Introduction to Federal Taxation Outline

I TAX OUTLINE
Introduction:
I.                    Sources of Tax Law: (page 1095-1100)
a.       Constitution
                                                               i.      Power of tax comes from Article I, Section 8, clause 1 of the Constitution
                                                              ii.      The 16th amendment grants Congress the ability to tax income.
b.       Legislative authority
                                                               i.      Statutory
1.       Title 26 of the US Code = Internal Revenue Code
a.       Subtitle A = income taxes and surtaxes
b.       This is what our course covers
                                                              ii.      Legislative history
c.        Administrative authority
                                                               i.      Treasury regulations; these flesh out the skeletal structure of the IRC
1.       promulgated by the dept. of treasury, of which the IRS is only a part
2.       §7805(a) gives the Secretary of Treasury general authority to prescribe all necessary rules and regulations for enforcement of the Code.
3.       after comment time has expired, the treasury publishes regulations as a Treasury Decision (T.D.)
4.       Regulations come out generally faster than Congress can make a new law
                                                              ii.      Rulings
1.       revenue rulings: rulings determined by the IRS to be of general interest
a.       usually the result of a taxpayer’s request for advice
b.       don’t have the force of regulation, but may be cited as precedent
2.       letter rulings: responses to a particular taxpayer’s request for advice on the tax consequences (from the service’s standpoint) of a specific transaction.
a.       The IRS does not consider itself bound by these rulings
                                                            iii.      Revenue procedures: statements of the Service regarding its internal management operations.
                                                            iv.      Other
1.       GCM, AOD, form instructions, IRS publication, Notices, Announcements, news releases, etc. See 88 Tax Notes 305 (2000) for full inventory of IRS Guidance Documents
d.       Judicial authority
                                                               i.      There are 3 courts that have original jurisdiction on federal tax issues
1.       Tax court: the only way to get to the tax court is by asserting suit for redetermination of a deficiency without first paying the asserted deficiency.
a.       two kinds of decisions
                                                                                                                                       i.      regular decisions: generally involve important issues in tax which may not have previously been resolved.
                                                                                                                                      ii.      Memorandum decisions: involve application of settled points of the tax law to particular facts. Not officially published.
b.       When the tax court rules against the Commissioner, Commissioner will issue a notice of acquiescence or of non-acquiescence with the decision. They do this ONLY for tax court regular decisions.
c.        Appeals from here go to the Federal Courts of Appeals for the US.
                                                                                                                                       i.      Abides by the Golsen rule; the tax court will uphold the rule created by the appeal court as long as it is squarely on point.
2.       Federal district court: commences only after the deficiency has been paid.
3.       Federal claims court: commences only after the deficiency has been paid.
a.       Has jurisdiction over all tax suits against the US.
                                                              ii.      The IRS is national in nature. Just because it loses in one court does not mean that it will give up its case in other circuits.
II.                  Big Picture Basics
a.       tax=tax rate*tax base
                                                               i.      base is whatever the government chooses to tax
1.       there is an income tax base, estate tax base, etc
                                                              ii.      tax base here – taxable income
1.       §1 – “There is hereby imposed on the taxable income…[of the taxpayer] … a tax determined in accordance with the following table
b.       4 kinds of taxpayers only
                                                               i.      individuals, estates, trusts, corporations – we look at individuals only
c.        what is taxable income – how do we figure it
                                                               i.      taxable income = gross income – deductions
1.       §63 – look at down the line
III.               Look over provisions §§ 1; 11; 62; 63; 7805(a); and 7806.
 
