IRS Schedule M is screwed up. Making work pay credit (Part 5)

OK, to wrap this up, I think there’s something wrong with how the IRS interpreted the new Making Work Pay Credit. And so let me just put out a basic example and end it.

Let’s say you’re overseas for all of 2009. You take the foreign earned income exclusion (FEIE), and you have this income:

$20,000 foreign earned income
$25,000 net self-employment income, earned overseas

(There will be a 15.3% SE tax on the $25,000, or $3,825, which MUST appear on your 1040, regardless of whether you take the FEIE.)

According to Schedule M instructions
, the $20,000 goes on Line 1(a).

The $25,000 goes on Line 2(b).

The $45,000 (total of 20,000 plus 25,000) will go on Line 5(a) and carry down to Line 5(c). You will have a result in Line 8 of ZERO.

That Line 8 result shuts you out of the Making Work Pay Credit on Schedule M. According to Schedule M, you will have zero earned income in boxes 1(a) and 4, but in fact you had “net earnings from self-employment”, which IS “taken into account in computing taxable income” because you will owe that $3,825 that I mentioned above.

And again, from the other day, the rule in Section 36A defining “earned income” refers back to Section 32, and says:

‘(2) EARNED INCOME.—The term ‘earned income’ has the meaning given such term by section 32(c)(2), except that such term shall not include net earnings from self-employment which are not taken into account in computing taxable income.

(Remember again, from the other day, that Section 32 definition has two parts: the income you earn because somebody pays you for work, PLUS the amount that you generate through self-employment. Only the part about the earnings paid to you as an employee said anything about taking them out of gross income or being “includible” in gross income.)

So, in the Section 36A cite above, Congress is not saying:

“net income from self-employment, which–as you all know!–is not the kind of thing that’s taken into account when we’re computing taxable income!”

because that’s nonsense.

Self-employment income is very much a part of taxable income, as any person who works for him-or-herself can tell you.

So where does the earner in the example above get to include those earnings in the Schedule M scheme of things? Nowhere, right? Why not?

And probably what it is, is that the makers of Schedule M have the whole law wrong, because they don’t really understand the definition of “earned income”, like I was saying the other day. Somebody got sloppy, they knew the result they wanted because they thought they understood the new credit. Or maybe they thought that EIC takes foreign earned income out of the earned income calculation, when in fact EIC does not, but prohibits the FEIE takers from taking EIC at all.

22 thoughts on “IRS Schedule M is screwed up. Making work pay credit (Part 5)

  1. Hi,
    I may not be making much sense, since my head is spinning due to the fact that I have been preparing my taxes all day (using Taxcut)… but I don’t see why this whole thing should be an issue.
    The form instructions ask my spouse and I have wages greater than $12,903 (married filing jointly). My understanding of the instructions is that if the answer is Yes, then I don’t enter anything on line 4a. I immediately enter $800 on line 4, and then go to line 5. The IRS instructions say to use the worksheet for line 1a only if I answer No to that inital question regarding wages.
    So in my understanding, in the example above, you should never be doing the worksheet, and then the foreign income will not get excluded from these calculations and result in a low (or zero) credit.
    Taxcut, in my opinion, made 2 errors here. They first answered No to the wages question, when I believe the answer should be Yes. They used the worksheet unneccessarily. Then, in the worksheet, they skipped line 5a (from 2555 info), which then gave me the full credit. So the end result was the same, but I believe they did it wrong.

    What do you think – is the correct answer to the initial wages question really Yes, and then this whole issue is moot?

    1. Well, pretty clearly the answer to “1A” is “no” if you file a Form 2555. That is the IRS’ first mistake. There is no reason a Form 2555 filer should have to back out earned income. Yet, there is the instruction, right there.

      Once you are pushed to that worksheet, your earned income mysteriously disappears.

      If you are getting the math to give you a credit around Line 5, I haven’t been able to confirm with anyone else that it does. Someone said that that part of the spreadsheet only has you add back deductions to self-employed foreign earned income—which makes no sense.

      Honestly, I don’t think that either the Service or the canned software companies know how to deal with Foreign Earned Income and that credit. I still believe that I am right and that FEI is Section 32 “earned income”.

