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Deciding tax matters (order)

a. IRC
i. The Law – Go no further if not ambiguous
b. Treas Regs ONLY if IRC is ambiguous
i. Called Treas Regs even though written by IRS
ii.Regs are good so long as they don’t go beyond what Congress
1. Essentially, they are good unless proven otherwise (rarely
II. Process creating Regs
a. Proposed Reg
i. Could take a long time or go though speedily
b. Permanent Reg
i. Proposed Regs that sit for along time are essentially as good as

26 USC § 61

(a) General definition

Except as otherwise provided in this subtitle, gross income means all income from whatever
source derived, including (but not limited to) the following items:
(1) Compensation for services, including fees, commissions, fringe benefits, and similar items;
(2) Gross income derived from business;
(3) Gains derived from dealings in property;
(4) Interest;
(5) Rents;
(6) Royalties;
(7) Dividends;
(8) Alimony and separate maintenance payments;
(9) Annuities;
(10) Income from life insurance and endowment contracts;
(11) Pensions;
(12) Income from discharge of indebtedness;
(13) Distributive share of partnership gross income;
(14) Income in respect of a decedent; and
(15) Income from an interest in an estate or trust.
(b) Cross references
For items specifically included in gross income, see part II (sec. 71 and following). For items
specifically excluded from gross income, see part III (sec. 101 and following).

– Substance over Form Doctrine: No matter how you prepare your taxes in
order to make them look like the taxes are legit (form), the substance of what
they really are (substance) will overrule and force you to pay the taxes
– 55% ESTATE TAX for people worth over $10M at death: Gone in 2010, but
comes back in 2011

– Taking amount off of your income

– Deductions for all Itemized Deductions OR Standard Deductions
– HOME OWNERSHIP: If you own a home, you usually want to do Itemized
Deductions as opposed to the normal Standardized Deductions ($5,350 for
indivs and MFSep, $10,700 for MFJointly).


– Subtraction from Tax, not just income (like Deductions)

– EXs:
○ Earned Income Tax Credit: Supposed to be substitute for welfare; low
income earners who are working
○ Lifetime Learning Credit: ($1,500) dollar-for-dollar credit if you owe a
tax; be full-time student

August 28, 2008

Filing Status
– Individual (not married)
– Married filing jointly – generally pay less this way
– Married filing separately – generally pay more this way
○ If you have a client filing for divorce, have them file separately to
extinguish J&S Liab b/c IRS will go after whoever is easiest to collect
– Surviving spouse
○ Preferential rate made by Congress b/c males/wage earners die first
and Cong wants to help out widows
 Can file as married or year of death and then HofH or next 2
years but only if you still have a dependant (under 19 or 24 [Full-
Time School])
 Not married (by death or divorce), but have a dependant
– Head of household
• Status determined on last day of year (Determined 31, 2008)

Joint and Several Liability

– J&S Liab Rule § 6013(d)(3): Spouses are J&S liable for deficiencies on tax
– Innocent Spouse Rule § 6015:
○ (a) Must file a joint return
○ 3 ways to qualify for Innocent Spouse
 (b) Traditional InnSpouse Relief: 5 Requirements
• Joint return filed
• There was an understatement
• InnSpouse didn’t know, or had no reason to know of
the understatement
○ Can’t stick head in the sand
• It is inequitable to hold the other indiv liable for the
• The non-at-fault spouse elects the benefit of this section
no later than 2 years after the secretary has begun
collection activities
 (c) Separate Liability: Intended to be Retroactive Married
Filing Separate
• Prereqs: (1) no longer married, separated, or not living
w/each other for 12+ months + (2) no actual
knowledge of the “item” that makes up the deficiency
OR w/knowledge but under duress + (3) Make election
yourself w/in 2 years
• No refunds! Even if you would otherwise qualify for a
• Cheshire v. Comm’r (H takes out retirement and W knows
about transaction, but not that it was illegal to not pay taxes on
some of retirement $)
○ “Actual Knowledge” Rule: It doesn’t matter that
the spouse doesn’t know that the “item” is illegal,
they just need to know that the transaction
• Duress: Physical abuse and sometimes emotional abuse
 (f) Equitable Relief: (1) Equitable relief if no relief under (b)
or (c) + (2) Inequitable to hold InnSpouse liable under the circs
• Decided by the IRS  Means that this rarely ever
○ CProp States: Gov’t can still come after the innocent spouse in that
they can come after the marital community’s CP.
Gay/Lesbian relationships cannot file jointly b/c of Defense of Marriage Act
• File jointly in State, and file separate Federal returns
• IRS won’t look at sex of couple and will just look at SSN, but it is ILLEGAL!

Tax Systems
– Progressive Tax System: The more money you make, the higher your tax
bracket (§ 1)
○ 5 incremental brackets (10% - 35%)
○ Higher tax isn’t going to hurt the rich as much as the poor
○ What the US follows
– Regressive Tax System: Flat tax percentage that everyone pays
○ You shouldn’t be penalized for being rich
○ This hurts the poor more than the rich which is why they call it

What is Taxable Income?

– Minuses
○ Itemized Deduction v. Standard Deduction
 These are below the line deductions
○ Exemption:
○ Credit:
– Exemptions and Deductions, while different, they have the same effect 
Decreasing your taxable income

Personal Exemptions §§ 151-152

– 1 exemption for self
– 1 exemption for spouse
– 1 exemption per qualifying child
– Phase Out: If you make too much $, you will be proportionally phased out of
specified exemptions
○ Applies to Itemized deductions as well
○ If you’re divorced and are getting phased out, take child(ren) off of
your return and have the other spouse take the child even if you have
done everything to take care of the child
○ Phase out begins at $239,950 for couples (§151d3C)

Dependancy Exemptions (§152)

– What is it? Getting an exemption depending on how many people you are
– Who qualifies as a dependant? § 152
○ Dependant: (1) a qualifying child or (2) a qualifying relative
○ 152c Qualifying Child
 Bears relation to taxpayer
• Child, brother
 Same principal residence as taxpayer
 Age requirements (under 19 or under 24 if student)
 Didn’t meet over 50% of their own support
○ 152(d) Qualifying “Relative”
 S
– Not a lot of audit for claiming someone generally, unless a person is claimed
– (e) Divorced parents
○ Custodial parent gets exemption even if not providing over 50% of
○ If joint custody, then 50%+ providing parent gets exemption
○ Exemption can be bargained away to other parent b/c you’re being
“Phased Out” in order to receive other stuff (more alimony, etc.)
 Supposed to be transferred in writing and attached o tax return
(not often done, but IRS doesn’t care so long as not double
– Child: (step)son, (step)daughter, qualifying foster and adopted child
– Student: Full-time student at accredited institution
– Missing Children: Still qualify for exemption if child presumed to be kidnapped
by non-family member and, previous to kidnapping, child maintained
principle abode with exempting taxpayer

Dependant Care Credit (§21)
– Rule: If you have someone taking care of your kids while you work, then you
can get a credit
– Meant to take place of welfare…Push to work and subsidized for
doing so
– Child care provider can’t be another one of your dependants (you of your
other kids)
– AMOUNT: get between 35% (make under $15k) to 20% (1% off for every 2k
above 15k) up to $3k for 1 kid or $6k for 2+ kids
– Who qualifies for credit?
○ Qualifying indiv, but not older than 13 unless disabled
– Employment-related expenses
○ Both spouses must be gainfully employed or in full-time school – can’t
sit at home and get daycare provided
– Must file a MFJ return
– Both must be gainfully employed
– Child-care provider can’t claimed as dependant
– Child must be
○ (1) Dependant
○ (2) under 13 yrs
○ (3) reside in taxpayer’s place of abode for over ½ time

