Foreign Earned Income Exclusion: Testing for "Abode"

The Judicial Test for “Abode” – Should it be sharply modified?

Summary: “Abode” is not defined in the tax code or regulations. The “Comparative Domestic Ties” test fashioned judicially to probe for the existence of a US abode is too poorly developed. In its present state, that test does not enable taxpayers to know if they qualify to exclude foreign earned income in too many cases. Example: US citizens returning from Iraq and Afghanistan.

To exclude income earned abroad from a return under IRC §911 these requirements must be met: (1) The taxpayer must have a foreign “tax home” (i.e., it’s the place where for purposes of IRC §162 the taxpayer is living and working), and (2) the taxpayer must meet either the “bona fide residence” or the “physical presence” requirements. This provision of the law is very confusing and complicated – probably unnecessarily so. There are confusing rules about how many full days the taxpayer has spent in a foreign country under the “physical presence” test. And since most folks don’t live in a foreign country for the exact period of 1/1 through 12/31, they will likely have earned income in two taxable years. As a result, they will become entangled with the process of trying to proportionalize the income earned in two separate years. Even the wordy, lengthy explanations offered in IRS Pub 54 do little to clarify the requirements and provisions of §911. And the regulations do not resolve some of the existing confusion. For persons who take their families, relocate to another country, become thoroughly submerged in that new culture, open accounts, send their children to foreign schools and etc. for an extended period, it is easier to meet the requirements. For those who take a job in another country, and who maintain significant contacts with the United States during the period, you might need a crystal ball and some good luck to meet the first requirement: having a foreign tax home.

“Abode” is not defined in the statute or regulations:

It is §911(d)(3) that raises a very significant and confusing barrier to being able to establish a foreign tax home. Under that provision, the statute and the regulations state that an individual shall not be considered to have a tax home in a foreign country for any period for which the individual's ABODE is in the United States. This provision lays a sharp slap on the face of persons who, for example, have met the “physical presence” test by living away from their families and US soil for at least 330 days out a consecutive 12-month period. Ordinary humans often form the impression that when they have been away from the US for so long as to meet that requirement, they can exclude all the income they earned abroad during that period. In fact, some I have spoken with think of it in terms of “fairness” – being gone so long, they feel they should be entitled to exclude the income. Like cold water, the “abode” limitation seems to shock the senses of many.

How does a US citizen living abroad establish a non-US abode for purposes of §911? The answer is not found in any definition for “abode” in the statute or the regulations. And Pub 54 does not provide much of an explanation. So, we turn to case law to find out what the courts say about a person’s “abode” for guidance. In those cases, we find the courts noting that there is no definition for “abode” expressed in the statute or the regulations. Therefore, the courts fashioned a very loose and poorly defined probe that is applied to determine whether a taxpayer had a US abode while they were living abroad.

Testing for Abode: Comparative “Domestic-type” Contacts

It was the U.S. Tax Court that first ventured into the difficulty of ascertaining whether a person living abroad had an abode in the US. Once the court had fashioned the test it became the standard applied as the probe in other forums. For example, in Harrington v. Comm’r, 93 TC 297 (1989), the Tax Court writes:

“In prior section 911 cases, we have examined and contrasted the taxpayer's domestic ties (i.e., his familial, economic, and personal ties) to the United States with his ties to the foreign country in which he claims a tax home in order to determine whether his abode was in the United States during any particular period. Lemay v. Commissioner, TC Memo 1987-256 affd. 837 F.2d 681 (5th Cir. 1988); Bujol v. Commissioner, TC Memo. 1987-230, affd. without published opinion 842 F.2d 328 (5th Cir. 1988); Hummer v. Commissioner, TC Memo. 1988-528; Bosarge v. Commissioner, TC Memo. 1989-15; Benham v. Commissioner, TC Memo. 1989-215; and Moudy v. Commissioner, TC Memo. 1989-216. Even though a taxpayer may have some limited ties to a foreign country, if his ties to the United States remain strong, we have held that his abode remained within the United States, especially where his ties to the foreign country were transitory or limited. In Lemay v. Commissioner, 837 F.2d 681 (5th Cir. 1988), affg. a Memorandum Opinion of this Court the Fifth Circuit to which an appeal in this case would lie, adopted and applied this domestic ties analysis.” (emphasis supplied) Harrington, supra @ 308, 308.

