SCOTUS Reports

Tag: Section 911

  • Hartung v. Commissioner, 55 T.C. 1 (1970): Deductibility of Moving Expenses When Subsequent Income is Tax-Exempt

    Hartung v. Commissioner, 55 T. C. 1 (1970)

    Moving expenses are personal family expenses and remain deductible under Section 217 even if the subsequent income earned is tax-exempt under Section 911.

    Summary

    Jon Hartung moved from the U. S. to Australia in 1964, incurring $1,677 in unreimbursed moving expenses. He claimed these expenses as a deduction on his 1964 tax return. The Commissioner disallowed the deduction, arguing the expenses were allocable to tax-exempt income earned in Australia. The U. S. Tax Court ruled in favor of Hartung, holding that moving expenses are personal and not allocable to income, thus remaining deductible under Section 217 despite the tax-exempt status of subsequent income under Section 911.

    Facts

    Jon Hartung, a chemical engineer, resided in the U. S. until October 23, 1964. He then terminated his employment and prepared to move to Australia. Hartung and his wife entered Australia on December 1, 1964, as immigrants. He secured employment there on January 25, 1965, and worked until March 1, 1966. All his Australian income was exempt from U. S. taxation under Section 911. Hartung incurred $1,677 in unreimbursed moving expenses and claimed this as a deduction on his 1964 U. S. tax return. The Commissioner disallowed the deduction, asserting it was allocable to tax-exempt income.

    Procedural History

    Hartung filed a petition with the U. S. Tax Court challenging the Commissioner’s disallowance of his moving expense deduction. The case was heard by the Tax Court, which rendered a decision in favor of Hartung.

    Issue(s)

    1. Whether moving expenses, deductible under Section 217, must be disallowed because they are allocable to income exempt from taxation under Section 911.

    Holding

    1. No, because moving expenses are personal family expenses and thus not allocable to or chargeable against tax-exempt income earned subsequent to the move.

    Court’s Reasoning

    The court held that moving expenses, although deductible under Section 217, remain personal family expenses. The court cited the legislative history of Section 217, which indicates that moving expenses are treated similarly to business expenses for the purpose of calculating adjusted gross income but are not actually business expenses. The court also referenced Section 1. 911-1(a)(3) of the Income Tax Regulations, which states that personal expenses are not allocable to exempt income. The majority opinion distinguished this case from Carstairs v. United States, where state income taxes were held allocable to tax-exempt income, noting that moving expenses are not within the scope of business expenses as interpreted in Carstairs. The court rejected the Commissioner’s argument that moving expenses should be treated as allocable to tax-exempt income, emphasizing the personal nature of these expenses. The dissent argued that moving expenses are related to the income earned at the new employment location and should be disallowed under Section 911, but the majority’s interpretation prevailed.

    Practical Implications

    This decision clarifies that moving expenses remain deductible under Section 217 even if the taxpayer’s subsequent income is exempt under Section 911. Practitioners should advise clients that personal expenses, including moving expenses, are not allocable to tax-exempt income, ensuring proper deductions are claimed. This ruling may affect how taxpayers and tax professionals approach the calculation of deductions when dealing with foreign income exclusions. Subsequent cases, such as Peck v. Commissioner, have followed this precedent, reinforcing the principle that personal expenses are not allocable to exempt income. Businesses and individuals planning international moves should consider this ruling when calculating potential tax deductions.

  • Estate of Phelan v. Commissioner, 56 T.C. 767 (1971): Excludability of Guaranteed Payments Under Section 911

    Estate of Phelan v. Commissioner, 56 T. C. 767 (1971)

    Guaranteed payments to partners for services performed outside the United States are excludable from gross income under section 911 as earned income from foreign sources.

    Summary

    In Estate of Phelan v. Commissioner, the Tax Court ruled that guaranteed payments received by a partner for managing a law firm’s Paris office were fully excludable from gross income under section 911 of the Internal Revenue Code. The petitioner, who managed White & Case’s Paris office, received payments under a letter agreement that were treated as compensation for services rendered abroad. The court distinguished these payments from the partner’s distributive share of partnership profits, which were only partially excludable based on the firm’s foreign income. The decision emphasized the application of the entity theory to partnerships and the legislative intent to simplify tax treatment for partners working abroad, allowing the petitioner to exclude the full amount of his guaranteed payments as a bona fide resident of France.

    Facts

    The petitioner, a partner at White & Case, managed the firm’s Paris office from June 1960 to June 1962. During this period, he received $135,293. 20, which included his distributive share of partnership profits and payments under a letter agreement guaranteeing him $20,000 annually. The issue before the court was the excludability of these payments under section 911, which allows U. S. citizens to exclude earned income from foreign sources if they meet certain residency or presence requirements.

    Procedural History

    The case originated with the petitioner’s claim for exclusion of income received from White & Case under section 911. The Commissioner contested the full exclusion of the guaranteed payments, arguing they should be treated similarly to the distributive share. The Tax Court heard the case and ruled in favor of the petitioner, distinguishing the treatment of guaranteed payments from distributive shares for section 911 purposes.

