.
Once you make the choice to accrue your foreign taxes and pay them in a later year, you cannot claim a deduction for any part of the previously accrued taxes.