Taxation of Civilian Workers in Combat Zones

Some confusion regarding taxation of civilian workers in combat zones [IRS Headliner Volume 178, 08/31/2006]: The IRS has become aware of some misunderstanding of the income exclusion rules for non-military personnel. Under IRC §112, certain compensation received for active service in a combat zone by members of the Armed Forces is excludable from gross income, and, therefore not subject to federal income tax withholding. However, this exclusion only applies to compensation paid by the U.S. Armed Forces to members of the Armed Forces. Under current law, neither federal civilian employees nor civilian defense contractors deployed with U.S. forces qualify for the exclusion while working in a combat zone or qualified hazardous duty area. (Note that members of the merchant marines are not considered members of the U.S. Armed Forces under IRC §7701(a)(15), and do not qualify for the exclusion either.) Contract workers in combat zones may still qualify for other income exclusions. For example, a U.S. citizen or resident alien living abroad, while taxed on their worldwide income, may qualify to exclude up to $82,400 of their foreign earnings from income, as well as qualify for the foreign housing exclusion and the foreign housing deduction. In addition, if certain requirements are met, contract workers may be able to exclude the value of meals and lodging provided by their employer from income.