Hope and Lifetime Learning Credits (§25A)

– Can’t do BOTH Hope and Lifetime Learning for the same person in
the same year (§25A(g)(6))
– Only applies for first 2 years of post-secondary education (Fresh and Soph
years of college)
– Max is $1,500
– Must be full-time student
– Non-refundable: If you don’t owe tax, you don’t get the money (Can only go
to zero tax)
– Can’t have prior felony ((2)(D)) (only on HOPE)
– Only covers tuition and fees (not living expenses)

– $2k max (20% of up to $10k in tuition)
– Non-refundable: If you don’t owe tax, you don’t get the money (Can only go
to zero tax)
– Loans count for tuition b/c they have to be paid back, but scholarships don’t
count towards tuition fees
– Don’t have to be full-time student
– Accredited school
– Phase out
– Only covers tuition and fees (not living expenses)

IRS Publication 970, Tax Benefits for Education

Table 3-1. Comparison of Education Credits
Lifetime Learning Credit Hope Credit
Up to $2,000 credit per return Up to $1,650 credit per eligible
Lifetime Learning Credit Hope Credit
Available for all years of Available ONLY until the first 2 years
postsecondary education and for of post-
courses to acquire or improve job secondary education are completed
Available for an unlimited Available ONLY for 2 years per eligible
number of years student
Student does not need to be Student must be pursuing an
pursuing a degree or other undergraduate degree or other
recognized education credential recognized education credential
Available for one or more Student must be enrolled at least half
courses time for at least one academic period
beginning during the year
Felony drug conviction rule does No felony drug conviction on student's
not apply record

Withholding “Credit”
– You get $ withheld as a “down payment” on taxes
– It’s your money that will be paid back to you
– W-2 form is where you claim your exemptions
○ The more exemptions, the less they withheld

Earned Income Credit (§32)

– Supposed to take place of welfare to not have people sit on butts
○ .:, this is for low income-paying jobs
– REFUNDABLE b/c can get over and above what you paid in tax!
○ Refundable Credits: Can receive back taxes paid to the gov’t +
payments (subsidy) from the gov’t
 Not many refundable credits around
– Gets larger and larger the more kids you have (Can also get as a single indiv)
○ Both H&W have to be wage earners (have to work and make $, not
○ Make under a certain amount
○ Refundable (get it back even if don’t have taxes)
 No child – 7.65% (capped at $4,220)
 One child – 34% (capped at $6,330)
 2+ kids – 40% (capped at $8,890)


I. Haigs-Simon (Economic Theory of Income): Anything that brings you

a. Requires a yearly re-appraisal of all your stuff…too cumbersome to
calculate and keep up on
II. Code Definition of Income: No income until benefit is realized (your
stuff is sold)
III. Eisner v Macomber Stock split of 2,200 shares up to 3,300 shares, but same
value of the shares…does she have a realized benefit?:
IV. Glenshaw Glass Are back profit AND punitive damages income as defined by
Macomber?: Ct says both are income (including punitive damages) b/c
income is “income from whatever source derived” (16th A.) and § 61a is
not an exhaustive list of what income is
a. Current Defn of Income: Undeniable accessions to wealth, clearly
realized, and over which the taxpayers have complete dominion
V. TREASURE TROVE Cesarini Money found in piano and paid on taxes and
then rescinded:
a. Cesarini’s 3 Arguments
i. Not Income: Gov’t says just b/c income is not enumerated in
16th A and §61, it doesn’t mean it’s not an accession to wealth
that is realized and in complete dominion and control
(Glenshaw Glass)
ii.If income, then includable in 1957 and so the SOL has
run: SOL doesn’t start running until treasure trove is found
1. Treasure trove, to the extent of its value in US currency,
constitutes gross income for the taxable year in which it is
reduced to undisputed possession (found) T.R. §1.61-14
even if it is not cash
a. Layman’s Defn: This means that it’s taxable
income the minute the treasure trove is found and
you are in sole possession, regardless of whether
you sell it
i. Mark McGuire baseball exception where
Tax Commissioner said they won’t tax until
catcher sells the ball…not the norm!!!
1. Can make a good argument that other
property should be treated the same
way as the baseball
iii.Capital Gain: This isn’t a capital gain, but is cash…not
discussed in class

Barter Clubs Rev Ruling 79-24

a. IRS put out Rev Ruling (says what position IRS would likely take in a case…
not binding)
II. Trading services for services to get out of paying taxes
III. Rule: On Scott’s outline

Embezzlement James v US Are embezzled funds included as Gross Income in the year of
I. Wilcox (earlier case) said there was no “claim of right” as gross income
II. James ct overrules Wilcox saying that you don’t need a legal claim of
right, just possession and practical control (not legal control)

Compensation for Services

Company Paid Trips
I. McCann v US Good salesmen gets trip to Vegas for retreat even though Co
tried to make it look like biz trip to not have to pay taxes
a. Dominant Purpose: US v Gotcher Where do you draw the line b/t
work trip and play trip? What was the dominant purpose of the
i. Treated as Vacation for every “non-necessary” parties (ie,
spouses)…thus, it is income for the non-necessary party
Meal Allowances
II. Commissioner v Kowalski Are cash payments for meal allowances taxable
income and, if so, are they otherwise excludable under § 119 (housing & meals
provided for convenience of employer)?
a. Cash for meals is income (giving the literal meal wouldn’t be income
under the §119 exception) b/c the money could have been (and likely
was) spent on non-meal things.
b. The higher rank you are, the more “meal money” you get =

I. §61 Fringe Benefits are Income unless otherwise stated in IRC (most
in §132)
II. §132 Exceptions
a. See Scott’s outline
III. Read Pub. 15-B from TWEN site  Employer’s tax guide to fringe
a. Page 5 Chart into the outline!!!!
IV. Whether or not the firm goes over the fringe benefit limit, it is still counted
as a deduction
V. Is a perk income? TEST
a. Is the perk a condition of employment?
b. Is the perk for the convenience of the employer (not of the emp-ee)?
c. Is the perk on biz premises of the employer? (cafeteria, housing)?

I. If you receive a gift, there’s no tax to you Duberstein (detached and
disinterested generosity)
II. If you give a gift, you can be taxed if you give too much Olk v US Giving
tips (“tokes”) to casino dealers
i. Question of fact – Erroneous standard
ii.Question of law - De novo standard


I. General Axioms
a. A loan is not gross income to the borrower
b. The lender may not deduct the amount of the loan
c. The amount paid to satisfy the loan obligation is not deductible by the
d. Repayment of the loan is not gross income to the lender
e. Interest paid to the lender is included in the lender’s gross income
f. Interest paid to the lender by the borrower may be deductible by the
II. The real issue is what happens you have part of a loan you owe
a. §108 and §61a12 say that Discharge of Indebtedness is income
b. US v Kirby Lumber issued bonds (borrowed) $12.1m, paid back
$11.9m = $137k left over; Is the $137k income to borrower?
i. Indebtedness discharge rule: The excess of the issuing price
or face value over the purchase price is gain or income for the
taxable year (Kirby) unless you’re going through Chapter 11
bankruptcy (§108) or you’re insolvent [liabilities > assets]
(§108) [or if farm something or other or qualified biz discharge]
III. (E) On Dec 31, 2007, the following became effective: “The indebtedness
discharged of qualified principal residence indebtedness discharged
before 1/1/2010” b/c of the foreclosure boom of 2007-08
IV. Zarin v Commissioner: Gambler keeps getting credit by casino and racks up
big debt; Commissioner says no more extensions of credit, but casino keeps
giving $ and he has $3.4M in debts but settles for $500k and has $2.9M (+ $2.3M
in interest) of DOI (discharge of indebtedness)
a. “Indebtedness” = (1) liability OR (2) property
b. Appellate court says he has no liability b/c casino should have not kept
giving him money
c. Ct also says the chips are not “property” and have “no economic
substance” but of course he could gamble and buy a room and the like
w/the chips
i. Likely, this is the ct feeling bad for the guy