  2. I guess my head really was not fully in gear, since I clearly missed the part of the instructions for line 1a that said that a Form 2555 filer MUST check No and use the worksheet.
    So actually Taxcut messed up less than I thought. They checked No in box 1a appropriately. Taxcut’s only mistake was that in the worksheet, it did not exclude the foreign income. So instead of a $800 credit, I should get a $99 credit for Schedule M.

    Your argument that foreign income shouldn’t be excluded on Schedule M sounds logical to me, although I am not a tax expert. But I haven’t yet decided what to do. I can’t disregard the IRS instructions, since they’re printed right there on the form. Maybe I’ll take the smaller MWP credit (ie. file Schedule M according to the instructions), pay the tax I owe on self-employment, and write a note as you suggested elsewhere and maybe they’ll send me a refund. (Any suggestions on how to phrase the note?)

    You are definitely correct about the software companies not knowing how to deal with excluded foreign income.
    There’s a bug this year in Taxcut – they didn’t include info from Form 2555 on the Child Tax Credit Worksheet which resulted in incorrect info carrying over to form 8812 (Additional Child Tax Credit) which resulted in incorrectly getting the Additional Child Tax Credit

    I had to manually enter values for lines 5a & 5b of the Earned Income Worksheet which appears on the Child Tax Credit Worksheet, in order to be correctly disqualified for the Additional Child Tax Credit.

    Taxcut had a similar bug a few years ago, the only reason I picked up on it is because for a few years I did taxes manually. I wrote to them then and they fixed it for the next few years by asking an additional question relating to the during the interview. But this year, the bug returned.

  3. Well, here’s an update regarding Schedule M.

    I filed Schedule M as I wrote earlier – claiming a $99 credit, which is what my Schedule M calculations worked out to be. I included a note with my return saying that I followed the instructions for Schedule M and I’m claiming a $99 credit, but that I request that the IRS evaluate whether I really needed to exclude my foreign earned income and whether I really deserve to get the full $800 credit.

    Today I received my answer in the form of a penalty letter from the IRS. The letter states that I made a miscalculation on Schedule M in the amount of $99, and therefore I owe that plus penalties etc.

    So not only did I not get the $800 Schedule M credit, I didn’t even get the $99 credit that I claimed.

    I’m not going to fight it, since I am not optimistic that I can convince them.

    Anyway, I hope this gets straightened out for next year.


    1. I’m sorry to hear that. I think the tactical mistake was trying to follow the literal directions for Schedule M, which were clearly erroneous. By your pointing out that certain business deductions were an addback probably got the thing flagged.

      The real problem is that foreign earned income is includible in gross income, and for some reason, the characters who made Schedule M don’t think so.

  4. I came across your blog when I was researching this same issue. You had me convinced I might be right about not excluding Foreign Earned Income…but then I kept reading the IRC. Section 32(c)(2)(A)(i) defines “earned income” as “wages, salaries, tips, and other employee compensation, but only if such amounts are includible in gross icome for the taxable year“. And there’s the problem. Since income excluded by the foreign earned income exclusion is not included in your gross income, then it doesn’t meet the IRC definition of earned income. So that’s why it gets subtracted out when the MWP credit is calculated.

    1. Devin, you say:

      Section 32(c)(2)(A)(i) defines “earned income” as “wages, salaries, tips, and other employee compensation, but only if such amounts are includible in gross icome for the taxable year“. And there’s the problem. Since income excluded by the foreign earned income exclusion is not included in your gross income, then it doesn’t meet the IRC definition of earned income.

      Let’s step back a minute:

      What is gross income? It is all the income that you must declare, the “Section 61 income”. That is, all income from whatever source derived; and particularly, all earned income from whatever source derived. There are some exceptions to this, for instance something to do with combat pay. But for earned income, it must be declared. Is foreign earned income part of gross income? YES.

      Right? YES. Foreign earned income is not exempt income. It is includible income.

      What Section 911 (Foreign Earned Income Exclusion) provides is an exclusion from adjusted gross income. So called “AGI”.

