McCain v. Comm'r of Internal Revenue , Docket No. 8061–82.

• Decision Date: 06 December 1983
• Docket Number: Docket No. 8061–82.
• Parties: CHARLES RICHARD McCAIN, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent
• Court: U.S. Tax Court

81 T.C. 918

81 T.C. No. 56

CHARLES RICHARD McCAIN, Petitioner

v.COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 8061–82.

United States Tax Court

Filed December 6, 1983.

In 1979, petitioner was employed in the Panama Canal Zone by the Panama Canal Company until Sept. 30 and thereafter by the Panama Canal Commission.

Held: Petitioner is not entitled to either (1) deductions under sec. 913, I.R.C. 1954, for certain foreign living expenses or (2) a foreign earned income exclusion under sec. 911, I.R.C. 1954, because his only income consisted of wages received from “an agency of the United States”;

Held, further: The 1979 Panama Canal Treaty and its implementing agreement, T.I.A.S. 10030 and 10031, do not exempt petitioner from United States taxation on the wages he received from the Panama Canal Commission from Oct. 1, 1979 through Dec. 31, 1979. Charles Richard McCain, pro se.

Robert M. Ratchford, for the respondent.

FEATHERSTON, Judge:

Respondent determined a deficiency in the amount of $3,570.16 in petitioner's Federal income tax for 1979. The issues for decision are the following:

(1) Whether petitioner is entitled to either a deduction for certain excess foreign living expenses under section 913¹, or the hardship area foreign earned income exclusion provided by section 911 by virtue of his employment in the Panama Canal Zone during 1979;

(2) Whether petitioner is exempt from taxation by the United States of his income earned while employed by the Panama Canal Commission during the period from October 1, 1979 through December 31, 1979 pursuant to the terms of the Panama Canal Treaty.

FINDINGS OF FACT

At the time he filed his petition in this case, petitioner Charles Richard McCain (hereinafter petitioner) was a resident of the Panama Canal Zone (hereinafter Canal Zone). Petitioner was born in Bogalusa, Louisiana. He is currently and was, during 1979, a United States citizen.

In January 1977, petitioner began working in the Canal Zone as a machinist for the Panama Canal Company. At that time, and until September 30, 1979, the United States exercised territorial sovereignty over the Canal Zone pursuant to a 1903 treaty between the United States and the Republic of Panama. In that treaty, Panama granted to the United States “all the rights, power and authority within the [Canal] zone * * * which the United States would possess and exercise if it were the sovereign.”² Under Title 2, chapter 5, section 61 of the Canal Zone Code, the Panama Canal Company was the agency of the United States which was responsible for the operation and control of the Panama Canal.

Petitioner was employed by the Panama Canal Company from January 24, 1977 through September 30, 1979. During that period, petitioner received $18,925.61 in wages from the Panama Canal Company.

On October 1, 1979, the effective date of the Panama Canal Treaty, T.I.A.S. 10030 (hereinafter Canal Treaty), the Panama Canal Company became the Panama Canal Commission. That organization, like the Panama Canal Company, is an agency of the United States, 22 U.S.C. sections 3611 and 3651, and is responsible for the operation of the Panama Canal. Petitioner was employed by the Panama Canal Commission from October 1, 1979 to the date of the trial. During 1979, from October 1 through December 31, petitioner received $4,810.81 in wages from the Panama Canal Commission.

Petitioner has resided continuously in the Canal Zone from January 1977 to the date of the trial. During 1979, he left the Canal Zone from September 1 through October 10, while vacationing in the United States. Petitioner did not pay any income taxes to the Republic of Panama during 1979.

On a Form 2555 attached to his 1979 Form 1040, petitioner stated that he was claiming both a deduction for certain excess foreign living expenses³ under section 913 and a hardship area foreign earned income exclusion pursuant to section 911.

In the notice of deficiency, respondent determined that petitioner could not, as a matter of law, be allowed both a section 913 deduction and a section 911 exclusion, and, in any event, that he did not qualify for the relief of either section 913 or 911 because he had failed to establish that he met either the bona fide residence or physical presence requirements of those sections. At trial, petitioner argued, in addition to his claims under sections 913 and 911, that the income which he earned from the Panama Canal Commission during the period from October 1, 1979 through December 31, 1979 is exempt from taxation by the United States by reason of the terms of the Canal Treaty.

