                          T.C. Memo. 1995-555



                      UNITED STATES TAX COURT



              ERTAN AND SUSAN EREN, Petitioners v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 866-94.               Filed November 21, 1995.



     James Daniel McCarthy, for petitioners.

     Aretha Jones, for respondent.



             MEMORANDUM FINDINGS OF FACT AND OPINION


     JACOBS, Judge:   Respondent determined a $15,459 deficiency in

petitioners' 1989 Federal income tax.    The sole issue for decision

is whether petitioner Ertan Eren's 1989 income from the U.S.

Department of State, Office of Foreign Buildings Operations (FBO),

qualifies for the section 911 foreign earned income exclusion.
                                  -2-

Petitioners'   entitlement   to   such    exclusion   depends   upon   the

classification    (independent contractor vis-a-vis employee) of

Ertan Eren's employment relationship with FBO during the year under

consideration.   For the reasons set forth herein, we hold that such

relationship was that of an employee with the consequence that

petitioners are not entitled to the claimed section 911 foreign

earned income exclusion.

     All section references are to the Internal Revenue Code for

the year under consideration, and all Rule references are to the

Tax Court Rules of Practice and Procedure.

                           FINDINGS OF FACT

     Some of the facts have been stipulated and are so found.           The

stipulation of facts and the attached exhibits are incorporated

herein by this reference.

Background

     Petitioners Ertan and Susan Eren, husband and wife, resided in

Rockville, Maryland, at the time they filed their petition.            They

filed a joint Federal income tax return for 1989.

     Ertan Eren is an architect1.        He resided in Bogota, Colombia,

from July 1988 through June 1990.       At that time, he worked for FBO

as project director for the construction of an annex to the U.S.

Embassy in Bogota.


     1
          All references to petitioner in the singular will be to
Ertan Eren.
                                    -3-

Petitioner's Contracts with FBO

     During the late 1970's and early 1980's, petitioner rendered

architectural services to FBO on an "as needed" basis under a labor

hour contract for various FBO projects in Brazil.            He signed his

first personal service contract (PSC) with FBO in 1983, and has

been performing services solely for FBO since that time.                 His

subsequent contracts with FBO have been renewed, modified, or

renegotiated on an annual basis.

     On   March   6,   1984,   petitioner   and   FBO   signed   a   contract

designating petitioner as the project manager2 with respect to the

improvements and repairs at the U.S. Embassy in Ankara, Turkey, and

other U.S. foreign service posts.         Petitioner worked in Turkey for

a number of years under modified versions of this PSC.               In July

1988, he was transferred from Turkey to Bogota.

     Petitioner's contract with FBO, as in effect during 1989,

states in part: "The Project Manager will inspect construction,

improvements and/or repairs at project sites and will be directly

responsible to FBO in the performance of his duties under this

contract." The contract provides that petitioner will "Perform

appropriate functions and obligations in accordance with procedures

or other directives issued by the Contracting Officer or his

designee."


     2
          The term "project manager" and "project director" are
used interchangeably herein.
                                         -4-

Petitioner's Duties in Bogota

     As project director for the Bogota annex, petitioner was

responsible for the inspection and supervision of the construction

of such annex.      He was not subject to daily supervision by FBO.

     FBO provided petitioner with a "Project Director's Handbook",

which    he   was   to    use   as   a   guide   in    performing    his   duties.

Petitioner was required to personally perform his duties to FBO on

a full-time basis.         He was required to work a minimum of 40 hours

a week; however, he typically worked longer hours.                Petitioner was

not paid for the extra hours he worked.

     FBO provided petitioner with all requisite contract documents,

specifications,          and    drawings   for    the     annex     construction.

Petitioner did not have authority to change the documents.

