Foreign Earned Income Exclusion for self-employed

[nwtaxlady]

I have a new client who was in Brazil from October 2015 to December 18th 2016. No vacations or trips home during that time period.

He was a independent contractor paid on a 1099-Misc. I asked him what he did and he said he was auditing credit card fraud. I asked about expenses and the only expense he had was his laptop. He said he did it all on his computer.

The company who issued the 1099-Misc is here in the US and from the same state he is from. He could do this job from anywhere. He could do it from home, or in Hawaii or any country. He just so happened to meet a gal when he was in Brazil a few years ago when he was on his Mission. So he went to Brazil to be with her and at the same time he got connected with a high school friend who offered him this job. So here he was in Brazil and made say $65,000 on a 1099-misc.

I have done some research and he is still subject to the SE tax. Now I am wondering if qualifies for the earned income exclusion since he could have done this job at home. He did not have to go to Brazil to do this.

I have done so much reading about this... I think I read that it is where you are when you earned the income. So can anyone confirm that?

Anyone have experience with this type of situation and can confirm that he qualifies for the earned income exclusion based on the Physical Presence Test?

Thanks!!

[Burke]

Yes, it was where he was living when he earned the income. FEI exclusion applies.

[Roland Slugg]

Absolutely not! The FEI exclusion only applies when the income is received from foreign sources. See Code §911(b)(1)(A). Furthermore, your client does not meet the "Bona Fide Residence Test." See the instructions for F-2555 about that.

I have done so much reading about this.

In all your reading did you not see the following (or similarly worded) definition? An individual's “foreign earned income” means his earned income from foreign sources within a foreign country. (Emphasis added.)

[TaxGuyBill]

This is one of the extremely rare occasions that I disagree with Roland.

§1.911-3(a):

(a)Definition of foreign earned income. For purposes of section 911 and the regulations thereunder, the term “foreign earned income” means earned income (as defined in paragraph (b) of this section) from sources within a foreign country (as defined in § 1.911-2(h)) that is earned during a period for which the individual qualifies under § 1.911-2(a) to make an election. Earned income is from sources within a foreign country if it is attributable to services performed by an individual in a foreign country or countries. The place of receipt of earned income is immaterial in determining whether earned income is attributable to services performed in a foreign country or countries.

https://www.law.cornell.edu/cfr/text/26/1.911-3

From an IRS FAQ page:

3. What is foreign earned income? Is it income paid by a foreign person for working abroad, or is it income paid by a U.S. company for working abroad?

Earned income is pay for personal services performed, such as wages, salaries, or professional fees. Foreign earned income is income you receive for services you perform in a foreign country or countries.

To qualify for the foreign earned income exclusion:

Your tax home must be in a foreign country; and
You must meet either the bona fide residence test or the physical presence test.
It does not matter whether earned income is paid by a U.S. employer or a foreign employer.

https://www.irs.gov/individuals/international-taxpayers/frequently-asked-questions-about-international-individual-tax-matters#TopFAQs

Also, the may or may not meet the Bona Fide Residence Test, but the certainly seem to meet the Physical Presence Test.

[nwtaxlady]

thanks taxguybill...

I know my client meets the Physical Presence test. So taxguybill, do you agree then he can exclude his income but still subject to the self employment tax? Thanks!!

[TaxGuyBill]

Maybe.

Yes, they are subject to SE tax. I think most tax professionals would use the Foreign Earned Income Exclusion, but it is a "gray area".



For the Foreign Earned Income Exclusion, besides having satisfied the Substantial Presence Test, the taxpayer must have their "Tax Home" in the foreign country. By our 'usual' definition of Tax Home, the taxpayer seems to qualify.

However, the Foreign Earned Income Exclusion has an 'extra' part to define Tax Home. It says "An individual shall not be treated as having a tax home in a foreign country for any period for which his abode is within the United States."

Quite annoyingly, it does not define "abode".