      Let’s talk about AGI. Is foreign earned income includible in AGI? Only to the extent that it isn’t excluded.

      Where the Schedule M drafters screwed up is that the confused AGI with plain old GI. And Congress was very clear that earned income that is includible in GI qualifies for the credit. The only earned income that is not eligible is other, specifically-defined earned income that is allowed to be kept out of earned income and therefore out of GI. I think this combat pay. The soldier has the choice of how he or she wants to treat the income, because sometimes it’s better to take it in for purposes of the Earned Income Credit (EIC). Under EIC, sometimes its better to have nontaxable combat pay included in your gross income, because it makes the EIC credit larger than it would be if you kept it out.

      So the “GI” (Soldier) has flexibility on whether to put combat pay into Gross Income (also “GI”!) But the expat American does not have this choice.

      Someone at the IRS confused the nontaxable combat pay option with the clear requirement that a taxpayer MuST file their foreign earned income if they have made enough money to file a return. (What is this now, $9,000 about?)

      Please do not confuse gross income and adjusted gross income. Foreign earned income must be included in gross income.

      1. Oh oh oh! And one other thing:

        The reason you can’t take the Earned Income Credit if you have foreign earned income is that Congress specifically prohibited that. There is no such language in the act that created the Making Work Pay Credit.

  5. I don’t know about that. I think you’re confusing exclusions with deductions. Take the tuition/fees deduction from IRC 222. This is a deduction FOR AGI, so it reduces AGI. It is identified as a “deduction” in IRC 222. I believe the terms “exclusion” and “deduction” are different in that regard. An “exclusion” means the amount is not included in “gross income”. A “deduction” (assuming it is the right kind of deduction–not a “schedule A” deduction) means the amount is not included in Adjusted Gross Income.

    I could be wrong. I haven’t done a thorough search of the IRC for the distinction between exclusion and deduction, but that’s the way I understand it.

    You bring up combat pay, though, which I think is an example that proves my point. Combat pay is “excluded” from gross income. Therefore, it would not be allowed to be used in the computation of EIC, etc., except that Congress made a statutory provision to allow it to be included in gross income for only that specific purpose.

    Whatever. Interesting to speculate about…but until somebody takes it to Tax Court the IRS position is going to stand. And I doubt anybody’s going to take the IRS to Tax Court over $800.

    Thanks for your post.

    1. Devin, you say:

      An “exclusion” means the amount is not included in “gross income”. A “deduction” (assuming it is the right kind of deduction–not a “schedule A” deduction) means the amount is not included in Adjusted Gross Income.

      I covered this ground last Spring, too. Even if the terminology is the rule and not a generality, the statute talks about amounts includible in gross income. It doesn’t say “included” in gross income, which it easily could have. Foreign earned income is always includible in gross income.

      You want includible to mean, “as long as it remains part of the balance of gross income once any exclusions have been considered.” Clearly, the Schedule M drafter thought this, too. But I don’t think that’s what includible means.

  6. Oh oh oh…OK, in response to your one more thing 🙂

    …I suspect that Congress specifically prohibited EIC when a 2555 is present for a very different reason than the reason you’re thinking. Consider this: Married couple where one spouse works overseas and qualifies for 2555 and has a healthy income (say $90k). Domestic spouse stays in US w/ kids and works part-time, earning $20k/yr. Without the prohibition, this couple would have $20k of “gross income.” (assuming I’m right about the word “exclusion”) Therefore, they would get the maximum EIC (a credit of course, intended to help the poor) even though they actually had a six-figure household income. This seems like a good reason for Congress to prohibit EIC for taxpayers with 2555.

    OK, I gotta stop now 🙂

    1. Yes, you’re right. This is exactly my point. Someone with the Foreign Earned Income Exclusion is not in the same category as someone showing just $20,000 of earned income.

      This is why Congress specifically prohibited claiming both EIC and FEIE.

      They did not do the same in the enacting legislation for Making Work Pay Credit. Why not?

  7. Huh? Congress took specific action in the case of FEI exclusion b/c without specific action, FEI would NOT be treated as earned income. (And therefore a family with significant income could claim EIC.) In the case of MWP, FEI is NOT being treated as earned income, which is exactly the way it would be treated for EIC if Congress hadn’t acted.

