by Tom Andrews, CPA
The FEIE (foreign earned income exclusion) is so frequently asked about I write an update column every year. The most common misconception regarding the FEIE is that if an American lives outside the United States for more than 183 days they automatically qualify. I believe this myth is perpetuated by the fact that some other countries allow their citizens to file as nonresidents if they leave their country for more than six months, this naturally leads Americans to believe the United States has a similar law.
While it is true that simply living outside the United States for 183 will not exempt you from taxes there is a provision of the tax code that allows Americans to exclude from gross income up to $120,000 (in 2023) of foreign earned income, as well as certain employer-provided housing costs. In order to qualify for these exclusions and deductions, an individual’s tax home must be in a foreign country and he must meet either a residence or physical presence test. A determination of whether a taxpayer qualifies is based on all the facts and circumstances including but not limited to the following:
- The taxpayer’s intention,
- The length of stay in a foreign country,
- The nature and duration of employment,
- The establishment of a home in the foreign country, and
- The nature, extent and reasons for temporary absences from the foreign home.
Most yacht crewmembers will not qualify for the foreign earned income exclusion based on foreign residency. Simply living on a vessel while it is passing through or anchored in foreign jurisdiction does not make the crewmember a tax resident of that country. Normally crewmembers are qualifying for the exclusion under the “physical presence test”. The physical presence test requires that the crewmember be living and working outside the United States for 330 out of 365 days, time spent in international water does not count and is considered the same as being present in the United States, you must be in the territorial waters of a sovereign foreign county during this time. Also to be considered present in a foreign country you must be in that country for a full 24 hour period. If you arrive in the United States one minute before midnight you are considered present in the United States for that day.
The burden of proof is on the taxpayer to provide supporting documentation to support the foreign earned income exclusion, a taxpayer must have 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 information, captains log, and affidavit from employer. I normally recommend a crewmember keep a diary with all proper documentation that supports the claim of a foreign earned income exclusion, normally an audit takes place several years after the tax year has ended, by then the crewmember may have already left the vessel and may not have access to all of the necessary documentation needed to support their claim for the foreign earned income exclusion.
I recommend taxpayers interest in more information regarding the FEIE visit the Internal Revenue Service website at irs.gov and review Publication 54.