    Issue(s)

    1. Whether guaranteed payments received by a partner for services performed outside the United States are fully excludable from gross income under section 911.
    2. Whether the petitioner was a bona fide resident of France during the relevant period, qualifying for unlimited exclusion of earned income.

    Holding

    1. Yes, because guaranteed payments are treated as compensation for services under section 707(c), and thus qualify as earned income from foreign sources under section 911.
    2. Yes, because the petitioner established a home in Paris, intended to stay indefinitely, and was regarded as a resident alien by the French government.

    Court’s Reasoning

    The court applied section 707(c), which treats guaranteed payments to partners as compensation for services, distinct from their distributive share of partnership profits. The court reasoned that treating these payments as compensation for section 911 purposes aligns with the legislative intent to simplify tax treatment for partners working abroad. The court emphasized that the guaranteed payments were for services performed in France, and thus qualified as earned income from foreign sources. The decision also considered the petitioner’s status as a bona fide resident of France, supported by his establishment of a home, family ties, and social integration in the country. The court rejected the Commissioner’s argument that guaranteed payments should be treated as distributive shares for section 911 purposes, as this would complicate the tax treatment Congress sought to simplify. The court cited Foster v. United States but distinguished it, noting that the view expressed in that case regarding guaranteed payments was dicta and not controlling.

    Practical Implications

    This decision clarifies that partners receiving guaranteed payments for services performed abroad can exclude these payments from gross income under section 911, provided they meet the residency or presence requirements. It simplifies tax planning for U. S. citizens working abroad as partners, allowing them to structure compensation agreements that qualify for tax benefits. The ruling may encourage more U. S. law firms and other partnerships to establish foreign offices, as it provides a clear path for partners to receive tax-favorable compensation. Subsequent cases have applied this ruling to similar scenarios, reinforcing the distinction between guaranteed payments and distributive shares for tax exclusion purposes. Legal practitioners advising clients on international assignments should consider structuring compensation as guaranteed payments to maximize tax benefits under section 911.

  • Ferrer v. Commissioner, 50 T.C. 177 (1968): Bona Fide Residence in a Foreign Country for Tax Exemption

    50 T.C. 177 (1968)

    To qualify for the foreign earned income exclusion under Section 911(a)(1) of the Internal Revenue Code, a U.S. citizen working abroad must demonstrate bona fide residence in a foreign country, which requires a degree of permanent attachment to that country, beyond mere transient presence for specific projects.

    Summary

    Jose Ferrer, a U.S. citizen and actor, claimed foreign earned income exclusion for salaries earned while working on films in various foreign countries in 1962. The Tax Court denied the exclusion, finding Ferrer was not a bona fide resident of any foreign country. The court reasoned that Ferrer’s presence in foreign countries was temporary and project-based, lacking the requisite degree of permanent attachment indicative of bona fide residence. The court did, however, allow a deduction for certain secretarial expenses as ordinary and necessary business expenses, while disallowing other claimed deductions due to insufficient evidence.

    Facts

    Petitioner Jose Ferrer, a U.S. citizen, worked as an actor, director, and producer. In 1962, he traveled extensively to India, England, Spain, Yugoslavia, Italy, and other European countries for film projects. During this time, he maintained a home in Ossining, N.Y., and faced marital difficulties in the U.S. Ferrer claimed foreign earned income exclusion on his U.S. tax return for income earned abroad, arguing he was a bona fide resident of foreign countries. He lived in rented apartments or hotels while abroad, never owned property, voted, or participated in community life in any foreign country. His agent actively sought employment for him both in the U.S. and abroad.

    Procedural History

    The Commissioner of Internal Revenue determined a deficiency in Ferrer’s federal income tax for 1962, disallowing the foreign earned income exclusion. Ferrer petitioned the Tax Court, contesting the deficiency. The Tax Court upheld the Commissioner’s determination regarding the foreign earned income exclusion but allowed a deduction for some business expenses.

    Issue(s)

    1. Whether the income earned by Ferrer in 1962 while working on films in foreign countries is exempt from U.S. taxation under Section 911(a)(1) of the Internal Revenue Code as income earned by a bona fide resident of a foreign country.
    2. If the foreign earned income exclusion is not applicable, whether Ferrer is entitled to deduct unreimbursed business expenses related to his foreign income, beyond the amount already allowed by the Commissioner.

    Holding

    1. No, because Ferrer did not establish that he was a bona fide resident of a foreign country or countries for an uninterrupted period including an entire taxable year.
    2. Yes, in part. Ferrer is entitled to a deduction for certain secretarial expenses under Section 162(a)(1) as ordinary and necessary business expenses, but other claimed deductions are disallowed due to insufficient proof.