I. Look at IRS Publication 551!!! On TWEN
a. Page 5 chart
II. Definitions / Basics
a. Basis = Cost
b. Amount realized = What you received
c. Realized Gain = Amt Realized – Basis
i. Is it Recognized on your taxes?
1. EX: §121 Primary residence non-recognition of $250k of
gain per spouse for owning 2+ years
III. § 1001 – Determination of gain
a. Gain is the excess of the amount realized over the adjusted basis
b. Amount realized is the sum of money received plus the FMV of the
c. Unless there’s an exception, all gain shall be recognized
IV. §1011 – Adjusted Basis
a. Adjustments to cost
b. Adjusted basis is the basis adjusted by §1016
c. Pockets of money
i. Start out with cost (basis)
ii.Cost Recovery Adjustment: by putting $ in pocket, you’re
recovering money somehow and so there’s a decrease in basis
1. This means that the gain gets larger
2. EXs: Cost recovery (straight line depreciation over the #
of years required by IRC)
a. 1/10th of the cost is going back into your pockets so
your costs (basis) goes down and your gain gets
3. NO home depreciation and cost deductions and write offs,
except for interest and taxes(for primary residence only)!
iii.Cost Addition Adjustment: by spending money and taking it
out of your pocket, your costs go up and so there’s an increase
in basis
1. This means that gain gets smaller
2. EXs: Addition to a house, Permanent improvements to a
V. Helvering v Bruun tenant w/99 yr lease term; can’t meet term and has to
give back to landlord; But, tenant put bldg on prop
a. Does landlord have realized gain even though he hasn’t had a taxable
b. Adding of an asset (the house) makes for a realized gain and it is
i. Realizaeable events don’t necessarily have to be a sale.
ii.But, Landlord can’t pay taxes b/c there was no taxable event
1. Congress enacted §109 and §1017 in reaction
VI. City of Philadelphia taxpayer has bridge and lets City of Philly use it in
exchange for giving him RR rights
a. There’s a transfer of something, so even though there’s no sale,
there’s possibly realized gain
b. Is there a gain?
i. If you can’t determine value of what you’re giving up for cost,
look at the product you’re getting and its value in order to
determine the value of what you’re giving up
VII. §1016 – Adjustments to basis
a. 1016(a)(2) – Even if you don’t take as much depreciation as you could,
you still have to deduct the amount allowed
VIII. Gifts and Inheritances
a. Gifts are tax free to the receiver, but you will have a tax consequence
when you sell it
b. What is basis on a gift? (b/c you didn’t pay anything for it)
i. §1015 says you uses “carry-over basis” – the basis of the
GIFT giver
1. Carry-over Basis: Donee takes the donor’s basis if prop
has appreciated
a. Appreciating Prop: Donor buys for 10k and gives
to done w/FMV at 20k = donee’s basis is 10k =
donor’s basis carries over
b. Depreciating Prop: Donor buys for 10k, gives to
done at FMV of 5k = basis is FMV
ii.§1014 INHERITANCE from a WILL – the FMV at date of death
“step up in basis”
1. Stepped up basis: Take date of death value or
Alternate valuation date(allows for valuation of a
decedent’s stuff to date of death or on the date 6 months
later [not any day of the 6 months, just the 6-month
a. This is all for determining the basis for when the
inheriting party sells (when a taxable event occurs)
2. Stepped Down Basis: For property that has lost value
IX. US v Davis H txrs stocks for divorce obligation
a. Ct says it’s a taxable event
b. Congress doesn’t like this and passes §1041 which says (1) txrs b/t
spouses or former spouses shall not bring a recognition of
gain, but there is a (2) carry-over of basis (acts like a gift)


When is something taxable?

What is taxable?

I.  
a. Capital Gains  b/c taxed at a lower rate
b. Capital Losses  b/c limited and not as good as ordinary losses
II. Reasoning for Capital Gains rates
a. Promote future investments
b. Inflation
c. Bunching
III. Txr of a capital asset brings Captial Gain or Loss
IV. Capital Asset: Prop held for investment or personal-use purposes (and
not for the conduct of an active biz) usually qualifies as a capital asset
V. Timing of Income
a. North American Oil v Burnet Dispute over when Oil Co has to pay tax
on $171k
i. If taxpayer receives earnings under a claim of right and w/o
restrictions as to its disposition, he has received income which
he has to claim on taxes, even if it can still be claimed that he is
not entitled to retain the money, and even though he may still
be adjudged to restore its equivalent
b. Today’s Rule
i. When a taxpayer acquires earnings, lawfully or unlawfully, w/o
the consensual recognition, express or implied, of an obligation
to repay and w/o restriction as to their disposition, “he has
received income which he has to claim on taxes, even if it can
still be claimed that he is not entitled to retain the money, and
even though he may still be adjudged to restore its equivalent”
(NA Oil)
c. Commissioner v Indianapolis Power & Light Co ???????
VI. Assignment of Income
a. Lucas v Earl H tries to make his income into 50/50 jt tenancy w/his wife
i. This is before joint tax returns were allowed
ii.Ct says H can’t do jt tenancy b/c he earned the money…”No
assignment of income!”
1. “Fruit belongs to tree from which it grew”
b. Helvering (Commissioner) v Horst Dad earns coupon and gives to kids
i. IRS says this is just like him taking the coupon cashing it in and
giving a gift; He could give the bond and the coupon to the son
and escape liability but when he just gave his coupon to his kid –
Dad has to pay the taxes on it, not the kids
1. Substance over Form
c. Salvatore v Commissioner W gives ½ her gain on inherited from H gas
station to kids; W reports that ½ as gift and kids report as income
i. Ct says this is her income b/c W and kids agreed to gift, then
they divided the property
1. Substance over Form
d. Tax Planning Estate of Stranahan v Commissioner Paying off
deficiency, needs more income to maximize deduction, sells future dividends
to son and son buys dividends for FMV
i. Ct says this is selling-purchasing and not assigning rights (like
Helvering and Salvatore) b/c there was proper consideration
ii.Learned Hand: Tax planning is just fine!
e. Commissioner v Banks/ Commissioner v Banaitis Is atty’s fees
payment in a contingency case income?
i. When a litigant’s recovery constitutes income, that income
includes the portion of recovery that went to the atty for fees in
contingency cases
1. B/c this is income, the atty’s fees are deductible as a Misc
Biz Expense that is limited to only 2% of AGI and only
shows up on Itemized Deductions
2. The big thing w/this is that this shows back up on Alt Min
Tax, which disregards Itemized Deductions (EX: Winning
party is worse off after taxes than before setting up
1. The IRS says this is like Wage Garnishment b/c you never
get the $ even though it’s yours
2. This is a joint venture b/c atty ~ paid unless they win…Ct
rejects this; $ is co-earned (lawyer’s work and lawsuit of
iii.§62(a)(20) Atty’s fees are now above-the-line deductions which
means no 2% haircut and no Alt Min Tax implications
1. Doesn’t apply to defamation claims, invasion of privacy

What’s fueling the recent bust?

