Claiming Foreign Earned Income Exclusion

U.S. EXPATRIATE TAX ISSUES:  CLAIMING THE §911 FOREIGN EARNED INCOME EXCLUSION

IRS Auditing More Expatriates

Written By Steven Miller, CPA      January 29, 2018

FOCUS ON FOREIGN EARNED INCOME EXCLUSION

The LB&I Group of the Internal Revenue Service (Large Business & International) announced they are focusing a concentrated effort on US citizens and resident aliens working in overseas assignments. 

Many of these taxpayers claim the foreign earned income exclusion of IRC Section 911.  Given the complexity of this area of tax law, the IRS has seen many errors on the returns and incorrect claiming of the exclusion.

Taxpayers wishing to claim the exclusion must qualify under one of two tests.

1)    the physical presence test requiring they spend no more than 35 days of presence in the United States while working outside the country

or

2) the bona fide resident test which is more stringent to meet.  It is the taxpayer’s burden to prove they meet one of the exclusion tests

Many taxpayers work in overseas assignments, but whether they qualify for the exclusion depends on their facts and circumstances.  In a recent Tax Court decision, the court ruled against airline pilot Robert Hudson who spent 5 ½ years in Korea flying for an airline. Mr. Hudson spent most of the year in Korea, but returned to the U.S. on vacations and days off and spent time with his wife who lived in Minnesota and Arizona.  In this case, the court found “intent” to be a bona fide resident of South Korea to be a primary reason for not qualifying.

BONA FIDE RESIDENT TEST

As to meeting the Bona Fide Resident test, the Tax Court used factors established by the Seventh circuit in Sochurek including:

  • Intention of the taxpayer
  • Establishment of his home temporarily in the foreign country for an indefinite period
  • Participation in the activities of his chosen community on social and cultural levels and assimilation into the foreign environment
  • Physical presence in the foreign country consistent with his employment
  • Nature, extent and reasons for temporary absences from his temporary foreign home
  • Assumption of economic burdens and payment of taxes to the foreign country
  • Status of resident contrasted to that of transient or sojourner
  • Treatment accorded his income status by his employer
  • Marital status and residence of his family
  • Nature and duration of his employment; whether his assignment abroad could be promptly accomplished within a definite or specified time
  • Good faith in making his trip abroad; whether for purpose of tax evasion

IN SUMMARY

The teaching point from this case and many others similar to it is that any taxpayer going to work for a foreign airline, oil and gas company or other foreign assignment should be proactive and plan for what the taxpayer can do to ensure and document that the foreign earned income exclusion applies to their compensation income.



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