1) Overview
a) §61. Gross Income includes “all income from whatever source derived” except as otherwise provided by statute
i) Exclusions. exceptions to the reach of §61
(1) Don’t enter into the computation of tax
ii) Deductions
(1) business expenses – wages paid, depreciation, etc.
(2) Charitable contributions
(3) Note: Exclusions and deductions have the same effect on taxes
(4) Above the line
(a) no standard deduction
(b) examples: student loan, moving expenses
(5) Below the line
(a) examples: mortgage interest, charitable deductions, medical expense, loss deduction
(b) fixed amount (standard) or itemized
(c) phase-outs as income goes up
iii) Long-term capital gains
(1) subtract basis (cost) from amount realized when sold
(a) if a gain is recognized, it is included in income
(2) Capital assets. Gains are taxed at a lower rate than other income
(a) due to the advantageous rate, definition of a capital asset is important
b) Taxable income
i) Look at the rate schedule to determine tax liability (taxes due), and reduce by statutory credits.
ii) Progressive structure of the rate schedule
(1) there is a marginal rate to each bracket of income
(2) the effective tax rate is lower than the marginal
iii) there is a personal exemption
iv) §1(f). Indexation – the rate schedule is adjusted each year to reflect changes in the consumer price index
c) Methods of Accounting
i) Cash Method
ii) Accrual Method
d) Importance of Timing
i) Taxpayers always prefer to defer tax liability
ii) IRS wants the taxes now
iii) Present value of money
2) Income
a) Defining Gross Income
i) Definition of income should reflect what we want to tax
ii) Gross income: all income from whatever source derived (§61(a))
(1) lists 15 classes of income including
(a) common sources – salary, profits, interest, divendends, rents
(b) uncommon sources – alimony, annuities, income from discharge of indebtedness, income from decedent
(c) a catch-all provision
iii) Historically, the US income tax has been moving towards a broader definition
iv) Eisner v. Macomber (narrow) – income is the gain derived from capital, from labor, or from both combined
(1) Criticisms
(a) unfair – people with similar ability to pay are not taxed similarly
(b) inefficient – some kinds of gain-producing activities are favored
v) Commissioner v. Glenshaw Glass (broader)– taxpayers received treble damage awards under antitrust laws. The taxpayer argues that only the 1/3 portion for lost profits could be treated as capital or labor.
(1) Held: Taxable in its entirety
(2) Congress applied no limitations as to the source of taxable income. All accessions wealth/gain is taxable.
vi) Haig-Simmons Definition of personal income
(1) market value of rights exercised in consumption
(2) change in the value of the store of property rights during the period
(3) would not use the system to reward or penalize certain activities
(4) Criticism
(a) practical problems of implementation
vii)Questions raised by the definition of income:
(1) What constitutes gain?
(2) When is it clearly realized?
(3) Source. Congress makes the source relevant because it passes exclusions.
(a) used to effectuate non-tax policy
(b) raises issue of definition for exclusions (for example, what constitutes a gift?)
b) In-Kind/Non-cash benefits
i) IRC makes no distinction between cash and noncash transactions — it includes all income from whatever source derived.
(1) The code makes specific concessions
(2) Difficulties
(a) problems of administrative feasibility – the code makes concession for non-cash benefits
(b) valuation probl
ent
(b) political acceptance
(c) valuation
(3) §132 exclusions.
(a) non-additional cost services*
(b) qualified employee discounts*
(c) working condition fringes
(d) de minims fringes – sufficiently low value to make accounting for them “unreasonable or administratively impractical”
(e) qualified transportation fringes
(f) qualified moving expense reimbursements
(g) qualified retirement planning services
(h) on-premise gyms and other athletic facilities
*can be provided tax free to spouse, surviving spouse, or dependent children
(4) Other exclusions
(a) frequent flier miles, excludable, because of valuation problem.
(b) items not from the employer.
(i) Haverly v. US – held that books received by book reviewer for a newspaper would be taxable only if the taxpayer donated them to charity
(c) Employer paid health benefits (under §106)
(i) employer can deduct the cost of medical insurance
(ii) benefits received by employees are excluded from their gross income
v) Economic effects: the taxation/non-taxation of fringe benefits can distort decision making
(1) Whether to offer the benefit. Parking example. Free parking costs $50. The parking is worth $40. The employer will pay $50/month or pay for parking
(a) In a world where there are no taxes, the employer would not offer parking
(b) Where the fringe benefit is excluded from taxation, the government is “paying” for part of the benefit.
(2) Net effective of the exclusion
