Sabbaticals have long been one of the most highly regarded perks of an academic career. With proper planning, a professor can take federal income-tax deductions for many of the expenses associated with a sabbatical leave away from home.
We can't offer tax advice here, but we'll try to give you a few things to think about. If you can't stay awake through a discussion of the tax code, just give a photocopy of this column to your accountants and get their advice while planning your trip.
Some general principles. The tax code permits deductions for business expenses, including the cost of business travel. Sabbatical leave is a type of business travel, subject to limitations that we'll discuss here. To be a little more specific, business-travel expenses—the cost of round-trip transportation to the site of your sabbatical, food, local transportation, and lodging, for example—may qualify for the "miscellaneous itemized deduction."
If your sabbatical will be within the United States, you should be back home within a year in order to claim the tax deduction. Otherwise, your "tax home" will change to the site of the sabbatical and you lose your eligibility for the deduction. But if you're going to spend your sabbatical out of the country, there are tax benefits to extending your trip over a year—provided that your institution permits that. We'll talk about that in a bit.
In order to deduct business-travel expenses, you have to itemize. Assuming that you're going to itemize, there are some limits on the deductions available for travel expenses. You can't begin to deduct until your expenses exceed 2 percent of your adjusted gross income. An additional limitation applies to the deduction for meals. Only 50 percent of the cost of meals is deductible. That makes a certain amount of sense if you remember that we're talking about a business deduction. The 50-percent deduction takes into account the increased cost of food while you're away from home.
The deduction for the cost of airfare to the site of your sabbatical may be limited depending on whether you plan to take some vacation time while you're away from home. If you stay within the United States, the cost of round-trip transportation to your sabbatical location is fully deductible, provided that the nature of your sabbatical is primarily business. Costs of meals and lodging are deductible as well. But the transportation cost of side trips you take during your sabbatical for vacation are not deductible. Likewise, the cost of meals and lodging on those side trips is not deductible.
If you treat your sabbatical primarily as a vacation, then your transportation costs between home and the site of the sabbatical are not deductible. The only portion of your meals and lodging that is deductible is the amount attributable to work.
If you spend your sabbatical abroad, round-trip transportation expenses are likewise deductible, provided that you spend the whole time working. But if part of the trip involves personal activities, then transportation expenses can be deducted only in proportion to the time spent on business. For example, if you spend 60 percent of your time working and 40 percent vacationing, then only 60 percent of the plane fare is deductible. If the trip is primarily for vacation, then transportation expenses are not deductible at all.
There are exceptions to the allocation requirement. The most important for our purposes is the "25 percent rule": A taxpayer need not allocate transportation expenses if nonbusiness activities account for less than 25 percent of the time spent outside of the United States.
Your decision to characterize your trip as business or personal depends on the facts and circumstances. The amount of time spent on personal activities compared with the amount of time spent on work is an important factor. The IRS will closely scrutinize a tax return in which you claim deductible business expenses incurred during a trip that amounts to a vacation. In fact, the IRS warns taxpayers that scheduling incidental business activities won't convert a vacation into a business trip.
Don't be too quick to deduct your spouse's travel expenses, as well. The IRS warns that these expenses are not deductible simply because the spouse performs incidental services such as typing up notes. To justify a deduction, the taxpayer must establish a real business purpose for the spouse's presence on the trip.
Be sure to keep good expense records. For example, the IRS might not accept a credit-card receipt alone to document a hotel stay because the amount might include nondeductible expenses. Keep a log or a diary of deductible expenses. Instead of documenting deductible meal expenses, you can simply use federal per-diem rates. (Of course, only half of that expense can be deducted.)
Now that we've covered the general expense issues, it's time to get specific.
Education travel. Revisions to the tax code enacted in 1986 prohibit deductions for expenses resulting from "travel as a form of education." In other words, traveling just to learn something useful to your job will not generate deductible expenses. Congressional discussion of the 1986 revisions makes clear that a French professor who tours France to brush up on his language skills is not entitled to a tax deduction. Nevertheless, that French professor might well be able to deduct his travel and other expenses if he enrolled in a French university to pursue formal study to enhance his skills at teaching French. Even expenses to obtain an additional degree may be deductible.
Unnecessary travel. A university could allow an experienced professor to take paid sabbatical leave solely for personal renewal. That practice may have been more common long ago than in today's economic climate. However, any professor fortunate enough to receive that perk today should not expect a tax deduction.
We can envision various sabbatical scenarios that would not justify deduction of travel expenses. For example, suppose that a professor at a university in Minnesota is granted a spring sabbatical to finish writing a book. Suppose further that the professor decides to spend the semester in Hawaii to write in a more congenial environment. His travel expenses are almost certainly nondeductible. The mere fact that business is being conducted while traveling does not automatically mean the expenses are deductible. Instead, it must also be shown that the travel was functionally related to the business activity. In this situation, the professor could have written his book in Minnesota. There was no business need to go to Hawaii.
Trips during the larger trip. While on sabbatical, a professor may take side trips. Of course, the cost of side trips taken as vacation are not deductible. And taking too many side trips as vacation might render the primary purpose of the entire sabbatical as vacation.
But the cost of a side trip for business purposes is deductible. You might end up deducting the cost of two sets of lodgings for the same time period when you rent a house or apartment at your primary work site and then stay in a hotel while traveling on a business-related side trip.
