Bus 225D – International TaxIndividuals and Foreign Corps

Instructor:Carol Rutlen, CPAcrutlen@rutlen.com650-321-3999

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• Open questions from last class• Expatriates – understand the

special rules and concepts associated with expatriates– Taxation of expatriates– IRC Sec 911– “Qualified individual”– Foreign earned income exclusion and housing

exclusion– Special IRC Sec 911 restrictions

Agenda for Class 2 and 3

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Taxation of Expatriates

• Taxed on worldwide income– IRC Sec 61– No provision for earned or paid in the US

• Provisions to avoid double tax– IRC Sec 911– Foreign tax credit IRC 901

• Purpose of IRC Sec 911• Intermittent proposals in

Congress to eliminate IRC Sec 911

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IRC Sec 911

Sec 911 Citizens or residents of the US living abroad.

(a) Exclusion from gross income. At the election of a qualified individual … there shall be excluded from the gross income … the foreign earned income … and the housing cost amount.

• Who is a qualified individual?• What is excluded foreign earned

income?• What is the housing cost amount?

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Qualified Individual

IRC Sec 911(d)(1) Qualified individual. The term “qualified individual” means an individual whose tax home is in a foreign country and who is —

A. a citizen of the US and … has been a bona fide resident of a foreign country … for an uninterrupted period which includes an entire taxable year

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Tax Home (IRC 1.911-2(b))

• Same meaning as IRC Sec 162(a)(2) – travel expenses while “away from home”

• Located at regular/principal place of business

• Tax home in a foreign country is not restricted by:– Temporary presence in US– Maintenance of home in US, even if used by

spouse and dependents

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Qualified Individual

IRC Sec 911(d)(1) Qualified individual. The term “qualified individual” means an individual whose tax home is in a foreign country and who is —

A. a citizen of the US and … has been a bona fide resident of a foreign country … for an uninterrupted period which includes an entire taxable year

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Bona fide Resident Test (BFR) Criteria

• US citizen– Resident alien under nondiscrimination clause

under treaty

“Nationals of a Contracting State shall not be subjected in the other Contracting State to any taxation or any requirement connected therewith that is more burdensome than the taxation and connected requirements to which nationals of that other State in the same circumstances, particularly with respect to taxation on worldwide income, are or may be subjected.”

– Rev. Rul. 91-58• UK treaty nondiscrimination clause• Applicable to 38 other treaties

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Bona fide Resident Test (BFR) Criteria

• Resident in foreign country for entire calendar year

• Can not claim to be a nonresident of the foreign country (1.911-2(c))

• If foreign country has an income tax, individual’s earned income must be subject to that tax – does not mean you must pay foreign tax (1.911-2(c))

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BFR Effective Date

Example• John arrived in France 1/31/09• John in France for 2010• John meets BFR test ___________• Qualifying period begins ________

When is John’s 2009 tax return due?

Can John spend time in the US in 2010? In 2011?

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Qualified Individual

IRC Sec 911(d)(1) Qualified individual. The term “qualified individual” means an individual whose tax home is in a foreign country and who is —

A. BFR test

B. a citizen or resident of the US and who, during any period of 12 consecutive months, is present in a foreign country or countries during at least 330 full days in such period

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Physical Presence Test (PPT) Criteria

• US citizen or resident alien of the US• Individuals with valid IRC Sec 6013(g)

or (h) election– 6013(g) NRA elects to be treated as resident– 6013(h) joint return for year NRA becomes resident

• Tax home in foreign country• Physically present for at least 330 full

days during 12 consecutive months• Full day – 24 hours 1.911-2(d)(2)

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PPT Calculation – Year of Expatriation

• Count days beginning with first full foreign day on assignment and count forward

• Exclude days spent in US• Include days spent in other

countries• Foreign days prior to assignment do

not count• Slide rule – once 330 days reached,

determine start of qualifying period by counting back 365 days

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Slide Rule

• Joe left the US on 3/31/08, arrived in UK 4/1/08

• Remains in UK through 4/20/09• Meets PPT• What is start of period?