 
Gross Income/Exclusions:
Chapter 2: What constitutes gross income?
I.                    Defining gross income:
a.       §61: “except as otherwise provided in this subtitle, gross income means all income from whatever source derived, including (but not limited to) the following items…” (followed by a list of 15 items)
                                                               i.      61B: clarifications of what is and is not included in “gross income”
                                                              ii.      What if an item is NOT addressed by the code?
1.       Should be evaluated in terms of items that are addressed by the code, and court cases which assess the meaning of income.
b.       Eisner v. Macomber:  NO LONGER GOOD LAW. Case of split stock dividends, which the IRS wanted to tax the split/increase in numbers.
                                                               i.      The Supreme Court overruled the IRS, saying that as the definition of gross income includes “gain derived from capital”, in this case Macomber owned nothing more than he started with.
c.        Glenshaw Glass: G had received punative damages in a case, which would not have been income under Eisner.
                                                               i.      So the new definition of “gross income”: “undeniable accessions to wealth, clearly realized, and over which the taxpayers have complete dominion”
1.       Steps to answering “what is income”
a.       1 – undeniable
b.       2 – accession to wealth
c.        3 – clearly realized
d.       4 – over which taxpayer has complete dominion
                                                                                                                                       i.      Would Eisner have come out differently under this rule? – no
1.       No accession to wealth, no realization
d.       Cesarini v. US: prizes and awards constitute gross income. “income from all sources is taxed unless the taxpayer can point to an express exemption.”
                                                               i.      To search for exemptions, would have to look through statutes, then revenue rulings or other pronunciations of the IRS, then adminsitration.
e.        Old Colony Trust v. Commissioner: if someone pays your income tax for you, that counts as income for you. So for example, my employer offers to pay the $20K income taxes on my $100K salary. That $20K being paid for me constitutes additional income, of which I must pay tax on.
f.        McCann v. US: both went on an all-expenses paid seminar to Vegas. The fair market value of the trip should have been included in their income.
g.        Roco v.commissioner: rewards are generally included in gross income. 1.61-2a.
II.                  Income realized in any form:
a.       If services are paid for in property, the Fair Market Value of the property is the measure of compensation. Same with services. Reg. § 1.61 – 2d1 (see revenue ruling 79-24)
                                                               i.      Fair Market Value: the price a willing buyer would pay a willing seller, with neither under a compulsion to buy or sell, and both having reasonable knowledge of relevant facts.
III.               Realization: gains must be realized to be taxed. This means “income” that comes from an increased value of stock is not taxed until the stock is sold and that “income” is actually “realized”.
a.       Eisner v. Macomber: there was no realization.
b.       It’s helpful to think of a “Realization tax” as the opposite of mere “appreciation tax”.
c.        Two reasons for waiting for realization to tax:
                                                               i.      To measure appreciation and depreciation in all of the property for every taxpayer every year would present enormous administrative problems
                                                              ii.      It may be unfair to treat unrealized gains as income because taxpayers might well lack the cash to pay resulting taxes and might thus be forced to sell assets – perhaps at artificially low prices given the need for cash – to pay the tax.
IV.                Imputed income: this is not taxed, even though there is no IRC provision that says so
a.       Two general categories of imputed income:
                                                               i.      Imputed income from property: example:
1.       Leila and I both have $250K. Leila buys a house with it, which she then rents out for $25K a year. I invest mine, and make $25K a year off of it. My return is taxed, but Leila’s isn’t.
                                                              ii.      Imputed income from services:
1.       it cost $30 to mow my lawn; $6 tax and $24 to mow. I do it myself and pay nothing and am not taxed on it.
V.                  Bargain purchases:
a.       Pellar v. Commission: bargain purchases generally do not constitute gross income.
                                                               i.      Pellar receives a house worth much more than what he paid. Does he have to include the difference as income? NO.
                                                              ii.      Why not?
1.       this was an arm’s length transaction
2.       mullane disagrees with this though. IRS should have gone after father, it should have been income to the father which was then given as a gift to his daughter.
                                                            iii.      “purchase of property for less than its value does not, of itself, give rise to the realization of taxable income.
b.       Bargain purchases in an employment context: count as income, as they are not an arm’s length transaction.
                                                               i.      Reg. § 1.61-2d2i: if property is transferred as compensation for services in an amount less than its fair market value, the difference between the amount paid and the fair market value is gross income.
VI.                See Problems for chapter 2
 
 
Chapter 3: The Effect of an Obligation to Repay: This is a continuation of the question “is it income?”
I.                    Loans:
a.       A loan does not represent an “ascension to wealth” or increase the taxpayer’s net worth because the loan proceeds are accompanied by an equal and offsetting liability: the borrower has an obligation to repay the loan, and it is this repayment obligation that negates treatment of a loan as income.
                                                               i.      As a corollary; repayment of a loan does not reduce gross income. Nor is it a deductible expense. Also, the lender may not deduct it when the loan is made, as repayment is merely a recovery of capital for him.
b.       So the question becomes; “is it a loan (not income) or something else (income)?” These are the factors to consider when determining:
                                                               i.      Karns v. Fancy Food: defines a loan:
1.       at the time the funds are transferred there must be an unconditional obligation on the part of the transferee to repay, and
2.       an unconditional intention on the part of the transferor to secure repayment of such funds.
3.       Other objective characteristics considered in determining a loan:
a.       Presence or absence of a debt instrument
b.       Interest accruing on the purported loan
c.        Repayments of the transferred funds
d.       Any attributes indicative of an enforceable obligation on the part of the transferee to repay the funds transferred.
                                                              ii.      Timing; two methods of determining income based on the taxpayers method of accounting:
1.       Cash method: amount must be included as income when the taxpayer actually receives it or constructively receives it
a.       Actual: you have the money
b.       Constructive: when available to you without substantial restriction
                                                                                                                                       i.      Example; someone tries to pay you on Dec 30, you say wait until Jan 1st. You have constructive receipt and must include it as income for Dec. 30th year.
c.        Other: receive benefit of or ????
2.       Accrual Method: it is income at the moment it is earned – which can be before it is paid.
a.       This is when all events have occurred which fix the taxpayers right to receive an amount and when the amount can be determined with reasonable accuracy.
b.       Finish work on December 30th – don’t call client or send a bill – at that point he has earned the right to be paid, even though he has not taken steps to get the money.
II.                  Claim of Right: What is the proper tax treatment of money (or other property) received subject to a contingent repayment obligation?
a.       The doctrine: even though the taxpayer is unsure if he is entitled to retain the money, he must report it on his tax return.
                                                               i.      Under §1341, the taxpayer is then entitled to a deduction if the money is subsequently refunded.
b.       What is a claim of right:
                                                               i.      Example: I find a wallet with $1k in it. There is a state law saying that if the rightful owner comes back to get the money within 2 years, I have to give it back. Income? Yes, but I can deduct if/when I am required to give it back.
c.        North American Oil v. Burnet: There is an issue over ownership of land. During the conflict, the property is in a receivership and the receiver gets the money. Court finds for NAO and tells receiver to pay them the money. This all occurred over a couple of years, and the question became what year should NAO include it in their return?
                                                               i.      The year it would have originally been owned: (1916) no because they didn’t have an actual or constructive receipt of the money. 
                                                              ii.      the year the court decided it should be returned/litigation terminated: if the government had won instead, NAO would be entitled to a deduction in this year for the amount.  
                                                            iii.      or the year it actually was returned (1917):