– Are Itemized deductions too generous?
○ Mortgage interest
○ RE taxes
○ Exclusion provision ($250k gain tax-free per spouse every 2 years)

Tax Treatment of taxpayer Costs

I. Depreciation: Recovering costs over time
II. Test way of writing out essay
a. §162 General Rule: For biz expenses or investment expenses, if
ordinary and necessary, the cost of the item can be taken as either
a deduction or an expense
b. §167: Can you write it off over time or can you write it off in the first
i. Year 1 write off (Deduction) OR
1. Current deductions
ii.Over time Write-off (Expense)
a. Capitalized expenses
2. Depreciation
3. Depletion
4. Amortization
III. Trade or Biz §162: Can deduct ordinary AND necessary expenses in
carrying on any trade or biz
a. Reasonable traveling expenses
IV. Production of Income §212: Ordinary AND Necessary in carrying our biz
for Reasonable expenses
V. General Prohibition Personal, Family, and Living Expenses §262: No
deduction for personal expenses, unless another § in IRC allows for it
VI. Depreciation§167: Depreciation deduction is allowed for wear and tear if
used in: (1) trade or biz OR (2) held for production of income
VII. Accelerated Cost Recovery §168: Unless otherwise stated,
depreciable tangible prop shall be depreciated on a straight line
depreciation schedule (not sure if this is correctly written)
a. Be familiar w/the dif types, but not the intricacies
VIII. Amortization (same as deprec) of goodwill and certain other
intangibles §197: Same as depreciation
a. Natural resources = Depletion
IX. Capital Expenditures §263: Permanent improvements or betterments
that increase value of a prop are depreciable if they are Capitalized
a. §263A: The prop must be capitalized in order for depreciation
X. Commissioner v Idaho Power Do you look at the item itself or the use of
the item to determine how long it will take to depreciate the item?
a. Ct says you have to look at what the item does to determine the
depreciation schedule
b. You’re looking at matching income and cost to determine how long
to depreciate the item
c. §263A codified this rule
XI. FedEx v US Where we really get the rules
a. How do you determine what the asset is (the engine or the plane) so
as to know how long to depreciate it?
b. What does the cost relate to? Use 4 factors test
i. Part of larger unit
ii.Economic useful life
iii.Can the 2 assets function w/o each other? (the key)
iv.Can the smaller asset be fixed while attached to the larger
XII. Repair v Restoration
a. Repair: Current deduction
b. Restoration: Expense over time (capitalize it)
c. Rev Ruling 2004-62 Fertilizing trees
(Proposed Regulation FYI)
1. Does the asset materially add value to the other asset?
2. Does the asset appreciably prolong its life? OR
3. Does the asset adapt the other asset to a new or different
ii.If “Yes” to any of these 3 questions, then you have to Capitalize
over time
1. EX: Improvements, restoration, replacements
iii.If “No” to all 3 questions, then Current Deduction
1. EX: Repairs
d. Midland Empire Packing Co v Commissioner Neighbor’s excess oil
would run into meat packing co’s basement; had to repair basement to keep
up their own biz.
i. Does the repair to the basement add value to the prop or is it
just a repair?
1. Ct says it’s a repair b/c you’re just fixing a problem,
not trying to add value
a. = Present deduction
ii.Ct uses the Rev Ruling 2004-62 tests and Test #1 says not
adding value
e. Mt Morris Drive-in v Commissioner: Drive-in H2O drains to neighbor;
neighbor complains; D-In fixes land
i. Is it a repair or restoration?
ii.Ct says it’s a restoration b/c if they had properly taken care
of land upon original construction, they would have
needed to capitalize this fix to make it ready for biz use
1. If they had properly fixed hill the first time, then that
would have adapted the hill to a new or different use
2. Also, don’t want to reward person for not properly caring
for prop 1st time
iii.Dissent: It didn’t improve prop or change the prop much, so it
should be a repair
XIII. De Minimus Rule Proposed T.R. 1.263a-2d4 Don’t have to capitalize if
it falls under the de minimus rule
a. De Minimus Rule: It’s de minimus if cost is less than or equal to the
lesser of:
i. .1% of taxpayer’s gross receipt OR
ii.2% of taxpayer’s depreciation or amortization expenses
b. De Minimus rule applies to all depreciation/amortization matters!