        Petitioner was appointed a contracting officer's technical

representative (COTR) pursuant to a memorandum dated November 10,

1988. The memorandum outlined 11 specific duties and activities

that petitioner had to perform as COTR.               Primarily, petitioner was

required to insure that all materials furnished, and the work

performed, on the Bogota annex project were in accordance with the

contract specifications and that the work progressed on schedule.3


     3
          Petitioner had substantial control over the contractor
hired to build the annex. He was able to order work redone or
stopped because of the contractor's failure to follow accepted
safety procedures or project specifications without prior FBO
approval. Before authorizing FBO to pay the contractor,
                                                   (continued...)
                                     -5-

Petitioner was required to maintain a daily log describing the work

progress on the construction site.

      Pursuant to a February 21, 1989, memorandum that supplemented

the November 10, 1988, memorandum, petitioner was given authority

to   substitute    materials,    equipment,       and/or    products       for   the

construction of the Bogota annex so long as they were equal to or

better than those specified in the contract, and the substitution

did not entail an additional cost to the government.

      During the year under consideration, petitioner was required

to submit two types of monthly reports regarding the progress of

the construction of the Bogota annex to the FBO area branch chief

for construction management.        One was a telegraphic report that

had to be sent before the 10th of each month; the other was a

written report kept in book form.          The reports included statements

of   progress     and   problems    incurred      or     anticipated       in    the

construction    of   the   annex.    FBO    had    the     right   to   terminate

petitioner's contract if he failed to submit these monthly reports.

The Bogota Project Budget

      When   petitioner    was   assigned    to   a    project     post,    he   was

required to prepare a budget proposal and submitted it to FBO for

approval.    With regard to the Bogota annex project, FBO approved



      3
      (...continued)
petitioner inspected the job site to ensure that the contractor
was performing satisfactory work.
                                   -6-

petitioner's request for $250,000 for 1989.         Although petitioner

did not have authority to exceed the approved budget, he could

allocate approved budget funds as necessary.

     The $250,000 budget for 1989 did not include petitioner's

$74,000 salary.     His biweekly salary was based on a Government

schedule (the Foreign Service Schedule).            Petitioner did not

receive any per diem in 1989.

     Petitioner had the authority to hire and fire his staff

without FBO approval.     He hired several workers who entered into

contracts with FBO and were paid by FBO.

PSC Provisions

     Petitioner    did   not   receive   standard   Government   employee

benefits such as life insurance and retirement benefits under the

terms of his 1989 PSC.     Rather, 5 percent of his compensation was

allocated for purchasing health insurance. Petitioner received home

leave,4 sick leave, and annual leave.

Department of State Directives and Memorandum

     Two FBO directives required that personal service contractors

be treated as employees. The first directive, issued July 7, 1987,

refers to the Foreign Affairs Manual, which states that "a personal

service contractor is not eligible for the 'foreign earned income

exclusion'".      The second, issued July 7, 1987 (and revised on


     4
          Home leave is a mandatory Department of State leave for
foreign service workers.
                                 -7-

December 4, 1987, and December 20, 1988), provides that overseas

PSC's treat a contractor as an FBO government employee for all

purposes except retirement.

     Petitioner was notified by a December 12, 1989, FBO memorandum

that as a result of an Internal Revenue Service review of FBO

personnel policies, it was determined that PSC's signed by FBO

contractors created an employee-employer relationship between the

parties and that petitioner should designate himself as an FBO

employee (rather than as an independent contractor) on his 1989

Federal income tax return.

     Subsequent to the issuance of this memorandum, FBO issued

petitioner a Form W-2 for "wages, tips and other compensation" in

the amount of $74,183.04.     FBO withheld Social Security tax from

petitioner's income in the amount of $3,604.80.

Petitioners' 1989 Federal Income Tax Return

     On petitioners' 1989 Form 1040, petitioners reported $74,183

as "business income" on line 12 and then subtracted $70,0005 on

line 22 ("other income") with the notation "Exclusion from Form

2555."6   Thus, petitioner claimed a section 911 exclusion for a




     5
          The maximum amount permitted for the earned income
exclusion was $70,000.
     6
           Form 2555, Foreign Earned Income, attached to
petitioners' 1989 return, reported foreign earned income of
$74,183, and listed "name of employer" as "self".
                                      -8-

substantial portion of the compensation he received from FBO.

