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Individual Tax

Tax Court Holds Married Taxpayers’ Foreign Earned Income Exclusion Election Invalid

Thomson Reuters Tax & Accounting  

Thomson Reuters Tax & Accounting  

The Tax Court has held that married taxpayers did not make a valid election to exclude foreign earned income under Code Sec. 911 because they failed to comply with the regulation by placing the required statement on the front page of their 2006 return.

Background

Code Sec. 911(a) provides that a qualified individual may elect to exclude from gross income his or her foreign earned income. To qualify for the exclusion, the taxpayer must satisfy a three-part test:

  1. The taxpayer must be a U.S. citizen who is a bona fide resident of a foreign country for an entire tax year or physically present in a foreign country during at least 330 days out of a 12-month period;
  2. The taxpayer must have earned income from personal services rendered in a foreign country; and
  3. The taxpayer’s tax home for the period must be outside the U.S. (Code Sec. 911(d))

A taxpayer may make an election to exclude foreign earned income when:

  1. The taxpayer owes no federal income tax after taking into account the exclusion and files Form 1040 with Form 2555 or a comparable form attached either before or after the IRS discovers that the taxpayer failed to elect the exclusion; or
  2. The taxpayer owes federal income tax after taking into account the exclusion and files Form 1040 with Form 2555 or a comparable form attached before the IRS discovers that the taxpayer failed to elect the exclusion. (Reg §1.911-7(a)(2)(i)(D)(1); Reg §1.911-7(a)(2)(i)(D)(2))

A taxpayer filing an income tax return under Reg §1.911-7(a)(2)(i)(D)(1) or Reg §1.911-7(a)(2)(i)(D)(2) must type or legibly print at the top of the first page of their Form 1040 “Filed Pursuant to Section 1.911-7(a)(2)(i)(D).” (Reg §1.911-7(a)(2)(i)(D)(3))

Inadvertent errors or omissions do not render an election invalid if they are not material in determining whether the individual is a qualified individual or intends to make the election. (Reg. §1.911-7(a)(4))

Facts

The taxpayers, Elena Lea Morgan Weschenfelder (ELMW) and Frederick Burkhart Weschenfelder (FBW) were employed by private employers in Germany during 2006. In May 2005, FBW and the couple’s three children moved to Germany where FBW was employed by a private company. ELMW joined her husband and children and worked in Germany from February 12, 2006 through July 2, 2006, when she moved back to the U.S. to work for the Justice Department. FBW lived in Germany until December 12, 2006, except for a trip to the U.S. from January 24 through February 12, 2006.

During 2006, the couple worked on a military base and lived in a leased townhouse that was not on the base. They did not have a German bank account. The couple did not file their 2006 return until January 2016. That return showed a Texas address for the couple, no federal income tax due, and claimed a $71,929 foreign earned income exclusion on Form 2555, Foreign Earned Income Exclusion. The Form 2555 attached to the return contained inaccuracies as to dates the taxpayers were in the U.S. and omitted information required by the regulations. Also, the return did not contain the required statement on the first page that their Form 1040 it was “Filed Pursuant to Section 1.911-7(a)(2)(i)(D).”

Parties’ arguments

The IRS argued that the couple’s failure to type or print the required statement on the first page of their 2006 Form 1040 was fatal to their attempt to elect the foreign earned income exclusion. According to the IRS, strict compliance with the regulations, including the statement on the first page of their 2006 Form 1040 was necessary to allow the IRS to make an accurate determination of the couple’s eligibility for the exclusion on a late-filed return.

The taxpayers argued that their failure to add the required statement to the first page of their 2006 Form 1040 was inadvertent and immaterial; therefore, their election was valid under Reg. §1.911-7(a)(4).

Tax Court’s holding

The Tax Court held that the taxpayers did not make a valid election to exclude foreign earned income under Code Sec. 911 because they failed to comply with the regulation by placing the required statement on the front page of their 2006 return. The Court rejected the couple’s claim that their failure to include the required statement on the front page of their 2006 Form 1040 was immaterial and inadvertent. The Court noted that the couple claimed to have read the instructions to Form 2555 before filing their return but failed to explain how their omission of the required statement could be regarded as inadvertent.

To continue your research on the election to exclude foreign earned income, see FTC 2d/FIN ¶O-1351; United States Tax Reporter ¶9114.

 

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