U.S. Employee Working in Iraq and Afghanistan Could Not Exclude Portion of Earnings from Income

Because a U.S. employee's tax home was in the United States rather than a foreign country, he could not exclude his overseas earnings from income. Daly v. Comm'r, T.C. Memo. 2013-147 (6/6/13).

James and Candace Daly were married and lived in Utah. James was a U.S. citizen and worked full time for a communications company. In 2007 and 2008, James's employer contracted with the U.S. Department of Defense, and James's work for his employer involved the government contract. During the two years in issue, James was assigned to work in Afghanistan and Iraq. When he worked overseas, James was unable to choose the location or duration of his assignments. While in Afghanistan and Iraq, James was provided with a government authorization to travel and lived and worked on U.S. military air bases. He was not allowed to leave either of the military bases on which he lived and worked or have his family live with him during the duration of the assignments. His wages were deposited electronically into his bank account, and he had access to the funds while he was in Afghanistan and Iraq. Fatca Law Singapore

During the years in issue, James also worked in Utah and was required to travel to California, Nevada, and Germany. James and Candace timely filed their federal income tax return for 2007 and excluded $24,888 in wages that James was paid by his employer. The couple attached Form 2555-EZ, Foreign Earned Income Exclusion, to their tax return and listed Utah as their tax home on the form. James also attached a letter requesting a waiver of the foreign earned income exclusion 330-day physical presence requirement and an exclusion of his wages for the 106 days he was deployed to a combat zone. James and Candace timely filed their federal income tax return for 2008 and excluded $22,259 in wages that James was paid by his employer. The couple attached Form 2555-EZ to their tax return and listed Utah as their tax home on the form. James also attached a letter requesting a waiver of the foreign earned income exclusion 330-day physical presence requirement and an exclusion of his wages for the 93 days he was deployed to a combat zone. The IRS disallowed the foreign earned income tax exclusions that James and Candace claimed for the years in issue. 

OBSERVATION: The maximum amount eligible for the foreign earned income exclusion in 2007 was $85,700. For 2008, the foreign earned income exclusion amount was $87,600.

Code Sec. 61(a) provides that gross income means all income from whatever source derived. U.S. citizens are generally taxed on income earned outside the United States unless a specific exclusion applies. A qualified individual may elect to exclude his or her foreign earned income from gross income under Code Sec. 911(a). A qualified individual is defined as an individual whose tax home is in a foreign country and who is (1) a U.S. citizen and established that he or she has been a bona fide resident of a foreign country, or (2) a citizen or resident of the United States and who, during any 12-consecutive-moth period, is present in a foreign country during at least 330 full days in that period. If a taxpayer does not meet either of these tests, Code Sec. 911(b)(1)(A) provides that his or her income is not considered foreign earned income.

A taxpayer who fails to meet the 330-day physical presence test may be treated as a qualified individual if he or she is eligible for a waiver of the period of stay in a foreign country under Code Sec. 911(d)(4). An individual who is a bona fide resident of a foreign country and is required to leave the foreign country because of war, civil unrest, or similar adverse conditions that preclude the normal conduct of business, may be treated as a qualified individual during the period he or she was a bona fide resident of the foreign country.

James claimed that he maintained a residence in Utah because Candace had a separate career and could not join him in Afghanistan or Iraq. He argued that his residence was in Afghanistan or Iraq or both during the years in issue and that his principal place of business was in Afghanistan and/or Iraq because he was required to be present in those countries for an entire 12 months.

The Tax Court held that James's home was in the United States during the years in issue, and therefore the couple's tax home was in the United States for purposes of the foreign earned income exclusion. The court noted that a tax home is defined under Code Sec. 911(d)(3) as the individual's home for purposes of the deduction under Code Sec. 162(a)(2) relating to travel expenses incurred while away from home in the pursuit of a trade or business. The court looked to Mitchell v. Comm'r, 74 T.C. 578 (1980), which held that an individual's tax home is the vicinity of the taxpayer's principal place of employment and not where his or her residence is located. The court also looked at Reg. Sec.1.911-2(b), which states if an individual is engaged in a trade or business at more than one location during the tax year, then the individual's tax home is located at his or her principal place of business. The regulation also states that if an individual has no principal place of business, then the individual's tax home is his or her place of abode in a real and substantial sense.

The court determined that James maintained strong ties to his home in Utah during the years in issue. He lived on U.S. military air bases when he was in Afghanistan and Iraq, he was not allowed to leave the military bases, his family did not go with him overseas, and he did not open a bank account in either country. Therefore, James's ties to Afghanistan and Iraq were limited and transitory in nature. The court rejected James's claim that his government travel authorization established that his primary place of business was in a foreign country. The court determined that James failed to show that he established a residence in a real and substantial sense in either Afghanistan or Iraq. The court also noted that James worked in Afghanistan and/or Iraq for no more than 106 days in 2007 and no more than 93 days in 2008. Less than half of his income was derived from services performed in Afghanistan and Iraq. 

Thus, the court concluded that the couple's tax home was in the United States during the years in issue. Since it concluded that the couple's tax home was in the United States, the court did not have to determine whether James met either the bona fide resident or 330-day physical presence test for purposes of being a qualified individual. However, the court noted that he did not meet either of these requirements. James also did not meet the requirements for a waiver of the 330-day physical presence requirement because he failed to show that he was required to leave either or both countries because of war, civil unrest or similar adverse conditions.

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