    [Hoofin’s Note: Excuse me for putting my comments right into your post. First, I am going to dialogue. Then, we’ll talk about Commerce Clearing House.

    Foreign earned income is always earned income. Earned income, unless otherwise excluded, is always includible in gross income.

    The Earned Income Credit is tax policy that is meant to put cash into the hands of low-earning Americans who have earned income. You are right that a family making $110,000, where $90,000 was foreign earned income, is different than a family that just makes $20,000 in stateside earned income. This is why Congress prohibited those who File Form 2555-EZ (claim Section 911 Foreign Earned Income Exclusion) from taking EIC. This is why.

    Obviously, if someone is “low earned income” overseas, they can forego the FEIE, claim Section 901 Foreign Tax Credit, and get EIC. Because foreign earned income is clearly gross income, and they choose the foreign tax credit instead of FEIE.

    So Congress, in writing the statute, is doing what you said. They are keeping the high-earners out of EIC.

    Next you say: ]

    There’s perfect consistency there. Congress made a specific prohibition in the case of EIC because they did NOT want FEI to be excluded from gross income. In the case of MWP, Congress did NOT make a specific prohibition because they DID want FEI excluded from gross income.

    [Hoofin’s Note: This is plain wrong. In the one case, the one of EIC, Congress said that if you take a foreign earned income exclusion, you can’t be eligible for EIC.

    Congress was silent about Making Work Pay Credit and FEIE as to whether you are prohibited. They only said that if your MAGI was above a certain amount (adding back FEIE), you aren’t eligible. That was the $75,000 (single) hurdle, which applies to everyone. Nothing about below that amount.

    Next, you say: ]

    And as far as “includible” vs. “included”, you can make those arguments all day, and many have tried, but the courts pretty much never allow purely semantic arguments to win a case.

    [Hoofin’s Note: All I have been saying is that this is what Congress said. If I’m making a mistake, Commerce Clearing House made the same mistake.

    Next, you say: ]

    But let’s say you’re right. Let’s say gross income includes ALL income, INCLUDING amounts that are excludible by statute. What are some other types of income excludible by statute? Well, employer-provided health insurance is one example. So, in a world where “exclusions” can be included in gross income, a taxpayer could choose to add the value of their employer-provided health insurance to their income if it results in a larger EIC. Do you think that would ever fly? I mean, you could make the argument, and I see a certain degree of merit to the argument. But really, do you think the tax court would allow you to add things like employer-provided health insurance, life insurance proceeds, gifts, etc. to your income for purposes of maximizing EIC or some other credit?

    [Hoofin’s Note: You’re confusing amounts excluded by statue, because they are defined as “not Section 61 income” with FEIE, which is a choice on excludibility. The combat pay statute is a choice on whether the soldier wants to include nontaxable pay in earned income. But all the other things you mention are, by definition, excluded. They are not includible, and so therefore, not relevant.

    Then, you say: ]

    Come on. You had a really good point, and you made a very interesting argument. But I think it’s time to admit that the professional tax attorneys who translate tax law into fill-in forms were right, and you were wrong. There’s no shame in that 🙂

    [Hoofin’s Note: Make sure you read the Commerce Clearing House material, in the link below this post.

    Next, you say: ]

    BTW, thanks for this discussion as it’s really helped me to clarify in my mind the distinction between exclusions and deductions. The concept, and its implications, are much clearer now.

    [Hoofin’s Note: Thank you for reading my blog, and hopefully it has assisted you in coming to your determination about the nature of foreign earned income. I still agree with my take and what Commerce Clearing House concluded. ]

    1. Here is what Commerce Clearing House had to say about Making Work Pay Credit in 2009 (prior to Schedule M):

      Read the whole part about Making Work Pay. It clearly says that earned income has the same definition as it does for the Earned Income Credit. (Page 76 of the excerpt.) “Earned income” for purposes of EIC includes all your foreign earned income. That’s why, as you say, Congress forced people to choose between the Form 2555 (FEIE) or the EIC, and why I keep telling you that that is why the EIC provision (Section 32) specifically prohibits taking both. Because earned income, no matter where it’s earned, is includible in gross income.