Chief Counsel Advice AM2009-003 (see link below) gives some insight to what "abode" may mean. Unfortunately, the way I read it, in many cases when the taxpayer does not permanently or semi-permanently move to a foreign country, their "abode" might still be in the US, which would disqualify the Foreign Earned Income Exclusion. However, it depends greatly on the taxpayer's very specific circumstances.

https://www.irs.gov/pub/irs-utl/am2009003.pdf#page=3

[Roland Slugg]

TaxGuyBill may be right, but I still have serious doubts. I have read the Regs carefully ... especially Regs §1.911-2 and §1.911-3 ... and I believe nwtaxlady's client runs afoul of several requirements contained therein. Regs §1.911-2(c)(1), §1.911-2(c)(2) are two of them, and there are others. The IRS also has its own rules and guidelines, and based on my reading of them, I don't think the IRS would allow the FEIE if he gets audited.

I also still wonder if his income was "foreign source." He worked for a U.S. company and investigated credit card fraud in the U.S. (or so I assume), and I'm sure all his findings were reported to his U.S. employer in the U.S. How does this qualify as "foreign source" income?

He was not required by his employer to be in Brazil. He provided no services that required his physical presence in Brazil. I'd lay long odds that the guy never established Brazil as his tax home. Did he file a Brazil tax return? Report his income to Brazil? Pay Brazil income tax? He only went there to be with his girlfriend, probably lived with her the whole time he was there, then returned to the United States after they broke up. None of this falls within the spirit or intent of the Code or Regs.

I don't think he qualifies for the FEIE, but maybe he does. I'm a bit curious, though ... did the client ask about the FEIE? Is he expecting it?

[TaxGuyBill]

Roland, I think that you are missing §1.911-2(a)(2). The taxpayer needs to meet the Bona Fide Resident Test in §1.911-2(c) OR the Physical Presence Test in §1.911-2(d). They only need to meet ONE of them, not both.

In other words, §1.911-2(c) does NOT need to be met if the taxpayer satisfies §1.911-2(d), which seems to be the case.

There is no requirement that the taxpayer needs to be in the foreign country.


In my opinion, except for the tricky situation about the "abode", the taxpayer unquestionably qualifies.

[JON]

Dentist hired to work at U.S. military posts

I had a dentist hired by a contractor in Oklahoma to work at a military base in Germany. W-2'd and I took the exclusion!! He was there the entire time.

The middle east contractors (paid SE) the contractor was addressed here - they were informed what they had to do for the exclusion and we took it on him as he met the physical presence test also.

Ir was a few years ago - the second one is mining for gold in the US right now.

[nwtaxlady]

Thanks for the link TAXGUYBILL...

Maybe.

Yes, they are subject to SE tax. I think most tax professionals would use the Foreign Earned Income Exclusion, but it is a "gray area".



For the Foreign Earned Income Exclusion, besides having satisfied the Substantial Presence Test, the taxpayer must have their "Tax Home" in the foreign country. By our 'usual' definition of Tax Home, the taxpayer seems to qualify.

However, the Foreign Earned Income Exclusion has an 'extra' part to define Tax Home. It says "An individual shall not be treated as having a tax home in a foreign country for any period for which his abode is within the United States."

Quite annoyingly, it does not define "abode".

Chief Counsel Advice AM2009-003 (see link below) gives some insight to what "abode" may mean. Unfortunately, the way I read it, in many cases when the taxpayer does not permanently or semi-permanently move to a foreign country, their "abode" might still be in the US, which would disqualify the Foreign Earned Income Exclusion. However, it depends greatly on the taxpayer's very specific circumstances.

https://www.irs.gov/pub/irs-utl/am2009003.pdf#page=3

I printed out that link and read thru it. After reading pages 3 & 4 I am re-thinking this. At the bottom of page 4 it talks about the courts ....."based on other factors, such as a US Bank account, US driver's license, and US voter's registration, that the taxpayers had strong familial, economic and personal ties in the US and only transitory ties in the foreign country where the taxpayers worked, and thus, the taxpayers were held to have a US abode. Accordingly, the taxpayers could not exclude their foreign earned income from gross income for US tax purposes."