4/2/08First Qualifying Day

2/25/09330th Qualifying Day

2/26/08Beg of 12 Mo Period

2/25/09330th Qualifying Day

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Slide Rule

• Art left the US on 6/1/08, arrived in Germany 6/2/08

• Remains in Germany through 10/31/09

• Meets PPT?• What is start of period?

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PPT Calculation – Year of Repatriation

• Count days beginning with last full foreign day on assignment and count backward

• Exclude days spent in US• Include days spent in other

countries• Foreign days after assignment do

not count• Slide rule – once 330 days reached,

determine end of qualifying period by counting forward 365 days

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Handout

• BFR– Tax home in foreign country– Bona fide foreign residence– Entire taxable year

• PPT– Tax home in a foreign country– 330 days out of 12 consecutive months

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Waiver of Period of Stay

• IRC Sec 911(d)(4) treated as meeting BFR and PPT if

• Required to leave because of war, civil unrest, or similar adverse conditions

• Would have met requirements but for the conditions above

• Prorated for days in the country

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IRC Sec 911

Sec 911 Citizens or residents of the US living abroad.

(a) Exclusion from gross income. At the election of a qualified individual … there shall be excluded from the gross income … the foreign earned income … and the housing cost amount.

• Who is a qualified individual?• What is excluded foreign earned

income?• What is the housing cost amount?

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Foreign Earned Income

• Earned income attributable to services performed during BFR or PPT period (IRC Section 911(b)(1)(A)– Tax home must be abroad– Work performed in US excluded– Location where services rendered vs. payment

made

• Includes– Wages, salaries, professional fees– Overseas allowances and reimbursements– Cash and non-cash amounts

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Foreign Earned Income

• Excludes– Pensions and annuities (IRC Sec 911(b)(1)(B)– Paid by the US government or agency thereof– Received after the close of the tax year following the

taxable year in which the service to which the amounts are attributable are performed

Example:• Bonus for 2008• Paid in 2010• Qualifies for exclusion?

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Sourcing IRC Reg 1.861-4

• Effective 1/1/06• Compensation – sourced on basis that

reflects facts and circumstances– Time basis– # of work days within US

total workdays– Units of less than a day may be appropriate

• Multi-year compensation– Time basis over the period to which such

compensation is attributable– Stock options: use period between date of grant

and date of vest

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Sourcing IRC Reg 1.861-4

• Fringe benefits sourced on geographic basis– Housing: principal place of work– Education: principal place of work– Local transportation: principal place of work– Tax reimbursement: jurisdiction that imposed

tax– Hardship pay: location of hazardous duty– Moving expense reimbursement: based on

location of new principal place of work

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Sourcing Compensation

• Sourced on workdays– Salary– 401(k)– Goods and services differential

• Attributed to specific services– Bonus

• Attributed to specific location– Education allowances– Foreign taxes– Housing– Language training

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Foreign Earned Income Exclusion

• Lesser of foreign earned income or $91,400 for 2009 and $91,500 for 2010 (ratably allocated for transfer years)

– Prior law (2002 – 2005) $80,000 exclusion; $82,400 for 2006; $85,700 for 2007; $87,600 for 2008.

– Adjusted for inflation in future years– Each working spouse has separate exclusion– Ignore community property IRC Sec 911(b)(2)(C)– Attributed to year services performed IRC Sec 911(b)(2)(B)

• If max exclusion exceeds foreign earned income, unused exclusion can be carried forward one year

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Carryforward of Exclusion

2009 2010

75,000 90,000 Base Salary

-0- 10,000 2009 Bonus; Pd 2010

75,000 100,000

75,000 2009 Exclusion

2010 Exclusion

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Slide Rule

• Joe left the US on 3/31/08, arrived in UK 4/1/08

• Remains in UK through 4/20/09• Meets PPT• What is start of period?

