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Income Taxation
Elon University School of Law
Haile, Andrew J.

Income Tax

– Professor Andy Haile –

Spring 2012


A. Sources of Tax Law

i. Internal Revenue Code

ii. Treasury Regulations

a. Most authoritative statement of IRS & Treasury

b. Some are legislative regulations issued pursuant to specific statutory (courts give greater weight to these unless irrational)

c. Treas. Reg. § 1 [code section] – [reg. number]

iii. Revenue Rulings

a. Deal with substantive matters

b. Official interpretations of the Code by the IRS

c. May be relied on & cited by taxpayers

iv. Revenue Procedures

a. Official statements of procedures that affect the rights or duties of taxpayers under the Code or regulations

b. May be relied on & cited by taxpayers

v. Private Letter Rulings

a. Written responses issued by IRS to taxpayers interpreting and applying tax laws to the specific scenarios described by the taxpayer

b. Advance ruling by IRS

c. Allows a taxpayer to establish with certainty the federal tax consequences of a particular transaction before the transaction is consummated

d. PLR’s may be relied on only by the taxpayer receiving the ruling (though practitioners frequently use them both to analyze how a similar transaction will be treated and to argue for how a similar transaction should be treated)

vi. Technical Advice Memoranda

vii. Internal Revenue Manual

viii. Field Service Advice Memo

B. Courts

i. US Tax Court

a. Established in 1924 by Congress under Article 1 of the Constitution

b. Allows taxpayers to litigate tax disputes with the IRS without having to pay the disputed amount in advance

c. The Tax Court is based in Washington, D.C., but the judges travel around the country to hear cases (NC in Winston Salem in February & April)

d. Cases are heard before a single judge, with no jury

1. Judges are generally seen as government friendly

e. Appeals from the Tax Court are to the United States Court of Appeals for the circuit in which the taxpayer resides (4th Circuit for NC residents)

ii. US District Court

a. Taxpayers can instead elect to pay any deficiency to the IRS and then sue for a refund in the U.S. District Court in the district where the taxpayer resides

b. Advantage to this is that the taxpayer can have a jury trial

1. Judges are generally seen to be NOT IRS friendly

c. Appeals are to the U.S. Court of Appeals for the circuit in which the District Court is located

iii. US Court of Federal Claims

a. This court’s jurisdiction is limited to refund cases, so the taxpayer must first pay any deficiency (28 U.S.C. § 1491)

b. No jury, only bench trials

c. Sixteen judges appointed by the President for 15-year terms

d. Follows the precedent of the Federal Circuit, rather than the circuit of the taxpayer’s residence

C. General

i. 2 Ingredients

a. Base x Rate = Tax

ii. Filing Categories

a. Married Filing Jointly (marital status determined as of last day of the year under § 7703(a))

b. Head of Household (unmarried; maintains house for qualifying child or other dependent)

c. Unmarried Individual

d. Married Filing Separately (typically used in divorce/separation situations

iii. Marriage bonus & Marriage penalty (see SAQ 1-1) but marriage penalty eliminated if you are in 10% or 15% bracket

iv. Marginal Tax Rate – the rate of tax applicable to the taxpayer’s last dollar of taxable income

v. Effective Tax Rate (average tax rate) – a taxpayer’s tax liability as a percentage of taxable income

vi. Progressivity

a. Donaldson’s Argument FOR

1. Declining marginal utility of money

2. Wealthier individuals receive more benefits from the tax dollars they pay (more to lose)

3. Wealth redistribution

b. Donaldson’s Arguments AGAINST

1. Makes the tax system more complex (phase outs)

2. Distorts taxpayer decisions (TP may decide to work less as the marginal tax rate increases)

3. Inequities between similarly situated taxpayers (TP1 pays tax on $50,000 in each of year 1 and 2; TP2 pays tax on $100,000 in year 1, $0 in year 2)

vii. Credits v. deductions

a. Credits reduce tax liability dollar for dollar

b. Deduction

paper gain and not a real gain until you cash it out

ii.) Difficult to value

iii.) No cash to pay taxes b/c if it went up where would the $ come from?

ii. Realization

a. Eisner v. Macomber, p. 46

1. Facts: Macomber received a 50% stock dividend so he had 2,200 shares of Standard Oil and now has 3300 shares

2. Issue: Does Macomber have to report this stock dividend as income?

3. Holding: No

4. RULE/Rationale:

i.) See highlight on p. 46 – income may be defined…

ii.) It doesn’t alter the pre-existing proportionate interest of any stockholder or increase the intrinsic value of his holding or of the aggregate holdings of the other stockholders as they stood before

iii.) Macomber had no realized gain (economic gain), therefore she doesn’t owe taxes on the $


v.) Macomber “received nothing out of the company’s assets for her separate use & benefit”

vi.) Dissent

a) Holmes – plain language of 1916 Act expressly included stock dividends

b) Brandeis – substance over form – same as cash dividend & reinvestment

iii. Included in Gross Income

a. Punitive damages

1. Commissioner v. Glenshaw Glass Co., p. 49

i.) Facts: 2 consolidated cases where Defendants received punitive damages as a result of settlement of anti trust disputes

ii.) Holding: Taxpayer lost

iii.) RULE/

a) Definition of gross income – “undeniable accessions to wealth, clearly realized, and over which the taxpayers have complete dominion” (see highlight p. 51)

1) Test:

i. Accession to wealth

ii. Clearly realized

iii. Complete dominion