You must meet the bona fide residence test or the physical presence test. AND you must meet the tax home test. Your tax home is your regular or principal place of business, employment, or post of duty, regardless of where you maintain your family residence. if you don't have a regular or principal place of business because of the nature of your trade or business, your tax home is your regular place of abode (the place where you regularly live).

With all that .... my client meets the physical presence test... but since he can work basically at any kitchen table or on the beach....then you have to look at his regular place of abode. And by reading what the courts say about it.... he does have his banking, driver's license and voting registration in the US.

I am now thinking he DOES NOT QUALIFY for the FEIC. Darn it!

[TaxGuyBill]

I printed out that link and read thru it. After reading pages 3 & 4 I am re-thinking this. At the bottom of page 4 it talks about the courts ....."based on other factors, such as a US Bank account, US driver's license, and US voter's registration, that the taxpayers had strong familial, economic and personal ties in the US and only transitory ties in the foreign country where the taxpayers worked, and thus, the taxpayers were held to have a US abode. Accordingly, the taxpayers could not exclude their foreign earned income from gross income for US tax purposes."

You must meet the bona fide residence test or the physical presence test. AND you must meet the tax home test. Your tax home is your regular or principal place of business, employment, or post of duty, regardless of where you maintain your family residence. if you don't have a regular or principal place of business because of the nature of your trade or business, your tax home is your regular place of abode (the place where you regularly live).

With all that .... my client meets the physical presence test... but since he can work basically at any kitchen table or on the beach....then you have to look at his regular place of abode. And by reading what the courts say about it.... he does have his banking, driver's license and voting registration in the US.

I am now thinking he DOES NOT QUALIFY for the FEIC. Darn it!

I agree that paragraph makes it questionable. However, look at the phrase immedicately before your quotation: "based upon the blocks of time spent in the United States" ... .

After re-reading things, that is referring to Court Cases where "In substantially all of these cases, including Bujol and Lemay, the taxpayers alternated blocks of time working abroad with blocks of time at home in the United States where their families lived."

Your taxpayer was not alternating blocks of time between countries (which would be impossible based on the Physical Presence Test, rather than the Bona Fide Resident Test).

I have not read the Court Cases, but my impression is that the time in the US was the 'big' one that disqualified those Court Cases from claiming the exclusion. The other stuff just supported that.


It's a "gray area", and I'm not sure what I would do I were in your shoes. Although my original thought is that the taxpayer does not qualify, I am now leaning towards the taxpayer might qualify. One option would be to claim the exclusion, but give FULL DISCLOSURE to your client that it is a "gray area", and that it could be disallowed. You may even want to include disclosure on the tax return itself by putting some notes in the Preparer Notes (or whatever your software has that is sent with the e-file).

[Lion]

There's a form for that. 8275?

Does the "convenience of the employer" come into play at all. If the taxpayer's location was simply for his own convenience, can he even qualify for the FEIE?

[Twin Turbo Z]

I had a dentist hired by a contractor in Oklahoma to work at a military base in Germany. W-2'd and I took the exclusion!! He was there the entire time.

The middle east contractors (paid SE) the contractor was addressed here - they were informed what they had to do for the exclusion and we took it on him as he met the physical presence test also.

Ir was a few years ago - the second one is mining for gold in the US right now.

Same here. We have many overseas contractors (private military and mechanics) who qualify for the exclusion. Don't forget you can slide the tax year time-frame to meet the time abroad.

[nwtaxlady]

There's a form for that. 8275?

Does the "convenience of the employer" come into play at all. If the taxpayer's location was simply for his own convenience, can he even qualify for the FEIE?

NOPE, not at all for the convenience of the employer. Employer or issuer of the 1099-Misc is from his home state in the US.

[nwtaxlady]

About that Form 8275...LION & TAXGUYBILL

I took a look at that form 8275 and the instructions. TAXGUYBILL, I know you understand here.... how would I word that on the Form 8275 without getting myself into trouble!! What would I say or word it on that Form? Thanks again for all your input!!
And LION, I had never seen or used that form before, any input here?