      If you read the entire CCH excerpt, you’ll notice that there is no discussion of overseas Americans not getting or not being eligible. The only time FEIE (Section 911) is mentioned is in the MAGI. You can’t get the full credit if you have MAGI over $75,000 (single) or $150,000 (joint). This makes sense.

      The CCH tax lawyers behind those guides are as on the ball as anyone. How could they miss your conclusion, too?

  8. Of course it has the same definition of “earned income” as EIC. And for EIC purposes, “earned income” does not include income excluded (or excludible, if you prefer) under Section 911.

    [Hoofin’s Note: Again, wrong. Look at the definition of earned income for purposes of the EIC, right from the IRS website:

    and the items that the IRS says are not earned income:

    Under “not earned income” at the IRS’ own website, there is no mention of foreign earned income as “not earned income”.

    The other point you have wrong is not about excludability, but includibility. The reason that phrase is there is because of things like the nontaxable combat pay, and it looks like, the parsonage allowance as well.

    Next, you say: ]

    That’s why Congress had to make taxpayers choose. If they let EIC stand as-is, AND allow them to take 2555 exclusion, then you would have a situation where a high income taxpayer would qualify for EIC based on the fact that their Foreign Earned Income is not part of gross income.

    Therefore, to prevent high-income taxpayers from claiming EIC, Congress specifically disallowed EIC when a 2555 is present.

    [Hoofin’s Note: Again, wrong. The reason why Congress makes the taxpayers choose is because their foreign earned income is earned income. As you say, if the overseas American (or one in Toronto or Tijuana) can artificially reduce their earned income through FEIE, it defeats the purpose of the program, which is to help low-wage workers.

    The only way Congress could keep those folks out is to exclude them from the definition of “eligible individuals”, so an express prohibition. But you do not see the same prohibition in the enactment for Making Work Pay.

    The reason the high-earners can’t take EIC has nothing to do with the definition of “earned income” for EIC. It has to do with the express prohibition.

    Next, you say: ]

    If Foreign Earned Income excluded under 911 is part of gross income, why would Congress need to make a special exception at all? If somebody has FEI higher than the EIC limits (and its included in earned income), then they don’t get EIC, end of story. Congress wouldn’t need to do anything. But they did do something.

    [Hoofin’s Note: You totally overlook situations where people could be of modest income, but living in a country where the Foreign Tax Credit is more advantageous. For these people, they take a credit for what they paid to the overseas country, and they are still eligible for EIC. Even where the FTC doesn’t cover the U.S. liability, it may be more advantageous to do the FTC and the EIC, because net the EIC will refund something where the FEIE just shuts the American filer out.

    The prohibition is there simply because foreign earned income is earned income. As you say, it keeps high-earners out of the program. I agree. But the prohibition is required as a separate clause, because this part about “but only if such amounts are includible in gross income for the taxable year” is going to things other than the Foreign Earned Income Exclusion. That is clear from the Commerce Clearing House discussion, which, by the way, you clearly only skimmed through.

    Next, you had continued: ]

    And that’s because, under the definition of “earned income,” a taxpayer with $90k of foreign earned income and a few thousand in domestic income could claim EIC. That’s clearly not what Congress had in mind with EIC, so they simply prohibited 2555 and EIC on the same return.

    [Hoofin’s Note: Notice how they also block someone with $25,000 in foreign earned income with the same provision. Why, if the purpose is to help low earners?

    Next, you say:]

    CCH didn’t miss anything. They said MWP defines earned income the same as EIC. And two pages prior they explained that “earned income” for EIC purposes is defined in IRC section 32. And they also specifically mentioned that earned income does not include nontaxable compensation, such as excludable benefits.

    [Hoofin’s Note: Again, you really didn’t read it. If what you were saying was right, they would have specifically pointed out that foreign earned income is not eligible. So would the IRS. But they don’t.