Acquisition of Intangible Assets

I. INDOPCO v Cmsr Unilever Friendly Taking Over National Starch
a. ISSUE: Can takeover expenses be deducted or must they be
b. Rejection of Lincoln Savings
c. Creating or enhancing a separate and distinct asset has to be
capitalized over time under §263
i. But, this isn’t the only circ
d. Long-term benefits of the assets that are fought over are not
i. This is still impo and even is the predominant characteristic
for capitalization, but not everything
e. Deductible expenses that bring long-term benefits but that don’t have
to be capitalized
i. Advertising expenses, Haz waste clean up, Severance benefits,
Conservation expenditures, Training costs
II. Hostile Takeovers: Can deduct expenses up until the agreement is made
b/c the pre-takeover time is only “investigatory” and post-agreement is
a. B/c of this, everyone said their takeovers were hostile to deduct the
investigatory stuff
b. IRS looks at documents (minutes of mtgs) and interviews to determine
whether or not its hostile
III. PNC Bancorp Costs for processing auto loan applications & Lychuk Car loan
a. ISSUE: Must the costs be capitalized?
b. Pro Deductions Arg (PNC Bancorp – 3rd Cir): Routine costs relating to
your business, not actually part of the loan, so you can deduct the
c. Anti-Deduction Arg (Lychuk – Tax Court): B/c these costs relate to a
long-term loan, they must be capitalized
IV. INDOPCO Regulations
a. $5k rule: Contract negotiation costs up to $5k can be deducted
b. 12 Month Rule: Current deduction for costs to create an intangible
asset if (1) resulting benefit won’t last over 12 months and (2)
resulting benefit doesn’t last past the year after the taxable year when
payment was made
V. Problem Sets 4-2 and 4-3
i. All of this is just a matter o degree b/c diff reasonable minds can
have different ideas of what appreciates the value of a house
and what maintains the value of a house
b. 4-2, pg 191
i. A - This is like the oil in the basement case; Murphy says a
current deduction is ok b/c there are safety issues, but IRS says
it shouldn’t be current
ii.B - Improvement – could go either way b/c one ct says ….
iii.C - Midland Ham case; Repair at point of damage (deductible)
and Improvement for helping from future damage (capitalized)
iv.D – This seems that it should be Deductible b/c it’s repairing a
safety risk, but ct said Capitalized b/c the improvement is
adding to the value of the house (Murphy still thinks it should be
deductible b/c this repair is just maintaining the value of the
v.E – fixing a roof = repair; new roof = improvement
vi.F – depends b/c diff minds can see it differently
vii.G – trees and shrubs are long-term, so capitalize; fertilizer and
h2o are short-term so deductible
c. 4-3, pg 201
1. Easy test is 12 month rule (something lasting over 12
months = capitalize it)
2. Tougher test: How long will the product last? Reasonable
minds can differ
ii.Laptop – Capitalize it (may depend on work)
iii.Pens and paper – deductible
iv.PC printer – capitalize
v.Toner and paper – deductible
vi.Reference books – capitalize, unless the info they have changes
vii.Illustrator services – Safest to say capitalize it!; deductible
unless being used for over 12 months; but, the art lasts beyond
12 months and continues to sell the book for more than 12
months, so it could be argued either way
viii.Attorney’s review of K – deduct b/c the work being done is less
than 12 months even though the benefit may last beyond 12
months (“Tangential Benefits”)
VI. §179 Election Provision: You can elect to say something is currently
VII. §162 4 Parts
a. Ordinary and Necessary
i. Welch v Commissioner Indiv paying debts of a Corp
1. FACTS: Thomas Welch is paying off corp’s debts b/c he’s
wanting to establish his own personal credit for future use
w/Kellogg and other grain companies even though he was
just the secretary
a. This is NOT ordinary, it’s extraordinary so you
have to capitalize it!!!!
2. General Rule: If you want to do a current deduction,
then paying debt for someone else (the corp) it needs to
be ordinary AND necessary
3. Ordinary: Common and accepted AND
4. Necessary: Appropriate and helpful
a. Pretty easy to reach
5. Lead tax case to say taxpayer has BOP
ii.Jenkins Conway Twitty (indiv) paying debts of Twitty Burger (corp)
1. FACTS: Conway Twitty is paying off corp’s debts b/c he’s
wanting to keep his own personal public view as a country
iii.Trebilcock: Deducting costs of having reverend come in and say
prayers and do gopher type of work
1. Can deduct for gopher work, but not spiritual work (~
iv.Harolds Club: Dad’s casino salary is too high and
1. A biz exec was paid too much
b. Paid or Incurred
i. **************** Find this out!!! ***********
c. In connection with
i. Estate of Rockefeller Ford’s VP after Nixon (Pres) and Agnew (VP)
had been ousted; Rock was Gov of CA and then went out and did diff
work and then spent $$$ on VP hearings. Can he deduct the VP
hearings $ he spent? Was he “carrying on” trade or biz from
going from Gov of CA to VP of USA?
1. Ct says gov and VP are diff duties and so they are
different “trades or biz” = VP hearing $ is NOT deductible
2. In Connection With Rule: Where a taxpayer is seeking
employment in a new trade or biz activity, the §162(a) is
appropriately denied b/c the taxpayer is not yet carrying
on that biz; The indiv must already have the employment
in order for the expense to be in connection with and :.,
ii.Joel E Sharon Can already licensed atty (licensed in other state)
deduct bar exam, review, and licensing fees for bar in other state?
1. Cts say yes, but you can’t deduct it in one year, but must
deduct it for however many years you are expected
to work according to the death tables
2. BUT, student  lawyer can’t deduct it at all b/c
(Murphy doesn’t know why, there’s no real answer)
d. Trade or Business
i. Cmr v Groetzinger Is gambling a trade or biz?
1. The IRC doesn’t define “Trade or Biz” at all, but it’s noted
all over IRC
2. Need a profit motive or intent
3. How do you reconcile b/t §162 Biz Expense and §212
Investment Expense (income producing activities)?
a. At the time, Δ would be subject to Alt Minimum Tax
and would have to pay more $
4. Frankfurter Gloss (Concurrence): Have to hold yourself out
as willing to work/gamble for others to be a trade or biz
a. Majority says you don’t have to hold yourself out
5. Trade or Biz Rule: Involved in the activity w/Continuity
and Regularity w/intent to make a profit (even if you
don’t make a profit)
a. Enough regularity to call it a biz, but not
necessarily full-time
b. Based on case-by-case analysis
6. Regular Gamblers Rule: Must report income, but still
may report 50% of the loss. Normally, personal loss is not
deductible, only where Congress allows. Casinos give you
a 1099 Form.
a. Only Professional Gamblers can take full loss, so
IRS wants these types of gamblers to be full-time
and will be strict w/them
ii.Tellier Guy guilty of securities fraud; Can you deduct something if
it’s in connection w/illegal activities?
1. Can you deduct legal fees for your lawyer’s fees?
2. Ct says there’s no public policy in tax after Tax Court
didn’t allow deduction…deduction stands!
iii.Statutory Disallowances of Deductions for Public Policy
1. 162c1 Illegal Bribes
2. 162e Certain lobbying expenses
3. 162f Fines paid to gov’t for violations of law
4. 162g Treble damages payments on guilt for federal
antitrust laws
5. 280E Expenses for illegal sale of controlled substances
iv.Vitale v Cmr Author writing Prostitution book
1. Can he deduct “brothel research” expenses?
2. No, b/c visiting prostitutes is too “personal in nature”…
Pub Policy ~ allow this b/c don’t want to be on front page
of paper even though Tellier says “nothing in IRC about
Pub Policy”

Code Sections
• §212 Expenses for production of income: the test is essentially the same as §162,
“ordinary and necessary”.
• §195 Amortization: Start-up expenses: start-up costs have to be capitalized. New
version of code says that $5,000 can be deducted unless the start-up expenses are
less. Must be amortized over 180 months.
• §179 Election to expense certain depreciable business assets: certain property can be
elected to be deducted in the first year. From now until 2011 the limit is $125,000. The
purpose of this is economic stimulus, encourage repeat expenses. (likely there will be
more of this in the future).
• §197 Amortization of goodwill and certain other intangibles: must be amortized over
15 years.
Treatment of Capital Expenditures
• 12 month rule, do not worry about methods of deduction, only what must be deducted.
• Simon v. Commissioner: If something does not decrease in value, can you still take a
depreciation deduction. There was a special “Tourte Bow”. It was purchased for
$30,000. The rules normally say that there was a five year write off. The bow does not
decrease in value because it is a work of art. In reality the bow has increased in value
50% by the time of trial. The commissioner says that there is not depreciation
value. The rule for depreciation is there need only be “wear and tear”. There were some
replacement parts. However, this is a very high quality bow that endures time. If
depreciation costs are allowed it decreases basis as well. Therefore when the item is sold,
tax will be paid anyway. The real issue is about timing. The majority decided that “wear
and tear” is all that is needed, no need for “ascertainable life”.
Treatment of Intangibles
• Selig v. U.S.: a guy is a part owner of the Brewers and he buys a franchise of a Seattle
team. He has to determine what is tangible and what is intangible. The ball players are
tangible, the franchise is intangible. Ball players have a shorter useful life. Franchise is
useful for a longer time. The owner put most of the cost on the players 10.2 M and only
.6 on franchise, and the court said no way. He did this to get his amortization
faster. Court looks at §197, 15-year rule for goodwill. The bottom line is to not be so
Independent Contractors Employees
Gets 1099 Form (misc. income) Taxes are withheld
No tax withholding Employee only pays ½ of social security 7%
File quarterly statements, pay the tax Do not have to file until April of next year.
Pay all of your own social security 15.3 % May claim some business expenses, can only
Full business deductions be included in the itemized expenses
deduction. There is a 2% “haircut” One can
only deduct what exceeds 2% of adjusted
gross income.
• If one makes income doing both, they get a schedule C form. You avoid the “2%
• In order to make a distinction b/t independent contractors and employees, it depends on
whether you are your own boss? Who makes the decisions? Who provides the materials
and tools? 20 Factors
• The court will tend to go after employers rather than individuals. There is no section in
the tax code. It is included in a tax act. §530(d) of Revenue Act of 1978.
• There are 20 factors that are looked at to determine if one is an independent contractor or
○ The most important factor is control.