Respondent disallowed the claimed exclusion.

     Petitioner also calculated self-employment tax on Form SE in

the amount of $6,250.        Respondent concedes that petitioner is not

liable for self-employment tax if we hold that he was an employee

of FBO in 1989.

                           ULTIMATE FINDING OF FACT

     Petitioner was an FBO employee in 1989.

                                     OPINION

     At    issue      is   the   characterization      for   tax   purposes   of

petitioner's relationship with FBO during 1989.              Petitioner argues

that his relationship with FBO in 1989 was that of an independent

contractor      and   therefore    petitioners   are    entitled    to   exclude

$70,000 of his 1989 income from FBO as "foreign earned income"

within    the   purview     of   section    911(b)(1)(B)(ii).       Respondent

contends that petitioner's relationship with FBO in 1989 was that

of an employee and therefore petitioners are not entitled to the

exclusion.

     Section 911 provides in relevant part:

             (a) Exclusion from Gross Income.--At the election
             of a qualified individual (made separately with
             respect to paragraphs (1) and (2)), there shall be
             excluded from the gross income of such individual,
             and exempt from taxation under this subtitle, for
             any taxable year--

                       (1) the foreign earned income of
             such individual, and
                                  -9-


                       (2) the housing cost amount of such
                  individual.

          (b) Foreign Earned Income.--

                  (1) Definition.--For purposes of this section--

                       (A) In General.--The term "foreign
                  earned income" with respect to any
                  individual means the amount received by
                  such individual from sources within a
                  foreign   country   or  countries   which
                  constitute earned income attributable to
                  services performed by such individual
                  during    the    period   described    in
                  subparagraph (A) or (B) of subsection
                  (d)(1), whichever is applicable.

                       (B) Certain Amounts Not Included In
                  Foreign   Earned   Income.--The   foreign
                  earned income for an individual shall not
                  include amounts--

                         *    *    *    *   *   *   *

                             (ii) paid by the United
                       States or an agency thereof
                       to an employee of the United
                       States or an agency thereof *
                       * *

     The term "employee" is not defined in the Code; therefore,

common law rules must be applied to determine whether an individual

is an employee.    Nationwide Mut. Ins. Co. v. Darden, 503 U.S. 318,

322 (1992); Matthews v. Commissioner, 92 T.C. at 351, 360 (1989),

affd. 907 F.2d 1173 (D.C. Cir. 1990); Simpson v. Commissioner, 64

T.C. 974, 984 (1975).        Whether an employer-employee relationship7


     7
          Sec. 31.3401(c)-1(b), Employment Tax Regs., defines an
                                                   (continued...)
                                   -10-

exists is a question of fact.       Air Terminal Cab, Inc. v. United

States, 478 F.2d 575, 578 (8th Cir. 1973); Professional & Executive

Leasing, Inc. v. Commissioner, 89 T.C. 225, 232 (1987), affd. 862

F.2d 751 (9th Cir. 1988).     If an employer-employee relationship

exists,   its   characterization    by    the   parties   as   some   other

relationship, such as independent contractor, is of no consequence.

Sec. 31.3121(d)-1(a)(3), Employment Tax Regs.



     7
      (...continued)
employer-employee relationship as follows:

           (b) Generally the relationship of employer
           and employee exists when the person for whom
           services are performed has the right to
           control and direct the individual who
           performs the services, not only as to the
           result to be accomplished by the work but
           also as to the details and means by which
           that result is accomplished. That is, an
           employee is subject to the will and control
           of the employer not only as to what shall be
           done but how it shall be done. In this
           connection, it is not necessary that the
           employer actually direct or control the
           manner in which the services are performed;
           it is sufficient if he [or she] has the right
           to do so. The right to discharge is also an
           important factor indicating that the person
           possessing that right is an employer. Other
           factors characteristic of an employer, but
           not necessarily present in every case, are
           the furnishing of tools and the furnishing of
           a place to work to the individual who
           performs the services. In general, if an
           individual is subject to the control or
           direction of another merely as to the result
           to be accomplished by the work and not as to
           the means and methods for accomplishing the
           result, he [or she] is not an employee.
                                   -11-