    Back to you: ]

    If CCH “missed” something, it would be the fact an IRS form that’s been live for a year now is not accurate. How would they have missed that? Why would CCH (and every other major tax research service) not announce that the IRS is has published an inaccurate form that needs to be fixed?

    [Hoofin’s Note: This CCH publication predates Schedule M. I am not stateside, so I don’t know what has been going on with this issue. I do know that 2010 Schedule M is not available yet. I also know that very few overseas Americans bother to file, so it might not even be on the radar as an issue. I also know, and you should, too, from reading CCH as you say you did, that the 2008 stimulus credit, using the same definition of “earned income” was paid out to overseas filers.

    Next: ]

    I know you’ve got a lot emotionally invested in this since you’ve apparently been writing about it for some time. But let it go. Enjoy Mt Fuji. That’s pretty cool that you’re an American who’s chosen to make his/her home in Japan (I’m guessing “his” from your stubbornness 🙂 It’s true in my case.) My wife lived there for a couple years and later led tours there on an annual basis. I’ve only made one visit but it’s a very beautiful place.

    [Hoofin’s Note: I haven’t written about M in a while. There’s no emotional investment. I just think someone at the Service decided that foreign earned income is not includible in gross income. It is. ]

    Anyway, good luck battling the IRS when you claim MWP with no taxable earnings 🙂

    [Hoofin’s Note: Now you’re really letting me know what level of accounting professional I’m dealing with. Making Work Pay is refundable. So someone with $6,000 earned income, and therefore zero taxable earnings (the standard deduction and personal deduction would cover) would get the full credit.]

    1. Here’s another riddle for you:

      CCH excerpt

      According to CCH, the definition of earned income is the same as it was for the 2008 stimulus credit. That rebate was received by Americans who filed, all over Japan. They didn’t do anything, the government just sent the check. That was 2008, the end of the Bush Administration. The stimulus payment was based on income reported on the 2007 return. Again, the filer didn’t have to do anything.

      So which IRS is screwing up then? The one of 2008 or the one of 2010?

  9. OK. At some point in the future, take a deep breath, and read what you wrote about EIC and MWP in relation to the 2555. You’re relying on a source (CCH) that doesn’t even agree with your interpretation. (Again, if they did, then at some point in the last year they would have announced that the IRS form was wrong. They didn’t. It’s not an oversight. Your argument rests on the premise that CCH and every other tax research service has missed the fact–for a full year now–that the IRS screwed up one of their forms. Their silence is entirely consistent with the position they’ve had all along which you’re misunderstanding. The IRS link you give specifically states nontaxable pay is not earned income. The list of things that is not earned income is not an exhaustive list, so the fact that FEI excluded income isn’t on it means nothing.)

    [Hoofin said: Now you’re really letting me know what level of accounting professional I’m dealing with. Making Work Pay is refundable. So someone with $6,000 earned income, and therefore zero taxable earnings (the standard deduction and personal deduction would cover) would get the full credit.]

    I don’t understand your point. I’m saying if you try to claim MWP based on excluded foreign earned income, good luck with that. Refundability has nothing to do with my point at all. If you’ve got $5k of earned income that’s not excluded by statute, of course you get MWP. I’m not questioning that. But if you try to claim MWP with FEI excluding all of your earnings, the IRS will deny it. That’s all I’m saying.

    And finally…
    I don’t remember all the details of the 08 rebate, but I do know that earned income was only *one* of the items that could make you eligible for it. SS, VA benefits, and several other items were all sufficient to qualify you. I remember that being the “just file a return” credit, so I don’t see the relevance of it to this discussion.

    Wow, you’re a real bulldog 🙂

    1. Devin, I may be a bulldog, but I have to put some finality on this.

      MWPC depends on the definition of earned income for the EIC.

      The term “earned income” means—
      (i) wages, salaries, tips, and other employee compensation, but only if such amounts are includible in gross income for the taxable year

      Our difference is about the includibility clause. I think it has nothing to do with applying the Foreign Earned Income Exclusion. I think foreign earned income is always includible in gross income. I think the includibility clause is there because of compensation like the employer provided benefits that you mentioned. It was a way for Congress to protect against things like employer-provided health care from kicking people out of EIC.