I. Independent Contractor v Employee (look at TWEN site!!!)

a. 20 factors to determine IC v Emp-ee (question of fact)
i. Control is most important
1. The important part of control is controlling “the way
something is done”
iv.Work Integrated w/rest of Co
v.Did they render work personally?
vi.Did they hire, supervise, or pay assistants?
vii.Continuing relationships
1. Longer it lasts, the more likely it is to be an employee
viii.Set hours of work?
ix.Full-time v hired out
x.Do you do the work on the emp-er’s premises?
xi.Who sets order or sequence of the work
xii.Do you have to file a written or oral report?
xiii.Paid by the hour/week/month/piecemeal/salary?
xiv.Do they pay biz expenses?
xv.Do they furnish tools?
xvi.Do you make a signif investment?
xvii.Do you realize a profit or loss?
xviii.Do you work for more than one firm at a time?
xix.Do you make services available to the public?
xx.Do you have the right to discharge a worker?
xxi.Do they have the right to terminate the relationship

I. A loss occurs when the adjusted basis is larger than the amount realized
a. Adjusted basis > amount realized
II. Loss provision allows for a loss unless another provision does not
allow for the loss
III. §165 Major Exception:
a. 165 tells you (1) if you can take a loss and then, if you can (2) what
type of loss you can take (capital  or ordinary )
i. Capital Losses limit how much loss you can take in any given
year (thus, the )
1. You get loss to the extent of the gain you had + $3k
2. EX: WAMU stock - $40k loss in 2008 and walmart stock
gain of $5k = $8k loss to be deducted ($5k of gain + $3k)
ii.Ordinary loss allows you to get it all in that year
b. §165closs has to be incurred (1) in trade or biz, (2) transactions
entered into for profit, or (3) casualty and theft personal losses
(all other personal losses are not allowed)
c. d Non-professional wagering losses: Non-professional losses are only
allowed to the extent that there are gains from the transaction
i. Pros can take like a normal loss (out of $50k at end of year =
$50k loss you can take)
ii.But, for NON-pros, this is a gift
1. EX: Win $600on Friday and cash it out (income b/c
accession to wealth); Lost $1k on Sat, can only take $600
as loss b/c they don’t otherwise have to allow the loss, so
you only get to take your gain down to $0
d. e theft losses occur on the year of discovery
e. Limitations h your loss for casualty loss are allowed except for $100
+ net casualty loss must be worth more than 10% of AGI
i. Each casualty is limited by $100
ii.Take 10% haircut for anything above $100???????
iii.Unless you have a fairly catastrophic disaster, this won’t help
iv.Bad b/c this is an itemized deduction, not an above-the-line
f. i Disaster losses: to be taken into account for the taxable year
immediately preceding the taxable year in which the disaster occurred
i. Disaster in 2008 allows you to amend 2007 taxes immediately
and get disaster relief right away instead of having to wait until
next year’s tax returns
IV. Cases
a. Miller Π lends friend boat, boat gets damaged, friend gives $200 (felt bad), Π
claimed rest of $542 as a loss
i. 165c allows for this b/c it was Shipwreck loss
ii.Ct said taxpayer is allow the deduction regardless of his
insurance or lack of filing his insurance
1. He didn’t file his $100 insurance premium b/c he had too
many claims (prob worried they’d drop him)
iii.Ct said that legis history shoes that they are going to cover
losses not compensated for by insurance (not “losses not
covered” by insurance)
1. NOW you do have to file for insurance coverage b/c IRS
doesn’t want the public paying for your loss when your
insurance could have paid for it
b. Casualty and Theft Loss Mazzei v Cmsr 2 guys working together and
convinced a guy they had $ making machine. Can you deduct a loss in a
taxable year on account of being defrauded in a scheme to produce
counterfeit $?
i. This case goes agst Tellier
ii.Ct holds
c. Revenue Ruling 79-174: Casualty Loss must be (1) sudden, (2)
unexpected, and (3) unusual
i. Bugs killing trees
ii.Sudden b/c otherwise you should fix the problem
iii.Unusual does not mean “You live in FL, :. Expect hurricane
d. Carpenter v Cmsr H poured ring down the drain, garbage disposaled it,
and the question is, “Is this casualty loss even though it’s his own
i. Ct says it is a casualty loss and the question is how much
ii.Get whole loss (FMV v Present value post-wreck)
iii.TR 1.165-7(a)(3) Automobiles: If you get into a car accident
w/o insurance or deductible as to be paid
1. Whatever you have to pay out of pocket (Deductible) is
qualifying loss so long as you take off $100 + 10% of AGI
2. Caveat: No willful act or willful negligence
a. DWI likely = no qualifying loss
V. Timing of Theft/Casualty Losses
a. Theft – Year of discovery
b. Casualty - ????????????? General Rule ?????????????
i. Exceptions
1. Disaster Area – can take loss right away by amending
last year’s 1040 and get your refund fairly quickly
2. TR 1.165-1(d) Take the casualty loss on the year there’s
a reasonable certainty that compensation will be
recovered (Pending Litigation)
i. Question of fact – Reas minds can disagree
b. If you appeal and win the next year, you don’t have
to amend and add the income to the previous year,
just tack it on to the year of the appeal
c. (d)(2)(ii) 1961 – $10k fire, insurance covers only
$8k, sue for the $8k and you get it in 1962
i. Loss in 1961 of $10k
ii.Gain of $8k in 1962 o be tacked on in 1962
VI. Principle Residence – Can’t take loss for a home
a. §165 only allows for biz, investment, theft/casualty losses…NOT
primary residences
b. IRS Pub 547 (pg 7/18): figuring casualty loss
i. Take off $100 for each casualty
ii.Take totall losses together
iii.Take off 10% of AGI
iv.This equals your total deduction
VII. Net operating Losses
a. §172 Carry back 2 years, and then carry forward 20 years (back 2
years, then back 1 year, then forward up until losses zeroed out)
b. Losses can be good b/c they wipe out income
c. Only biz and/or investment losses (“biz making ventures”)…not
personal or theft/casualty
d. No limit on how much loss you can wipe out
VIII. Capital Loss/Gain
a. Capital Gains are for long-term (> 1 year) gain and gets a preferred
tax treatment (20% tax for highest tax bracket)
b. Short-term gain (1 year or less)is deemed Ordinary Income and gets
ordinary income tax treatment (higher than long-term)
c. Loss has character and so you have to net the gains and losses against
each other in an attempt to get rid of short-term gain as much as
i. Run the total for long-term and short-term separately and then
net them together to see what you come out with
d. Limited as to how much loss you can wipe out
i. Rule: Can take losses every year up to the amount of capital
gain plus $3k
ii.Can keep this going in propitiation

Essay schematic

I. 165 (Biz, Investment, Theft/Casualty)

II. Capital v Ordinary Loss
III. Net Operating Losses

Hills and Miller are overturned – Now you have to try to get the insurance before
you can get loss relief for casualty loss


