Exclusion (FEIE) is more timely than ever for tax year 2020. The COVID-19 pandemic has extended the period of time that some crew have spent outside of the U.S. as travel restrictions and quarantines are interrupting normal itineraries.
If you think you qualify for the FEIE, it’s important to understand the requirements. The most common misconception about the FEIE is that if an American lives outside the U.S. for more than 183 days, they automatically qualify. This myth is likely perpetuated by the fact that some countries let their citizens file as nonresidents if they leave their country for more than six months.
While it’s true that simply living outside the U.S. for 183 days won’t exempt you from taxes, there is a tax code provision that allows Americans to exclude up to $107,600 (in 2020) of foreign-earned income from gross income, as well as certain employer-provided housing costs. To qualify for these exclusions and deductions, an individual’s tax home must be in a foreign country and must be met by a residence or physical presence test. A determination of whether a taxpayer qualifies is based on all the facts and circumstances, including:
- The taxpayer’s intention
- The length of stay
- The nature and duration of employment
- The establishment of a home in the foreign country
- The nature, extent, and reasons for temporary absences from foreign home
Most crew won’t qualify for the FEIE based on foreign residency — simply living on a vessel while it’s passing through a foreign jurisdiction doesn’t make you a resident of that country. Normally, crew qualify for the exclusion under the physical presence test, which requires they live and work outside the U.S. for 330 out of 365 days. Time spent in international waters doesn’t count towards the exclusion. You must be in the territorial waters of a foreign county during this time. To be considered present in a foreign country, you must be in that country for a full 24-hour period. If you arrive one minute before midnight before your qualifying time, you are considered present in the U.S. for that day.
The burden of proof is on the taxpayer to provide documentation to support the claim on a FEIE — you need adequate documentation. The IRS plans to improve compliance on international issues and expects to increase the use of foreign information documents and data sharing with other federal agencies. For instance, travel dates may be verified with U.S. passport info, captains’ logs, and employer affidavit. Crew should keep a diary with all proper documentation that supports the claim of a FEIE; normally an audit takes place several years after the tax year has ended. By then, you may have already left the vessel and may not have access to all of the necessary documentation needed to support the FEIE claim.
This article originally ran in the July 2020 issue of Dockwalk.