     This   Court     has   enumerated    the   following   factors8   in

determining whether an employee-employer relationship exists: (1)

The degree of control exercised by the principal over the details

of the work; (2) which party invests in the facilities used in the

work; (3) the opportunity of the individual for profit or loss; (4)

whether the principal has the right to discharge the individual;

(5) whether the work is part of the principal's regular business;

(6) the permanency of the relationship; and (7) the relationship

the parties believe they are creating.      Weber v. Commissioner, 103

T.C. 378, 387 (1994), affd. per curiam 60 F.3d 1104 (4th Cir.

1995); Professional & Executive Leasing, Inc. v. Commissioner, 89

T.C. at 232; Simpson v. Commissioner, supra at 984-985; see also

United States v. Silk, 331 U.S. 704, 716 (1947).        No single factor

is dispositive.     Simpson v. Commissioner, supra at 985.    All of the

facts and circumstances must be studied.        Professional & Executive

Leasing, Inc. v. Commissioner, supra at 232.

     While all of the above factors are important, the "right-to-

control" is the "master test" in determining the nature of a

working relationship.       Matthews v. Commissioner, 92 T.C. at 361.

Both the control exercised by the alleged employer and the degree

to which the alleged employer may intervene to impose control must


     8
          The parties cite Rev. Rul. 87-41, 1987-1 C.B. 296,
which lists 20 factors to consider in determining whether a
common law employer-employee relationship exists. Many of these
factors are incorporated into this Court's seven factors.
                                          -12-

be examined.      Radio City Music Hall Corp. v. United States, 135

F.2d 715, 717 (2d Cir. 1943); deTorres v. Commissioner, T.C. Memo.

1993-161.   "[N]o actual control need be exercised, as long as the

employer has the right to control."                  Professional & Executive

Leasing, Inc. v. Commissioner, 862 F.2d at 753.                     In order for an

employer to retain the requisite control over the details of an

employee's work, the employer need not direct each step taken by

the   employee.         Professional       &     Executive      Leasing,         Inc.    v.

Commissioner, 89 T.C. at 234; Gierek v. Commissioner, T.C. Memo.

1993-642.      The     exact     amount   of     control   required         to    find    an

employer-employee relationship varies with different occupations.

United States v. W. M. Webb, Inc., 397 U.S. 179, 192-193 (1970).

In fact, the threshold level of control necessary to find employee

status is in most circumstances lower when applied to professional

services than when applied to nonprofessional services.                           Azad v.

United States, 388 F.2d 74, 77 (8th Cir. 1968); Professional and

Executive Leasing, Inc. v. Commissioner, supra at 234.                           "From the

very nature of the services rendered by * * * professionals, it

would be wholly unrealistic to suggest that an employer should

undertake   the      task   of    controlling       the    manner      in    which       the

professional conducts his activities."                    Azad v. United States,

supra;   Weber    v.    Commissioner,       103    T.C.    at   388.        An     alleged

employer's control "must necessarily be more tenuous and general
                                         -13-

than       the   control    over   nonprofessional    employees".         James   v.

Commissioner, 25 T.C. 1296, 1301 (1956).

       We begin our analysis of the seven factors enumerated above

with       the    control     factor.      The     record    contains     numerous

illustrations of FBO's right to control petitioner and its actual

control over him.           Petitioner's contract with FBO during the year

under      consideration      stated    that    petitioner   "will   be   directly

responsible to FBO in the performance of his duties under this

contract."        While petitioner was permitted to hire and fire his

staff, and order substitutions of materials, FBO did not permit him

to deviate from the construction documents or exceed the budget.

Further, he was required to follow a Project Director's Handbook.