I. Annuities §72
a. Annuity: When you pay in for a stream of payment later
i. Some people like these b/c they’re a future stream of income
b. How do you get taxed on the annuity?
i. The basis is the cost of the annuity
1. EX: pay $1,000 now to get $500/yr over 10 years 15 years
down the road
ii.Exclusion ratio: Treat part of return as income and other part
as return of basis in order to get basis back over time
II. Exclusion of Life Insurance Proceeds §101
a. Rule: If the proceeds are paid out b/c the person died, the beneficiary
won’t get taxed
i. Policy: B/c it used to where H worked and W ~ work, when H
died, W needed all of that $ and so not cool to tax W
b. (a)(2) But, if the life ins is sold before death, then there is no exclusion
beyond the valuable consideration paid for it
c. (c) Interest is NOT excluded
d. (g) Terminal or Chronic illness payments paid out of life ins proceeds
shall be excluded
III. § 74 Gross income includes amounts received as PRIZES AND
AWARDS, unless otherwise provided for in §74 or §117
a. Transfers to Charity §74
i. Not income if award made primarily in recognition of religious,
civic, charitable org, but only if:
1. Recipient didn’t seek out award
2. Recipient doesn’t have to render future services as a
condition of receiving the prize or award AND
3. Award is transferred to a gov’tal or org described in §170c
(a 501c3 corp)
b. Employee Achievement Awards §74
i. Exclusion only work for awards not worth over $400
c. Qualified Scholarships and Fellowships §117
i. Even though §74 would include scholarships as a “prize”
or “award”, §117 allows for (1) qualified scholarships and
(2) qualified tuition reductions
ii.Qualified Scholarships: Tuition, fees, equipment that the
student doesn’t get to keep forever…BUT NOT meals and
housing, or equipment that student gets to keep in perpetuity,
or any other form of income (teaching, researching
grants/scholarships that make you work to keep your
scholarship) (:., they are considered income)
1. Teaching or Research: Exclusion IS TAXED WHEN
receipt of scholarship is predicated on teaching or
iii.Qualified Tuition Reduction: Employees that get undergrad
tuition reductions for their family so long as reduction is given to
all employees
1. Can’t discriminate to only highly compensated emp-ees
2. Family can go to that same institution or a sponsoring
institution (GU emp-ee families can go to any Jesuit
3. If private company giving same tuition reduction, Rev
Proc 76-47 says it’s the same thing as Qualified Tuition
iv.Athletic Scholarships: Rev Ruling 77-263 says that
exclusion holds up only if the university does NOT REQUIRE: (1)
participation in a particular sport; (2) participation in some
particular activity in lieu of participation in a sport; and (3)
forfeiture of the award if the student doesn’t participate in the
particular sport
1. IRS says athletes are exempt
v.Problems 5-3 and 5-4  Look in book
vi.Frequent Flier Miles: IRS says miles meet the Glenshaw
Glass (accession to wealth w/complete control) test, but – b/c of
Pub Policy – they said that so long as the miles are used for
flying only (not trading in by buy other stuff), they are not
vii.Savings Bonds: §135 If used for education, then not taxable
when you cash it in
IV. Compensation for Injuries and Sickness §104
a. PI Rule: Physical injuries or sickness received whether by lawsuit or
i. The nature and character of the claim is what’s important, not
validity of the claim
ii.The intent of the payment of the $ is closely scrutinized
iii.Taxpayer saying they qualify for the exemption has BOP
b. Excluded:
i. Damages due to Physical injuries or sickness
ii.Emotional (if medical care)
1. So long as you can tie the Emo to medical needs, you
should be fine. But, this isn’t really well defined overall
c. Included:
i. All other damage awards
ii.Punitive damages
iii.Emotional (no medical care)
1. §213d1A & B defines Medical Care
d. Dennis Rodman DR kicks cameraman and causes injury
i. Settlement for $200k
ii.IRS says only $1 of it for physical injury and rest b/c DR is rich
and you’re a money grubber; Cameraman argues that it’s the
character and nature of payment, not validity of claim is what
the ct is to look at
iii.Ct sides w/Cameraman, but says that only 60% ($120k) was for
physical injury and other 40% ($80k) is for non-physical injury
probably b/c they don’t trust him…BUT they don’t give any
reasoning for those numbers
1. Practical Tip: Since you don’t know what a judge will do,
write in on the settlement what percentage is for physical
and what’s for non-physical
e. Punitive Damages: Not excluded
f. Emotional Damages: Not physical (and :. Not excludable), unless
there’s some medical care is req’d for it (stress)
g. Insurance Policies
i. §106 Employer Provided accident and health insurance
coverage is excluded
ii.§105 Total Excluded Amount = Total award less already
excluded amount of worth to employee
h. Murphy v US Can compensatory damages for emotional distress and loss of
reputation be excluded from income?
i. Π’s args
1. This is just a return of capital
2. §104a2 is b/c 16th A says
ii.J/H / Procedure and args
1. DC Cir Ct of Appealssays §104a2 is unconstitutional b/c
there’s not really gain as defined by Glenshaw Glass when
you’re given compensatory damages for emotional
distress and loss of reputation b/c there was no accession
to wealth, which means there’s no income, which also
means that 16th A doesn’t allow for this b/c it only allows
for taxing gain
a. §104 is to the extent that it taxes things
that aren’t wages
b. Return of Capital Arg: Return to status
quo/wholeness and not an accession to wealth
c. “_(blank award)_ In lieu of income” Arg: Is the
award in lieu of the income she otherwise would
have received?
i. Ct says no!
d. No gain Arg: This award is not a gain; it’s just her
getting back what she lost
i. This arg could be made for anything
2. En banc Re-hearing says §104a2 Is under Art 1,
a. Art 1, §8 Cong has power to lay taxes, duties, and
excises so long as (1) it is uniform and (2) there’s
no capitation or direct tax unless in proportion to
the census
i. Direct Tax: Tax on real or pers prop (in
proportion to census)
ii.Ct concludes this is an indirect tax b/c it is a
tax on a transaction so as long as it’s
discriminatory and applied to everyone
equally it will be
1. “We didn’t see this in original opinion
b/c gov’t didn’t bring it to our
b. Overall, nothing was lost precedentially
i. The Re-Hearing Law is the law to
V. Other Exclusion Provisions
a. §103 Exclusion for Interest on Certain Municipal Bonds
i. State issues bonds to pay for things (ie, schools, roads, etc)
ii.Bonds sold to people in the community as investors to pay for
the schools, etc
iii.B/c of public policy to help local gov’t, the interest is excluded
from income
b. §107 Parsonage Exclusions
i. “A minister of the gospel” gets 2 things excluded:
a. Applies to the “head honcho” of any religious
2. (1) Rental value of home furnished to them as
compensation OR
3. (2) Rental/Mortgage allowance paid as compensation to
the extent the allowance is actually used for rent or
mortgage payment
ii.Warren v Cmsr Priest gets “rental $” = to full amount of
compensation (possibly to get out of taxes totally)
1. Isn’t this an Establishment Clause issue as based upon
what Chemerinsky brought forward? Chem says there’s
an Estab Clause issue, but the case settled; also Chem
didn’t have Standing and neither would a normal citizen
c. §109 Exclusion of Tenant Improvements
i. Old Rule Helvering v Bruun Permanent Improvements to a
landlord’s prop by a tenant is gross income to the LL when the
LL reclaimed possession of the premises following the tenant’s
ii.New Rule Cong enacted §109 saying that it is income, but you
don’t have to pay on it until later and your basis goes down
d. §111 Exclusionary Arm of the Tax Benefit Rule
i. If you took a benefit you weren’t entitled to, you have to report
it in the subsequent year
e. §121 Exclusion of the Gain from the Sale of a Principal
i. $250k of gain per spouse (if filing MJF)
ii.Ownership: Must own the prop
iii.Use: Must show that you lived in it 2 out of last 5 years
iv.1 sale every 2 years
f. §139 Exclusion for Qualified Disaster Relief Payments
i. Payments for
1. “Reas and necessary” personal expenses
2. Repairs to personal residence or furnishings
3. Common carrier by reason of death or physical injury
(bereavement flights)
4. Governmental agency
ii.Rev Ruling 2003-12  Sources of payments
1. Gov’t, Charity, Employer  All excluded if intent was for
disaster relief
iii.Rev Ruling 2003-115 – 9/11 payments are excluded

Chapter 6: Timing When does the money become income?