Car rental. In the context of a sabbatical, the question of what constitutes business use of a car is somewhat murky. Activities that amount to nondeductible personal uses at home may be seen as business activities while on sabbatical. For example, commuting from home to office or driving to the supermarket are considered personal activities at home. However, the IRS generally allows a business traveler to deduct the cost of driving from his hotel to meeting places and restaurants as a business expense. That same principle applies to a professor who is away from home on sabbatical.
Family expenses. You might want to bring your family along while on sabbatical. The presence of family raises questions about the deductibility of various expenses. Of course, the travel expenses of family members ordinarily can't be deducted. However, the cost of renting a house will be about the same regardless of whether you're alone or with your family. Because the additional people don't substantially change the basic cost of a house, it remains deductible in full as long as it's not "lavish or extravagant under the circumstances."
The reasonableness of these costs should be easily established in most sabbatical settings. A professor who is renting an apartment or house that costs no more, on a daily basis, than renting a nice hotel room is behaving reasonably, not extravagantly. Bear in mind, however, that if you bring a large family and rent a big, expensive house, the IRS may deny part of your deduction.
Overseas sabbaticals. The federal government has the authority to tax the income of U.S. citizens even if it is earned outside of the country. However, the tax code creates a special exemption for certain income earned while living abroad and excludes some associated housing costs.
Foreign-earned income can include money paid by a U.S. university to a professor living abroad. The income exclusion is subject to an annual inflation-adjusted cap that in 2010 stood at $91,500. Moreover, an additional housing cost exclusion amount is tied to the earned-income exclusion amount. IRS Form 2555 is designed to help calculate that sum.
There are two ways to qualify for the exclusion of foreign-earned income. Under the first method, you have to be a "bona fide resident" of a foreign country for the entire tax year. We won't get into the details here because it's unlikely that a professor on sabbatical will qualify as a "bona fide resident" of a foreign country. The second way to qualify for the exclusion is more mechanical: The taxpayer is required to be a U.S. citizen or resident whose tax home is in a foreign country (or countries) for 330 days during 12 consecutive months.
Notice that the taxpayer must have a "tax home" abroad. In other words, the period of foreign residency must exceed one year, and the taxpayer must have a business purpose for the trip. The tax code also contains an ambiguous requirement to the effect that the taxpayer's "abode" can't be in the United States. The term "abode" seems to require a state of mind and affairs in which the taxpayer's immediate ties to a place are stronger outside of the United States. In that situation, a professor could probably make a stronger claim that his abode is outside of the country if his family has joined him on his sabbatical.
Most yearlong sabbaticals will cross over two calendar years. If you're physically present in a foreign country for less than the entire tax year (i.e., the calendar year), the exclusion is limited to the lesser of your foreign-earned income for the year, or the statutory maximum prorated for the number of days of physical presence.
If you successfully exclude foreign-earned income from your federal income tax, you can't also take deductions for your travel expenses. That makes sense because a taxpayer shouldn't deduct expenses incurred to produce nontaxable income. But if you have foreign-earned income that exceeds the exclusion amount, the regulations allow you to allocate a portion of the deductions to the excess income.
That brings us to one last tax hurdle. Even though you exclude foreign-earned income from your U.S. income tax, you may still owe tax in the country where you spend your sabbatical. Practically speaking, most professors probably won't file a foreign tax return, and the income will go undetected by the foreign equivalent of the IRS. We imagine that it might never occur to most professors that they should pay tax to a foreign government from their U.S. salaries.
Whether you're obligated to file a foreign tax return depends on the laws of the country where you spend your sabbatical. Not all countries exercise their authority to tax the locally earned income of foreign citizens. The United States has negotiated dozens of bilateral tax treaties, so there is a high likelihood that a tax treaty has some application to the question of whether you have to report some or all of your earned income to the foreign tax collector. A list of those treaties is available in IRS Publication No. 901. If you do end up owing income tax to both the United States and to a foreign government, the tax code provides a credit against U.S. tax liability for foreign-income taxes paid. The credit is limited to the amount of U.S. tax that would otherwise have been owed on that income.
Some simple tax-planning strategies:
- Write a sabbatical proposal outlining the research projects you plan to pursue on your trip. If possible, your proposal should list multiple projects, in order of priority, to give you some flexibility if your plans change.
- Establish a formal visiting arrangement with a host institution. A letter of invitation from a dean that establishes an expectation of interaction with peers would be valuable.
- Keep good records. You have the burden of establishing that your expenses are deductible. Save your receipts. Consider lumping your expenses into a single tax year, even though your academic-year sabbatical may cover two tax years. Remember the 2-percent threshold for travel expenses that must be met every year. Maybe you can prepay your rent. There are limits on how much lumping of expenses is permitted, but those limits will not usually apply in the sabbatical context. Prepaying expenses may result in tax savings depending on your individual circumstances.
- If traveling on sabbatical within the United States, return home within a year. But if you're spending your sabbatical out of the country, consider staying more than a year if possible.
One more point on the 2-percent threshold: You may be able to avoid it if you're lucky. Rather than paying your expenses and taking a tax deduction, you may receive more favorable tax treatment if you can arrange for reimbursement of your expenses by your home institution through a mechanism known as an "accountable plan." That might be accomplished by taking a temporary reduction in pay in exchange for an increased travel allowance. This option is probably available if you derive some of your compensation from an endowment. Someone in your human-resources office should know whether an accountable plan exists at your institution.
As lawyers, we should conclude with a disclaimer. We've simplified the law here and omitted some points. If you're interested, you can consult a more extensive version of this article that was published last year in The Tax Lawyer. But if we've given you some ideas to talk over with your tax adviser, we've accomplished our purpose.