    Court’s Reasoning

    The Tax Court reasoned that to qualify as a bona fide resident of a foreign country under Section 911(a)(1), a taxpayer must demonstrate a degree of permanent attachment to that country. The court referenced regulations defining residence by analogy to alien residency in the U.S., emphasizing the need for more than a transient or temporary presence. Citing Rudolf Jellinek, 36 T.C. 826 (1961), the court stated that bona fide residence requires “some degree of permanent attachment for the country of which he is an alien.” The court found Ferrer’s presence in foreign countries was solely for specific film projects, lacking intent for indefinite or extended stay. His agent sought work for him globally, indicating no commitment to foreign residency. The court distinguished this case from Leonard Larsen, 23 T.C. 599 (1955), where the taxpayer intended to make a career of foreign employment. Regarding business expenses, the court applied the three conditions from Commissioner v. Flowers, 326 U.S. 465 (1946) for travel expense deductibility, finding Ferrer failed to adequately substantiate most expenses as being incurred in pursuit of business, except for secretarial expenses, which were sufficiently proven by testimony.

    Practical Implications

    Ferrer v. Commissioner clarifies the distinction between being physically present in a foreign country and establishing bona fide residence for tax purposes. It emphasizes that temporary work assignments abroad, even if extended, do not automatically confer bona fide residency. Legal professionals and taxpayers should consider factors demonstrating a degree of permanent attachment to a foreign country, such as establishing a home, participating in community life, and the nature and duration of foreign stays, when evaluating eligibility for the foreign earned income exclusion. This case serves as a reminder that the IRS and courts scrutinize claims of foreign bona fide residence, requiring taxpayers to provide substantial evidence beyond mere physical presence and foreign income generation.

  • Freedman v. Commissioner, 6 T.C. 915 (1946): Determining Source of Income for U.S. Citizens Working Abroad

    Freedman v. Commissioner, 6 T.C. 915 (1946)

    For a U.S. citizen working abroad, the source of income is determined by where the services are performed, not where the payment is made.

    Summary

    Freedman, a U.S. citizen and bona fide nonresident, received $95,000 for services performed in Germany. He sought to exclude this income from his U.S. taxes under Section 116(a) of the Internal Revenue Code, arguing it was earned income from sources outside the U.S. The Commissioner argued the income was profit from a joint venture or, alternatively, was sourced within the U.S. The Tax Court held that the $95,000 constituted earned income from sources outside the U.S. and was therefore exempt from U.S. taxation.

    Facts

    • Freedman, a U.S. citizen, resided outside the U.S. for more than six months during the tax year.
    • He was contacted by Gottlieb and Romney regarding the potential sale of bonds in Germany.
    • Freedman traveled to Berlin and negotiated with German financial officials (Siemens & Halske A.G., the German Reichsbank, and other German banks) to facilitate the sale.
    • He received $95,000 for these services, deposited into his New York bank account.
    • Freedman did not contribute any capital or credit to the transaction.
    • The bonds were sold by General Electric Corporation to Siemens & Halske A.G.

    Procedural History

    The Commissioner determined that the $95,000 was not exempt from U.S. income tax. Freedman petitioned the Tax Court for a redetermination. The Tax Court reversed the Commissioner’s determination.

    Issue(s)

    1. Whether the $95,000 received by Freedman constituted “earned income” under Section 25(a)(4)(A) of the Internal Revenue Code.
    2. Whether the $95,000 was received from sources “without the United States” under Section 116(a) of the Internal Revenue Code.
    3. Whether, if the income was for personal services, a portion should be treated as income from sources within the United States because Freedman sent cablegrams to New York during his negotiations.

    Holding

    1. Yes, because the $95,000 was compensation for personal services Freedman actually rendered in Germany.
    2. Yes, because the source of income is determined by where the services are performed, not where the payment is made.
    3. No, because all of Freedman’s services were performed in Germany; sending cablegrams to New York did not constitute performing services in New York.

    Court’s Reasoning

    The court reasoned that the $95,000 was paid to Freedman as compensation for his personal services in Berlin, where he contacted and negotiated with German financial officials. The court emphasized that Freedman had no prior commitments and did not contribute any capital to the transaction. His services were valuable, extending over two months, and he was uniquely positioned to handle the negotiations.

    The court relied on established precedent (I.T. 2293, I.T. 2286, S.M. 5488, S.M. 5446, and Regulations 103, sec. 19.119-4) and Section 119(c)(3) of the Code, which states that “compensation for labor or personal services performed without the United States” is treated as income from sources without the United States. The court rejected the Commissioner’s argument that the location of Gottlieb and Romney or the payment’s origin in New York was relevant. "[I]n determining whether compensation is from sources within or ‘without the United States,’ the place where the services are performed and not the place where the compensation is paid is the controlling factor."

    Finally, the court dismissed the argument that sending cablegrams to New York constituted performing services in the United States. All of Freedman’s substantive work occurred in Germany.

    Practical Implications

    Freedman clarifies that the location of service performance is the primary factor in determining the source of income for U.S. citizens working abroad. This case provides a clear rule for applying Section 116(a) (now Section 911) of the Internal Revenue Code. Attorneys advising U.S. citizens working overseas should focus on documenting the location where services are rendered. Later cases and IRS guidance continue to emphasize this “place of performance” test. It also highlights the importance of distinguishing between earned income and investment income in this context, as only the former qualifies for the foreign earned income exclusion.