      With this reading, it makes sense that Form 2555 filers are prohibited from taking FEIE. They are specifically made to be not eligible.

      (C) Exception for individual claiming benefits under section 911
      The term “eligible individual” does not include any individual who claims the benefits of section 911 (relating to citizens or residents living abroad) for the taxable year.

      It has nothing to do with whether foreign earned income is includible in gross income.

      This is my view. It’s clear it’s not the view of the drafter of Schedule M. What I have been saying is not semantics, and it’s not off the wall. FEIE is a “for AGI” adjustment. The (max) $91,400 is includible in gross income, but it is not part of adjusted gross income.

      Whoever ran the Bush Administration IRS saw it similarly, as I’ve said, because many of the English teachers and other middle-class American wage earners in Tokyo got the 2008 stimulus credit, which was based off the 2007 return. They got it because they showed Line 7 wage income, not for veterans benefits. And they took FEIE.

      The CCH material doesn’t discuss FEIE (except for MAGI), because the statute is also silent; because it should not have been an issue at all. Foreign earned income is includible in gross income. End of story.

      Now, you say, hey, how come you’re the sole blogger out there saying something about this? Doesn’t that just put you on the wrong side? Maybe. I don’t know. But what I do know about Schedule M is that someone who visits the site had BOTH foreign earned income and foreign self-employment net income, for which Schedule M seems to allow an addback on deductions. They scrupulously followed the Service instructions to the letter, and the IRS dinged them because they tried to take a Making Work Pay Credit on the addback.

      So three things convince me the form is flawed:

      1) The 2008 Bush Stimulus Rebate that was handed out here in Tokyo to people using FEIE anyway;

      2) The fact that CCH (or the IRS) don’t even list foreign earned income as an issue for “includibility”.

      3) Someone who followed the net self-employment income instructions to the letter still got dinged.

      Now, what is the Service’s current position on Schedule M and FEIE? I don’t know. What I do know is that there are always different kinds of headaches with the FEIE, or let me call it Section 911. Anytime Section 911 comes up, in any matter, it gets politicized. Even here. So it would not come as a surprise to me that someone drafting the form, or approving it, just decided that giving the credit to overseas Americans didn’t make any sense. And the includibility clause above just seemed to provide more juice to that argument.

      You have to remember that many overseas Americans simply don’t file. I think that, out of an estimated 4 million Americans outside the country, maybe 300,000 take FEIE. I think a lot of the rest simply think their overseas-earned money is exempt (it isn’t), and so they don’t file. The IRS only sees it as an issue when one of these folks gets on the radar screen. I think a lot of the recent Congressional and Service action on international tax shelters is going to have the residual effect of making a stink in the near future about these nonfilers or possibly eliminating Section 911.

      Schedule M is not big news, Devin, because the people getting burned are the small handful who aren’t MAGIed out and who do file. And to most, it’s not worth a battle for $400 or $800.

  10. I never said your argument is off the wall. It’s a very interesting argument. It would be a much better argument if you focused on the actual IRC instead of CCH. CCH isn’t the final authority, and in over a year now they have come out with nothing saying the IRS form is wrong…so either they’re not as “on the ball” as you claim, or else they never intended to promote your interpretation in the first place.

    You made one argument in an earlier post that was much more convincing than anything you’ve said here. That’s the part about the SubChapter B, Part III, exclusions not including foreign earned income. Now that’s convincing because that’s the area that tax authorities typically look to for items that can be excluded from gross income. And, sure enough, FEI is not mentioned there.

    However, your position still depends on the assumption that SubChap B Part III is an exhaustive list. And I can see nothing in the IRC that states it is. And there’s the problem. Just because FEI doesn’t appear on a list doesn’t mean it can’t be included in that list. It could simply mean (as in the case of the CCH reference and IRS Pubs you’ve mentioned) that the list is not exhaustive. And, well, the CCH list is far too short to be an exhaustive list. The IRS pretty much by rule doesn’t make exhaustive lists.

    You’ve got me on the 08 Rebate. I remember that as applying to things in addition to earned income, but I’m not going to look it up. Good work.

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