It is the Tax Court’s test that is being applied in other forums; and that test is conducted by examining the evidence of a taxpayer’s “domestic-type” ties with the US as compared and contrasted to the taxpayer’s connections with the foreign jurisdiction. The continuing problem for taxpayers is that the test is not well-developed judicially – and until many cases presenting wide variations in facts are decided, the uncertainties of this “domestic-ties” test will remain.

For example, in the Fifth Circuit’s Lemay opinion mentioned by the Tax Court above in Harrington, the Fifth Circuit considered the relative contacts between the taxpayer and the two jurisdictions. There, the taxpayer worked on an oil rig in the territorial waters of Tunisia. After working 28 days, Lemay returned to the US to be with his family for 28 days. In Tunisia, he was provided living quarters by his employer, and had very little contact with local citizens and the culture. Commenting with approval upon the Tax Court’s application of its domestic-ties test, the Fifth Circuit writes:

“In the instant case, the tax court . . . determined Lemay to have strong economic, familial and personal ties to his residence in Lake Charles and, therefore, concluded that Lemay's "abode" remained in the United States in 1982. We do not perceive error in this conclusion. While the regulations do provide that the maintenance of a dwelling in the United States does not necessarily mean that an individual's abode is in the United States, Lemay did more than merely maintain his dwelling in Lake Charles, Louisiana. Lemay spent approximately half of his time with his family in Louisiana. He voted in Louisiana, maintained a bank account in Louisiana, and possessed a Louisiana driver's license. The combination of these factors, when contrasted with Lemay's transitory contacts with Tunisia, support the conclusion that Lemay's "abode" remained in Louisiana in 1982.”

Okay. Maybe Lemay looks like an easy case. There was much more significant “domestic-type” contact with the US than with Tunisia. The problem with Lemay is that the court could not tell us anything about how it would tend to compare and contrast situation where taxpayers show greater contacts with the foreign jurisdiction. And we still know nothing about what happens where there are domestic-type ties with both jurisdictions. We do not have a clue as to what happens when the domestic ties to both jurisdictions appear equal. Does that mean that the tie goes to the US abode? We don’t know what happens where foreign ties are greater in number. Are ANY significant domestic ties to the US the trump card that will always establish a US abode? Lemay looks easy because this taxpayer had little to do with Tunisia, and both courts found the following to be significant evidence of “abode” in the US while he was working outside this country: (1) 28 days away, 28 days home – so there was apparently significance in “frequency” of returns to the US. (2) Bank account maintained in the US. (3) Voted in the US. (4) Had a state driver’s license. (5) He maintained a dwelling in Louisiana where his family lived and where he returned every 28 days.

Shifting the abode: What it takes is still a mystery

Even if this taxpayer had traveled to other foreign countries rather than return to his family every 28 days, we don’t have a clue from the courts as to whether that would have had any significant effect upon the outcome. He would still have had a house, family, accounts and a voting registration inside the US – factors that we can reasonably expect the Fifth Circuit and the Tax Court would have found sufficient to establish an abode in the US. Would it have made a difference if he had set up an offshore bank account to receive paychecks and automatically transfer support to his family? Probably not. He would have still been sending his money home to care for his family – clearly a “domestic” tie with US soil. What if he had surrendered his driver’s license? That too would probably have made no difference because he wasn’t driving in Tunisia – the man worked offshore and lived in company-provided quarters. Perhaps the abode can be shifted by constructing many sorts of “domestic-looking” contacts with the foreign jurisdiction. However, where US ties are continued the courts may still hold that the US-abode continues and the §911-exclusion is not available. We are left wondering if reducing ties with the US to some lower number than ties to the foreign country would tip the balance. The test is not yet sufficiently developed by the courts. Until the judicially-developed test is more thoroughly explored and applied by the courts, the test will remain unclear. At present, it is not useful as a tool to help us predict with any certainty how the courts will stack up the comparative contacts between the jurisdictions.