OPINION

1. Applicability of Sections 913 and 911

On his income tax return for 1979, petitioner appears to have claimed both section 913 deductions and a section 911 exclusion. Respondent contends that petitioner qualifies for neither the deduction nor the exclusion,⁴ and we agree.

A. Section 913

As applicable to the taxable year 1979, section 913(a)⁵ provided for the allowance of certain specified deductions (1) to a United States citizen who was a bona fide resident of a foreign country or countries for an uninterrupted period which includes an entire taxable year, or (2) a United States citizen or resident who, during any period of 18 consecutive months, is present in a foreign country or countries during at least 510 days in such period. The allowable deductions under section 913(b) include such items as qualified housing expenses, qualified home leave travel expenses, and a qualified hardship area deduction. For purposes of section 913, section 1.913–3(d), Income Tax Regs., defines the term “foreign country” as “any territory under the sovereignty of a government other than that of the United States. * * * It does not include a possession or territory of the United States.”

Relying on this regulation, respondent contends that the Canal Zone was not a foreign country from January 1, 1979 through September 30, 1979 because the United States exercised territorial sovereignty over the Canal Zone in accordance with the 1903 treaty between the United States and the Republic of Panama. He maintains that the Canal Zone was a possession of the United States until October 1, 1979, the effective date of the Canal Treaty. Thus, according to the argument, petitioner may not be allowed a section 913 deduction from income earned during that period because he was not a resident of a foreign country.

Respondent, however, concedes on brief that beginning on October 1, 1979, the effective date of the Canal Treaty, the Canal Zone is a foreign country for purposes of section 913. Respondent further concedes that petitioner was in fact a resident of a foreign country from October 1 through December 31, 1979, in that he meets the bona fide residence test of section 913(a)(1) for that period.

As noted in our Findings of Fact, prior to October 1, 1979, the effective date of the Canal Treaty, the United States exercised territorial sovereignty over the Canal Zone pursuant to the 1903 Isthmian Canal Convention between the United States and the Republic of Panama. Specifically, Article III of the 1903 Treaty provided as follows:

ARTICLE 111

The Republic of Panama grants to the United States all the rights, power and authority within the zone * * * which the United States would possess and exercise if it were the sovereign of the territory within which said lands and waters are located to the entire exclusion of the exercise by the Republic of Panama of any such sovereign rights, power or authority. [Emphasis added.]

The “if it were the sovereign” language of Article III, has caused much uncertainty as to whether the United States possessed actual sovereignty over the Canal Zone under the terms of the 1903 Isthmian Canal Convention. If the United States had actual sovereignty over the Canal Zone, it was not a foreign country, but was a possession. On the other hand, if the Republic of Panama retained sovereignty over the Canal Zone, then the Canal Zone could be considered a foreign country for purposes of section 913.⁶

We need not decide this controversial issue here, however, because even if petitioner meets the bona fide residence test of section 913(a)(1), he still does not qualify for a section 913 deduction because of the limitation contained in section 913(c)(1) which in relevant part provides:

(c) Deduction Not to Exceed Net Foreign Source Earned Income.—

(1) In general.—The deduction allowed by subsection (a) to any individual for the taxable year shall not exceed—

(A) such individual's earned income from sources outside the United States for the portion of the taxable year in which such individual's tax home is in a foreign country * * * [Emphasis added.]

The term “earned income” is defined in section 913(j)(1)(A) as having—

the meaning given to such term by section 911(b) (determined with the rules set forth in paragraphs (2), (3), (4), and (5) of section 911(c)), except that such term does not include amounts paid by the United States or any agency thereof. [Emphasis added.]

As set forth in our Findings of Fact above, petitioner was employed and paid during the period from January 1, 1979 through September 30, 1979 by the Panama Canal Company, an agency of the United States. Similarly, during the period from October 1, 1979 through December 31, 1979, petitioner was employed and paid by the Panama Canal Commission, also an agency of the United States. Because petitioner's only income for 1979 was derived from agencies of the United States, he had no “earned income from sources outside the United States” in 1979, within the meaning of section 913(c)(1)(A). The amount of a section 913 deduction may not exceed such income, and, therefore, petitioner is not entitled to a deduction under that section.

B. Section 911

Section 911(a)⁷ provides, in relevant part, that an individual described in section 913(a) who, because of his employment, resides in a camp located in a hardship area and meets other...