After reading my previous post Too Much Hassle in Claiming Foreign Tax Credit on IRS Form 1116, several readers said they used tax software OLT this year because OLT had supported Form 1116 and its Schedule B sooner than TurboTax. My gut reaction was:
It’s great that OLT was able to do it fast but does it produce the correct numbers?
Project Management Triangle
In other words, does the project management triangle still hold?
You know the saying you can have any two out of the three — good, fast, and cheap — but not all three at the same time. Which two will you pick?
I posited in my previous post that the majority of Form 1116’s filed using the H&R Block software are wrong because users don’t realize that it asks them to calculate adjustments manually outside the software, and they don’t see the option to bypass manual adjustments when it’s hidden in the Forms mode. How well does OLT do?
A Four-Way Test
I made up a simple test case:
John, single, earned $50,000 as an independent contractor. He received $5,000 in dividends from an international stock fund, 100% of which was foreign-source income. $4,000 out of the $5,000 was qualified dividends. The fund reported $500 in foreign taxes paid. John had no other income or deductions.
I ran this in four different software packages:
- TurboTax Deluxe (download version)
- H&R Block Premium (download version)
- FreeTaxUSA (online only)
- OLT (online only)
I took the default path in each software, i.e. how a typical user would use it. Here are the bottom-line results:
|Foreign Tax Credit|
Four software packages, three different answers. Don’t you love it?
Now, which answer is correct? Based on my limited understanding of how it should work, I say TurboTax and FreeTaxUSA did it correctly for this simple case, but it’s possible these two aren’t 100% correct either (see comment #5 from Steve). I don’t see FreeTaxUSA generating the necessary Schedule B to carry the excess credit to next year. H&R Block and OLT calculated the credit amount wrong. FreeTaxUSA will calculate the wrong credit amount when the user doesn’t qualify for the adjustment exception.
Tax software won’t always give the wrong answer. You’ll get 100% credit when there’s a wide gap between the foreign taxes paid and the maximum credit allowed. Even if the software calculates the maximum credit wrong, the error may not be large enough to affect your bottom-line number. The thing is, you never know when the faulty logic in the software affects the final number and when it doesn’t. Even if the final number happens to be correct, the Form 1116 you’re filing is still wrong because other numbers on that form are wrong.
Of the four tested, only TurboTax calculates the required adjustment to your foreign-source income when you don’t qualify for the adjustment exception. The other three all ask you to read the instructions and calculate the required adjustment manually outside the software. Because most users don’t realize this, they’ll misrepresent their income when they don’t adjust. Even if they realize they must adjust, it’s quite difficult to calculate the adjustment anyway, which is why H&R Block, FreeTaxUSA, and OLT wash their hands of it in the first place. They turn lazy programming into a user error —
“I said you might need to adjust the income. It’s not my fault that you didn’t.”
When you do qualify for the adjustment exception, as in the test case used here, H&R Block doesn’t make it easy to activate the exception in the interview. You have to know to look for that option in the Forms mode. H&R Block and OLT calculate incorrectly because they omit above-the-line deductions. FreeTaxUSA includes above-the-line deductions in the calculation but it doesn’t generate the necessary Schedule B for you to carry the excess credit to the following year.
When it comes to a complex tax form such as Form 1116, producing the correct numbers should be the top priority. Fast and cheap isn’t the right approach when it’s difficult to verify whether the results are correct. Although TurboTax isn’t necessarily 100% correct and it was late in supporting Form 1116 and the new Schedule B, it was worth the wait.
If you’re stuck with filing Form 1116 for the foreign tax credit, use TurboTax. It doesn’t do everything correctly but other software packages within a consumer’s budget aren’t any better. Here’s a walkthrough of how to use it: How to Enter Foreign Tax Credit Form 1116 in TurboTax.
I’m so glad to get out of this though, for reasons I mentioned in the previous post Too Much Hassle in Claiming Foreign Tax Credit on IRS Form 1116. Even with TurboTax, I have no interest in becoming an expert in Form 1116.
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