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Federal Income Tax
Widener Law Commonwealth
Hussey, Michael J.

FEDERAL INCOME TAX
COURSE OUTLINE
 
 
 
I.                   Introduction
a.       Miscellaneous terms
                                                  i.      Taxable income = GI – deductions and exclusions.
                                                ii.      Marginal rate = rate at which last $ of income taxed.
                                              iii.      Effective rate = average rate = amount paid in tax / taxable income.
b.      Note that IRC allows IRS to adjust key #’s for inflation – provides formula.
c.       Value of deduction depends on which marginal bracket I’m in – the higher the marginal bracket, the more the deduction is worth to me. 
                                                  i.      Value of deduction = marginal tax rate * deduction.
                                                ii.      Example = if marginal rate is 28%, government is giving you 28% of the value of cost (i.e., mortgage interest).
d.      Rate structures
                                                  i.      Progressive – as income goes up, % of tax goes up as well.
                                                ii.      Proportional – rate is constant for all amounts subject to tax. 
1.      Example – sales taxes
                                              iii.      Regressive – rate decreases as amount subject to tax increases. Note that sales taxes are sometimes referred to as regressive taxes, even though they are flat. With regard to sales, states have exceptions to deal with the regressive aspects of this tax.
e.       Above the line deductions – get to AGI; deductions allowed to all taxpayers whether or not they itemize. Below the line deductions – can only be taken if the taxpayer itemizes. AGI is the dividing line between above the line and below the line deductions – §63(e).
f.       Deductions – itemized vs. standardized. If itemized deduction > standard, take itemized deduction.
g.      Credit – reduces your tax $ for $. Refundable credit – most credits are refundable – you get $ back after you have zeroed out the tax [vs. non-refundable credit where you don’t get $ back]. 
 
II.                Gross Income
a.       Eisner (25) – focused on labor and capital – became deficient – can be hard to wedge things into labor and K gains. Broader definition required.
b.      Glenshaw Glass (33) – do you have more wealth than you did before and do you have complete dominion over the wealth? 
                                                  i.      Example – pick up $5 off floor – have more wealth and have dominion over the wealth = have GI.
                                                ii.      Rule – GI includes “gains or profits and income derived from any source whatsoever” (sweeping nature). Note – intention of Congress to tax all gains except those specifically excepted. Here, even damages awarded under anti-trust claim = GI.
c.       Note – stock option is not GI – appreciation alone is not GI. Instead, have to have a realization event and decide whether you have to recognize that event [note difference between realization and recognition].
d.      Impute income – not taxable. Examples:
                                                  i.      Value of services received from doing own work = self-help.
                                                ii.      Value of not having to rent property from someone else; i.e., value of the rental stream you derive from owning your home.
e.       Bartering – use your services as currency; exchange of services. This is GI; what do you have to include as income? FMV of services received.
                                                  i.      Gets complicated – when you look at whether it was a gift or not – is it really an exchange of services or just a friendly gesture.
f.       Cesarini (35)
                                                  i.      Facts
1.      1957 – buy piano
2.      1964 – discovers $ (1964 return due 4/65).
                                                ii.      Issues
1.      Was $ GI?
a.       Yes, GI. See 1.61-14 – P’s can’t show inconsistency between IRC, interpretation by regulations and courts and revenue ruling.
b.      IRC 61(a) – GI means all income from whatever source derived…
c.       1.61-14 – treasure trove, to the extent of its value in US currency, constitutes GI for the taxable year in which it was reduced to undisputed possession.
2.      Did SOL block IRS?
a.       There are 2 potential taxable years – 1957 or 1964. Look to state law re: possession.
b.      SOL is 3 years. Example – 2007 – April 17 return due. SOL closes in 2010.
c.       Under Ohio law, reduced to possession upon them finding $ in 1964.
d.      SOL did not run.
g.      Old Colony (38)
                                                  i.      Court – can’t have a third party pay taxes and avoid a return. The payment of taxes was a gain and the form of the gain does not matter. Payment of taxes is not a gift – it is compensation for services rendered.
1.      Note – it is highly unlikely to find a gift in the context of employer – employee relationship.
2.      “Tax upon tax” absurdity – not addressed here.
h.      Revenue Ruling 79-24 (41):
                                                  i.      1.61-2(d)(1) = if services are paid for other than in money, FMV of the property or services taken in payment must be included in income [FMV at the time of the exchange taken in payment].
i.        McCann (42) – LV trip – all expenses seminar to LV – reward for increase in net sales. About 10% of the company qualified to go to LV. Trip included parties and dinner; few business activities. Note – not many people invited; this is not really about training or business – more about having fun.
                                                  i.      Compensation – non-cash compensation is still GI. This is GI – really a bonus. Valuation of the trip = cost of the trip to company / # of people that went [conceded by IRS]. Holding – trip = reward, which was clearly compensation and taxable income. Court – where an employer pays an employee’s expenses on a trip that is a reward for services rendered by the employee, the

(those with suspect credit). IPL paid 3% interests on deposits held 6+ months. Later rule changes raised interest and residential customers selected on basis of fixed formula. IPL did not treat the deposits as income but rather as current liabilities. IPL – no complete dominion – express obligation to repay either when service is cut off or good credit established.
1.      Issue – are deposits GI? Depends on whether deposit (69) is:
a.       Advance payment – service and rent – GI when received. “Individual who makes an advance payment retains no rights to insist upon the return of the funds – so long as the recipient fulfills the terms of the bargain, the $ is his to keep.”
b.      ** Deposit to secure performance – ** not taxable. “Customer who submits a deposit…retains the right to insist upon repayment in cash.” Utility has no unfettered dominion or control over the funds.
2.      Court – whether the payments constitute income when received, however, depends upon the parties’ rights and obligations when the payments are made.
3.      IPL provides option to depositors – refund or apply to next month’s bill. IRS argues that deposits are advance payments. Court – looks at IPL’s obligations at the time deposits are made. Here, triggering of repayment is within the customer’s control (67) – IPL lacked sufficient control or dominion over the property for deposits to be GI. Did it matter that IPL paid interest? Not necessary to pay interest on deposits. 
4.      Note – if there is a provision for the payment to be applied to last month’s rent, this makes a deposit an advance payment.
d.      Problems (53):
                                                  i.      Problem 1 – loan or advance payment of royalties – can be 61(a)(6) [royalties] or (12) [income from discharge of indebtedness]. In Year 1, have advance payment of royalties; year 2 – claim of right doctrine if you have to pay it back.
                                                ii.      Problem 4 – basically IPL – not advance payment; not GI; doesn’t require security deposit to be applied to last month’s rent. 
 
IV.             Gains Derived From Dealings in Property
a.       See 61(a)(3) – income includes gains derived from dealings in property.
Note – can’t depreciate real estate (land). But, can depreciate buildings and fixtures.
** See 1001(a) – gain from the sale or other disposition of property shall be the excess of the amount realized therefrom over the adjusted basis