Example: U.S. Citizens in Iraq and Afghanistan

Thousands and thousands of Americans have been paid for services performed while they live in those countries. It is clearly safe to generalize their domestic contacts: (1) They have homes and families in the US they will return to. They have absolutely no intention of staying in those dismal places any longer than required. (2) They return to homes and families in the US on R&R. They do not take R&R in war zones. (3) Their paychecks are direct-deposited into US banks and not banks in those countries. (4) They vote in US elections as absentees. They do not vote in any foreign elections. (5) They still have driver’s licenses, and they still own cars that are in the US. If they drive anything in those countries, it is equipment belonging to their employers, and it is driven only in connection with their jobs. Are these domestic-type activities sufficient to compel the courts to conclude that there is US abode because of the continuing existence of those domestic-type ties to the US?

Let’s create a list of things US citizens in those countries might be doing, and examine if such activities are domestic-type activities. Military and civilian personnel perform an enormous array of duties while the live and work in Iraq and Afghanistan. They jeopardize their own lives to protect the lives of citizens of those nations. Arguably, that “protection” is something that connects them deeply and intimately with the citizens of those nations. Protecting the lives of the humans around you seems to have a “domestic” flavor even though the task is completed also as a matter of vocation-related requirements. They distribute “humanitarian” items like food, medicine, health care and the like to local citizens. They form strong, life-long friendships with other US citizens they serve with as they live in those foreign jurisdictions – that seems like a “domestic” as distinguished from a “vocational” tie even though the task is performed as part of a job. They become acquainted with, and sometimes form friendships with, local citizens in areas where they serve or patrol as they perform those functions. Again, that seems to exude deep personal connection with the foreign nation and its citizens – a condition that seems clearly more “domestic” and personal than “vocational.” They apprehend criminals and remove them from among the citizens of those nations. Doesn’t that seem like a profound connection with life in those nations that is associated exclusively with the well-being of all humans in the vicinity – a “domestic” sort of connection? They rescue injured children and provide protection and treatment for them. They build schools, keep the electricity on, deal with water and sewage treatment, re-build homes, set up crime-watch programs for neighborhoods, provide critical training of all kinds, and otherwise become thoroughly entangled in the lives of the citizens of those countries. And though such things are done as a matter of duty – it’s all job-connected – the entire list of contacts and connections with those foreign countries seems to simultaneously display a “domestic” quality because of the intertwinement with the citizens of those foreign nations.

But those contacts may not be sufficient to negate the existence of a US abode. Under the law, an individual shall not be considered to have a tax home in a foreign country for any period for which the individual's ABODE is in the United States. This law seems to operate on the assumption that an individual cannot have two abodes. They can have only one abode at a time. And the way the law in this matter developed, it seems clear that from now on the courts will operate on the view that an abode is identified by probing for “domestic” contacts as distinguished from “vocational” contacts. As expressed by the Fifth Circuit in Lemay, and also expressed in the various Tax Court opinions:

“'Abode' has been variously defined as one's home, habitation, residence, domicile or place of dwelling. Black's Law Dictionary 7 (5th ed. 1979). While an exact definition of 'abode' depends upon the context in which the word is used, it clearly does not mean one's principal place of business. Thus, 'abode' has a domestic rather than vocational meaning, and stands in contrast to 'tax home' as defined for purposes of section 162(a)(2).

“. . . The Bujol court reasoned that the taxpayer's economic, familial, and personal ties to Louisiana, and his lack of contact with the foreign country dictated a conclusion that the taxpayer's ‘abode’ remained in the United States.”

It appears that the courts’ lists of “domestic” things will continue to include property ownership, family location, where you keep your bank accounts, which jurisdiction issued your licenses, where you are registered to vote, where you go to religious services attended by local citizens and etc. In cases thus far decided, such items have remained the most important factors to be considered. Whether we like it or not, the courts will likely continue to ask, “Where are your economic, familial, and personal – as distinguished from ‘vocational’ – ties?” And the answer so far has been determined by reference to asset location, family location, licenses, voting and the like.

A Potential Storm of Cases May be Brewing

As these US Citizens come home and prepare returns claiming the exclusion of their income earned abroad while living in Iraq and Afghanistan, there could emerge a firestorm of confrontation between those taxpayers and the US government. Unless the courts move toward a test that is more focused on defining “abode” as the place where, for the time being, a taxpayer exists to meet the conditions of the daily life encounter outside the US, our jurisprudence will continue to focus on location of houses and other assets, family, voting registration, licenses and the like. The fact that citizens are thoroughly investing their lives in another country for and with another people may be of little significance if the test for a taxpayer’s abode is not modified.