4/2/08First Qualifying Day

2/25/09330th Qualifying Day

2/26/08Beg of 12 Mo Period

2/25/09330th Qualifying Day

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Foreign Earned Income Exclusion

• 2/26/08 beginning of qualifying period

• Annual exclusion is pro-rated if taxpayer did not qualify for entire year

(# of qualifying days in tax yr) x maximum

(total # of days in tax yr exclusion

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IRC Sec 911

Sec 911 Citizens or residents of the US living abroad.

(a) Exclusion from gross income. At the election of a qualified individual … there shall be excluded from the gross income … the foreign earned income … and the housing cost amount.

• Who is a qualified individual?• What is excluded foreign earned

income?• What is the housing cost amount?

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Housing Exclusion

• Housing cost in excess of government-set based housing amount (16% of the exclusion = $14,624 in 2009) (IRC Sec 911(c)(1))

• Housing cost limited (Sec 911(c)(2))– 30% of foreign earned income exclusion– High cost locations – Notice 2008-107 and 2010-27– Allowed to use 2008 or 2010 limitation for 2009

• Housing exclusion claimed before foreign earned income exclusion

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Housing Exclusion

• Allowable housing costs– House/apartment rental– Fair rental value of company-owned housing– Utility expenses (excluding telephone and cable)– Cost of household repairs, no capital expenditures– Real and personal property insurance– Occupancy tax– Cost of renting (but not purchasing) furniture and

accessories)– Charges for residential parking

• Reasonable costs vs. lavish and extravagant

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Housing Exclusion

• Annual exclusion is pro-rated# of qualifying days x base housing amount

Total days in year

• Excess costs can’t be carried over to future years

• Claimed before foreign earned income exclusion

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Housing Deduction

• Available for self-employed • Housing costs in excess of base

– Limited to 30% of foreign earned income exclusion– High cost locations

• Deduction rather than exclusion• Claimed after foreign earned income• Excess costs can be carried forward

1 year

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IRC Sec 911 Restrictions

• Denial of double benefits 911(d)(6)– Foreign tax credit– Moving expenses

• Income earned in restricted country 911(d)(8)– Income from sources excluded from “foreign

earned income” definition– Housing in such country excluded from “housing

expenses” definition

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Electing IRC Sec 911 Exclusions

• Election made by claiming exclusion on Form 2555

• Remains in effect for all subsequent years unless revoked

• Revoke election by filing a statement with the tax return

• Can’t make new election before 6th taxable year (unless get permission of Commissioner)

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Electing IRC Sec 911 Exclusions

• Election made with original return or amended return for the first taxable year in which the election is to be effective– Must be made on timely filed tax return or– Amended return within period prescribed in IRC

6511 or– Original return filed within 1 year after due date

of original return or– “Filed pursuant to Sec 1.911-7(a)(2)(i)(D)”

• Owes no tax• Owes tax, but before IRS discovers

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Tax Calculation

• Effective tax years beginning 1/1/06• Income in excess of the exclusion is

taxed as though the exclusion did not apply – stacking rule

$80,000 foreign earned income

$20,000 other taxable income

Tax on $100,000 – Tax on $80,000 = Tax on $20,000 other taxable income

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Returns and Extensions

• Can’t claim 911 exclusion until taxpayer has qualified for the exclusion

• Extend 1040 until you qualify• Form 2350 filed with

IRS

Austin, TX 73301-0215

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• Taxation of expatriates – IRC Sec 911• Are you a qualified individual?

– Where is your tax home?– Do you meet the requirements of BFR or PPT?

• What is your foreign earned income exclusion and housing exclusion?– Is it attributed to foreign workday?– How is it calculated?

• How do you make the election?• How do you calculate your tax?

Key Points

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Contact Information

• Carol Rutlen

crutlen@rutlen.com

650-321-3999