Advanced Individual Income Tax

Accounting 811: Fall, 1997

Week 3: Defining and Measuring Income

Outline (c) 1997 Robert H. Daniels 

1. Income concepts: Alternatives

"Economic income": Haig Simons defined (@ 1930's)

Clever identity: flows in - their costs equals
Sum of year's consumption plus net worth changes

Economists, adademic tax reformers love it

Unworkable for tax

Need to value assets at market annually
Consumption value of personal assets:
  eg. house rental value less depreciation
family sharing, gov't transfer payments

Accounting income

Realized periodic revenues minus systematically allocated costs

Can't handle related parties, and question of how to systematically allocate
how adapt to millions of non-accountants?

Taxable Income

Sec. 61 Code defines income by example: "includes w/o limitation"

Most topics in Sec. 61 are fairly clear
Q is how to handle things at the margin

Remember the underlying concept: Ability to Pay

2. Cases and regulations explaining "what is income"

Cesarini

Facts: Tp found old currency in a used piano bought at auction years before

Procedure: refund suit (?why? -- no penalty, or forum choice?)

Issue: is it Y. Holding: Yes.

Also Issue: when? Issue: Cap gain?

Reasoning: Sec. 61 broad, Rev Rul, Reg. Re treasure trove

Old Colony Trust Company

What were the essential facts in Old Colony Trust?

Procedural history: (omitted in case)
Old Colony Trust was Taxpayer Wood's executor

Issue: did employer payment constitute Y

Holding: Yes

Reasoning:

Payment was part of compensation to employee for services


Discharge by a 3rd person of a Tp obligation is equivalent to receipt and payment by Tp


Not a gift, because compensation for services

Tp argues that if this is Y, Er will pay more tax -- "tax on a tax" ad infinitem
Rather than dismiss the logical fallacy -- a variant of Zeno's "proof" that Achilles will never catch the turtle
Court says" handle when that comes up" -- wiggle room
But notes that an algebraic formula might be the answer
  i.e. solve for the gross income given the net after tax income

Glenshaw Glass

Facts: ?

Procedure: Tax court and 3rd circ upheld Tp's claim

Note reference to conflict in the circuits
Supreme court review is entirely discretionary

Issue: are these punitive damages income per the statue? Holding: yes

Reasoning:

No constitutional bar to taxing punitive damages
Congress intended to define Y as broadly as constitution
"gain from capital and labor"?: Y is broader, and includes windfalls
xx "accessions to wealth, clearly realized, over which Tp's have complete dominion"

Specific Congressional Response to Glenshaw glass: Sec. 186

essentially, the compensatory element is Y, but is deducted out to the extent that the damage done was not deducted

if harm created an operating loss carryforward, then the recovery offsets this portion of the NOL

3. Other Income without Labor or Capital

Prizes: Sec. 74: income except

Retransferred to charity

the "Sister Theresa" exception
problem of the 50% AGI limit

Employee achievement award, up to amt. employer can deduct:

Sec 274(j) cross reference:

$400 per E'ee per year if no "qualified plan"
$1600 max/ ee (still $400 average) if qualified plan:

• written
  

•  not discriminate in favor of highly compensated (another X reference, to 414(q))

Unemployment Compensation (Sec. 85)

note a practical withholding trap

Scholarships (Sec. 117)

Not income if "qualified" (defined term) and degree candidate

Cross reference Sec. 170(b)(1)(A)(ii) "educational org w/ regular faculty and enrolled body of students"

Qualified means: used for "qualified" tuition/related (fees, books, supplies etc. required for courses) in accord w/ conditions of the scholarship

Fringe benefit for school employees: tutition abatement

illegal income is taxable income

4. Gifts and Inheritances are not Income: Sec. 102

Sec. 101 applies parallel rule to life insurance

an inheritance substitute
If not a purchased policy on life of a 3rd person

What is a gift: case law: duberstein

Facts:?

Procedure: How dis the issue come up?

Issue: Gift w/in Sec. 102?

Held: It's for the trier of fact to decide

Reasoning: Trier of fact, mainsprings of human conduct
  Detached generosity, affection, love, charity, etc.

Employee gifts: Sec. 102(c): not apply 102(a) to E'r/Ee

May exclude some service awards under Sec. 74(c)
Exclude small stuff under 132(e)

For non-employees, deduction for the giver is limited under Sec. 274

5. What's an "inheritance"? Lyeth v. Hoey

Facts:

L's grandmother died. Will left $3mm fortune to Christian Science
L and other relatives contested will: "undue influence" and "lack of capacity"
Before trial, CS and relatives compromised. 1/2 to each
Because of liquidity problems, Heirs got stock in holding co

Procedural history:

 Lyeth paid Y tax of 56K on $142K share and sued for refund.
District court for L, Circuit for IRS. Circuit conflict
  Who else might be interested in result?

Issue: is the will contest settlement money taxable income?

Holding: No: it's exempt under Sec. 102

Reasoning

Note on legal language: Terms of descent

Mass law says that such a settlement is not an "inheritance" -- at least for state inheritance tax rules

Held: interpretation of Sec. 102 is Q of Federal law,

If Congress doesn't say otherwise, interpret national tax law for uniform interpretation

Use state law to guide only when congress expressly says so, or by necessary implication

Note: conclusion does not follow. CF "marriage": dep on state law, re existence of common law marriage

Congress intended to cover all acquisitions from decedents

L was a heir, and will contest was based on heirship
Had L won contest, $ would be exempt inheritance

look to the claim underlying the compromise

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