U.S. Tax Court Denies Foreign Earned Income Exclusion for Wages Earned in Russia
A U.S. taxpayer was found ineligible for the foreign earned income exclusion under IRC section 911 with regard to his wages earned in Russia. However, the U.S. Tax Court held that the taxpayer was not liable for accuracy-related penalties under IRC sections 6662 and 6664 with regard to the claimed exclusion.
The case involved a taxpayer who worked in the oil industry and was regularly posted to drilling locations overseas. During the years at issue, the taxpayer worked in Russia. When the taxpayer filed his U.S. tax returns, he excluded his wages earned in Russia from his gross income under IRC section 911(a).
IRC section 911(a) permits a “qualified individual” to exclude a limited amount of foreign earned income. Under IRC section 911(d)(1), a “qualified individual” must, among other requirements, maintain a tax home in a foreign country.
Under IRC section 911(d)(3), combined with IRC section 162(a)(2), an individual’s tax home is his principal place of employment. However, under IRC section 911(d)(3), an individual is not treated as having a tax home in a foreign country for any period during which the individual has his abode within the United States.
The U.S. Tax Court stated that a taxpayer’s abode is generally in the country in which the taxpayer has the strongest economic, family and personal ties, and in the present case, the taxpayer’s abode was in the United States. The U.S. Tax Court reached this conclusion on the grounds that:
- the taxpayer owned a house in the United States;
- while he was overseas, his first wife, his second wife and his daughter lived in the house or in his parent’s house located in the same city as his house;
- the taxpayer regularly and frequently visited his family in the United States;
- his business affairs were generally handled by his mother, whose address in the United States he used as his mailing address;
- his driver’s license, voter registration, bank accounts and motor vehicles were all centered in the United States; and
- his ties to Russia were entirely transitory and were not much beyond the minimum necessary to perform his duties there.
The U.S. Tax Court accordingly determined that the taxpayer was not eligible for the foreign earned income exclusion under IRC section 911.
However, the U.S. Tax Court declined to impose a 20% accuracy-related penalty under IRC section 6662(a) and (b)(1) because the taxpayer acted with reasonable cause and in good faith with regard to his underpayment of tax, which is an exception to the penalty under IRC section 6664(c)(1). The U.S. Tax Court found that the taxpayer reasonably relied on the advice of a competent tax professional, who advised that the taxpayer’s wages earned in Russia were eligible for the section 911 exclusion.
By Kimberlee Phelan, CPA, MBA, Practice Leader, Withum’s International Services Group | 609.520.1188 | [email protected]