       FBO also controlled petitioner by dictating his hours, pay,

and leave.        FBO required petitioner to work full time, a minimum of

40 hours a week.            Petitioner's biweekly FBO salary was based on

the Foreign Service Schedule.              In addition to his salary, FBO

permitted petitioner to earn and accrue home leave, annual leave,

and sick leave.9

       Petitioner also was required to maintain a daily log of the

progress of the construction project, and submit both oral and

written reports to FBO.            These monthly reports were not optional;


       9
          While petitioner had to pay for his own health
insurance and did not accrue retirement benefits, we do not
believe such facts preclude a holding that petitioner was an FBO
employee.
                                    -14-

if petitioner failed to submit such reports, FBO had the right to

terminate his contract.

     We are satisfied that petitioner was subject to substantial

control   by    FBO.    Although    petitioner       worked    for    FBO   in   a

professional capacity, which would limit the amount of control FBO

had over petitioner's day-to-day activities,10 FBO dictated the

contract documents and drawings, budget, hours, and monthly reports

with which      petitioner   was   required   to    comply.      We   therefore

conclude that FBO had the right to exercise control over petitioner

and in fact exerted a substantial amount of control over him.                 See

James v. Commissioner, supra.

     We now turn to the other factors.            With respect to the second

factor, petitioner had no investment in the work facilities;

rather,   FBO    provided    petitioner    with    office     space   and   staff

assistance.     See Professional & Executive Leasing v. Commissioner,

89 T.C. at 234. FBO entered into contracts with petitioner's staff

and paid their salaries.

     As to the third factor, petitioner had no opportunity for

profit or loss.     The pay he received depended only upon the number




     10
          Petitioner argues that he was not an employee because
he scheduled his own daily activities. We believe that
petitioner's ability to schedule his activities only demonstrates
that in connection with professionals less supervision is
necessary. See Azad v. United States, 388 F.2d 74, 77 (8th Cir.
1968).
                                   -15-

of days he worked.          The amount FBO paid petitioner was not

dependent upon completion of the project.

      As to the fourth factor, while FBO had the right to discharge

petitioner without cause with a 30-day notice, petitioner also

could terminate the contract.

      As to the fifth factor, FBO was in charge of constructing U.S.

Government buildings overseas.        Petitioner's assignment in Bogota

during the year under consideration was to oversee the construction

of an annex to the U.S. Embassy.           This type of work was clearly

within the scope of FBO's regular business.

      As to the sixth factor, we believe that the relationship

between petitioner and FBO was intended to be somewhat permanent as

opposed to transitory. Petitioner had been working solely for FBO

since 1983.     He was required to personally perform the services of

project director designated in his contract with FBO.          He did not

offer his services to the public and did not perform services for

any individual or entity other than FBO, as would an independent

contractor.      See Jacobs v. Commissioner, T.C. Memo. 1993-570;

Casety   v.   Commissioner,    T.C.   Memo.   1993-410;   Gamal-Eldin   v.

Commissioner, T.C. Memo. 1988-150, affd. without published opinion

876 F.2d 896 (9th Cir. 1989).

      Finally, as to the seventh factor, the type of relationship

the   parties    intended    to   create    when   they   signed   various

modifications to petitioner's contract is not clear.          However, in
                                  -16-

December 1989, FBO provided petitioner with a Form W-2 and withheld

Social Security    tax   from   petitioner's   income.     This,   in   our

opinion, indicates that FBO intended to create an employer-employee

relationship. See, e.g., Juliard v. Commissioner, T.C. Memo. 1991-

230.    Further, FBO Policy and Procedures Directives in effect

during the year under consideration provided that a personal

services contractor is not eligible for the foreign earned income

exclusion, and that overseas PSC's treat the contractor as an FBO

government employee for all purposes except retirement.                 And,

petitioner was advised by the December 12, 1989, FBO memorandum

that he should designate himself as an FBO employee on his 1989

return.

       After considering all the facts and circumstances present in

this case, we conclude that petitioner was an FBO employee in 1989.

Therefore, petitioners are not entitled to the foreign earned

income exclusion under section 911(a) for such year.

       To reflect the foregoing and respondent's concession,


                                               Decision will be entered

                                         under Rule 155.
