I. THE UNITED STATES INCOME TAX SYSTEM
a. Constitutional Grant of Power
i. 1787, Art. 1, § 8, clause 1
1. Congress has power to law and collect Taxes, Duties, Imports, and Excises, to pay the debts and provide for the common defense and general welfare of the U.S., but taxes shall be uniform throughout the U.S. (KS must pay same rate as Missouri)
ii. Art. 1, § 9, clause 4 (direct tax limitation)
1. No capitation (tax for just being alive), or other direct tax shall be laid, unless in Proportion to the Census or Enumeration herein before directed to be taken
i. 1880-SC says that the income tax is not a direct tax
ii. 1895-U.S. passes income tax
1. 5/4 split
2. Reversed Springer court: tax on income from real property is a direct tax
3. Very little taxing power at this time and an income tax was not feasible
1. Congress passes 16th Amendment
2. Congress has power to law and collect taxes on incomes, w/o apportionment among the several states
1. Supreme court holds congress has power
1. We are still in the third income tax to this day, which is embodied in the Internal Revenue Code of 1986 (“IRC”)
2. Congress can tax in any way and in any proportion that it wants
2) TAX PROCEDURE
a. Only 1% of returns are reviewed by humans. Auditors will look for strange things and ask for documentation.
b. Can go to Office of Appeal within the IRS to contest a decision. If you don’t get what you want here, then can pay tax and claim for refund or not pay and petition the Tax Court. After Office of Appeal makes a decision, you get a 90-day deficiency letter in which to contest. If you do nothing by then, the U.S. becomes Judgment Creditor.
c. If you want the money and go to the Tax court there is just a judge, and no jury
d. If pay tax, can make a claim for a refund. If the claim is disallowed, then can go to the District Court.
i. This allows for some forum-shopping
3) SOURCES OF TAX LAW
a. Order of Authorities Supp. 27
ii. IRC (1986)
iii. Administrative Authorities
1. Regulations (Reg. § 1.123-1(a)
a. Published rulings (Rev. Rul. 80-71, 1980-1 Cum. Bull. 106)
b. Private letter rulings
c. Acquiescence and nonacquiescences
i. IRS can warn that it will litigate the same issue in the future even though it lost, by issuing a nonacquiescence
4) PROGRESSIVE RATE STRUCTURE
a. Progressive effect is achieved through the “bracket” system in § 1(a)-(e)
b. The result of this system is that a taxpayer will have an “overall effective rate” and a “marginal rate”
i. The overall effective rate is the proportion of tax paid to the taxpayer’s total income
ii. Marginal rate is the percentage of any additional income that must be paid in taxes, or tax reduced by reducing the taxable income
c. ***Use chart on page ix for 2008 brackets
i. Example: Single person with 2008 taxable income of $97,100
ii. §1(c)-gives the tax rate for non-married individuals
iii. §1(i)(2)- These rates are substituted
iv. §1(f)- Each of the dollar amounts are adjusted each year by the increase in the Consumer Price Index
v. Round to the nearest dollar on these. The correct answer is $21,166
1. Overall effect rate = 22%
2. Marginal rate=28%
5) TYING IT ALL TOGETHER
a. Gross Income
i. Gross income is “all income from whatever source derived.” § 61(a)
1. Congress’s intent in wording it so broadly was to tax everything it could constitutionally. It says “unless otherwise provided” to indicate there will be lots of exceptions.
ii. Sections 61(a)(1)-(15) list specific items that may be taxed but is not exhaustive.
i. Notable Deductions
1. 162-Trade or Business Expenses
a. Limited to nonpersonal interest
4. 170-Charitable deduction
ii. When do we take them?
1. Trade or business deductions are taken pre-AGI. 62(a)
2. Other deductions are taken post-AGI
c. Adjusted Gross Income
i. It is the Gross income minus the 62(a) deductions. AGI is your honest economic income.
1. ***It is better to have adjustment pre-AGI as opposed to post-AGI
ii. The other deductions are social deductions and do not have anything to do with actual net income.
d. Itemized and Standard Deductions
i. An individual who does not “elect” to itemize, can use standard deduction. 63(b)
ii. The standard deduction is the SUM OF basic standard deduction, additional standard deduction, and in the case of any taxable year beginning in 2008, the real property tax deduction. 63(c)(1)(A)-(C)
1. Basic Standard deduction 63(c)(2):
a. (A)-200% of (C) ($10,900)for the taxable year in case of joint return or surviving spouse
b. (B)- $8,000 in case of a head of household
c. (C)- $5,450 in any other case
2. Additional Standard Deduction 63(c)(3):
a. Aged or blind can receive additional deduction amounts un
vi. **Others listed in statute
c. Imputed income
i. Imputed income is not taxed. This is due largely to administrative concerns.
1. Lawyer prepares a will for himself. He usually charges $700 for such a will. This is not gross income, but imputed income.
2. Woman buys home for $200,000. She lived in the home throughout the current year. Again, imputed income.
2) OBLIGATION TO REPAY
a. If a person has an obligation to repay, there is an offsetting liability, leaving no increased net worth. Neither party counts as income or deduction.
i. Example: Taxpayer takes out loan from bank and receives $100,000 in exchange for note promising to repay a year later. Neither the bank nor taxpayer treats as income or deduction.
ii. ***However, interest received by the bank would be income. The interest paid, however, would be personal interest and not deductible for the taxpayer.
b. If person wins lottery and receives money, and there is a dispute as to whether she is a true winner which is not resolved until later, the winnings are to be taxed as of the date of receipt, not when she is declared to be the true winner.
i. This principle is embodied in the North American Oil case. “if taxpayer receives earnings under a claim of right and without restriction as to its disposition, he has received income he is required to return even though it may still be claimed that he is not entitled to retain the money, and even though he may still be adjudged liable to restore its equivalent.” North American Oil Consolidated v. Burnet, p. 63
c. Theft – illegal income – James v. US, pg. 65
d. Remember phrase: “Income even if not cash, even if found, and even if stolen”
3) PROPERTY DISPOSITIONS-GENERAL PRINCIPLES
a. Gross income includes gains derived from dealings in property. 61(a)(3)
b. 1001(a)-Computation of gain or loss
i. Formula for disposal of property
ii. Amount realized – adjusted basis = gain or loss
c. How do you get a basis?