I. Methods of Accounting
a. Cash Method: Income is included upon receipt, and deductions are
claimed when paid (mostly indivs)
b. Accrual Method: Income is included when earned, and deductions are
claimed when incurred (mostly Corps)
II. Hornung v Cmsr GB Packer player wins a Corvette in Green Bay on Dec 31,
1961 and car was in NY; Ceremony on Jan 6, 1962
a. IRS says income was in 1962 and player says it was in 1961, if there
was any tax at all (says that b/c SOL would have run)
i. SOL is normally 3 years from date of filing
b. Question of Constructive Receipt
i. Constructive Receipt Doctrine: Although not actually
reduced to possession, income is received by a person in the
year that they are made available to him, unless control of its
receipt is subject to substantial limitations or restrictions
c. Ct says tax is in 1962 b/c he couldn’t car until 1962 even though he
won it in 1961
III. §6501 STATUTE OF LIMITATIONS (on Assessment)
a. General Rule: 3 years from date of return filing
i. If you file early (before April 15th): SOL runs on April 15th 3
years from return
ii.If you file on April 15th or later: SOL runs on date of filing + 3
b. Exceptions
i. False Return: SOL doesn’t run
ii.Willful attempt to evade tax (Civil Tax Evasion): SOL never
iii.Civil Fraud: SOL never runs
iv.Failure to File: SOL doesn’t run (b/c by not filing you never
started the SOL time)
v.Substantial Omission / Understatement (Omit 25%+ of
income you did report on original return): SOL is 6 years
vi.§6531 Criminal Tax Evasion or Fraud: 6 years SOL (crim
requires an SOL)
1. Diff b/t Civil & Crim tax evasion depends on who evader is
or what person did mainly (celebs [W. Snipes] get Crim
b/c it brings good press)
2. These charges are not done on a whim, so don’t talk to
them without your atty being present
c. §6501 Extension by Agreement: People will agree to extend (1) to
bargain w/IRS that limits them to only look at certain issues , (2) allow
the IRS agent more time to give you a better report, or (3) to get out of
Crim Evasion
i. Notice to taxpayer of right to refuse or limit extension:
IRS has to tell taxpayers that they don’t have to extend
d. SOL on Collection: 10 years

– The info she gave us was from 2000 (just essays); she does them diff now
– Our Test: ½ multiple choice and ½ essay
○ 2-3 slightly longer than the practice exam questions essay questions
(6-8 issues per essay)
 It’s about issue spotting
○ 25 Multiple Choice
 About the same as the practice questions
 5 possible answers
○ Essays and MC are equally weighted, so 1.5 hours per
○ Usually there’s an answer
○ She’s not trying to be sneaky and hide the ball
– Time should not be an issue
– Limited characters
○ About 1.5 sides of a legal size piece of paper
○ It’s never been a big issue
– Purposely made hard to help for the curve
○ Tested against each other
○ Highest score is the bar
– Cite to IRC Section Numbers!!!!!

– Question Three: Aunt Enid and dead Uncle Harold
○ 1. Can she file MFJ w/ Harold?
 Yes, b/c he died in previous year (§6013a3)
○ 2. Can she file as a Surviving Spouse?
 §2a – Without a dependant that won’t work
 (this would have been bonus points to look at this)
○ 3. Charitable Contribution of $200 to The Shack
 §170(c)(2) allows for religious, charitable, etc. contributions so
long as they are a proper charity as noticed by IRS and [the FMV
of the breakfast is deducted out (TR 1.170A-1h2)]. This does not
seem like an improper charity. The FMV of the breakfast is to be
estimated by the taxpayer, so if she determines the FMV to be
$5 per person, she can deduct $195 unless she also was paying
for the other 4 people and then the FMV would be $25 and she
deduct $175. Today, charities are supposed to tell you how
much the FMV is. Also, if it’s real cheap and small-time stuff,
then it is deminimus.
 Charitable Contributions are itemized deductions (not above the
line), so she must itemize her deductions in order to get the
○ 4. Casualty Loss
 §160c - You can take a loss on biz prop
 We don’t know what the basis is, so we don’t know if there’s
been a loss
 §165 Casualty loss – this is mainly for acts of god, not
murderers, so this is a hard fight to make
 But, we know it’s been a biz prop b/c it’s an apt bldg
– Question Four: Different Law Firms plans
○ Take right out of the equation all of the same stuff
○ §61 says all Fringe Benefits are taxable. We are looking for exclusions
○ Weear, Slime
 Coffee and pastries – kick out b/c de minimus
• §132e; TR 1.132-6e
 Lunch – if for convenience of emp-er, then excluded by §119a
 Athletic facilities – §132j4 so long as onsite and owned by emp-
er, then it is excluded
 Occasional theater tickers – TR 1.132-6e de minimus
 Undergrad courses at UW - §127 Edu Assistance Programs – max
exclusion of $5,250 without discriminating for higher paid
• No distinction b/t undergrad and grad
 Day Care - §129 – can exclude up to $5k if married if not discrim
towards higher paid emp-ees and some other limitations
○ Sweat and nosleep
 Snob Club – 1.132-1e – This is income!
 Bar exam fees – Taxable b/c not an emp-ee yet
 Bar review course – Taxable b/c not an emp-ee yet
 Season Tickets – taxable b/c not occasional
 Parking pass – §132f Excluded up to $225 a month, so $175 /
month would be income
 LLM - §127 Edu Assist Programs – max exclusions of $5,250 w/o
discriminating for higher paid emp-ees
○ Overall, it looks like Weear, Slime is better financially
– Question Seven: Bud Inski dissolution and exemption for Gilfriend
○ 1. Is alimony paid deductible?
 §215 – Yes
○ 2. Is this alimony?
 §71b – No, b/c there was no alimony required in the divorce
 Voluntary payments don’t count
 The IRS wouldn’t know about the instrument, but if she didn’t
report it as income, but he is reporting it as a deduction, then
IRS will audit and look at instrument
• But if they both record it, then IRS doesn’t care
○ 3. Can GF be a dependant?
§151 – Gives dependant deduction
§152 – Defines a dependant
• §152d2H – Qualifying Relative Definition: Same household
and financially taken care of (wholly ?) by taxpayer and
not illegal by state law (same-sex people)
– Multiple Choice
○ 5. A
○ 6. B  §166 Bad debts – Biz v. Non-biz
○ 7. E
○ 8. C  §221
○ 9. C
○ 10. A  §152

Jon’s Class Notes from M, 11.3.08

I. Hornung: Greenbay packer with the corvette. Dec. 31, 1961, guy wins a car on
new years in Greenbay. The corvette is actually in NY. When is awarded the car
he does not get keys or title. He is on the cash method. IRS says he received the
car in 1962. In 1962 he recorded the sale of the corvette. He claims he got in
1961 under "constructive receipt". This is a term that is normally used by the
IRS. Basically under that concept one can not prevent receiving income to delay
tax liability. However, in this case he is using in a way against the IRS.
Constructive receipt is based on unfettered control by the recipient and he did not
have that. See pg. 356. It is not received if there are substantial limitations or
restrictions. In this case there were several. He loses this argument.
a. He next claims that it is a gift. However, there was no donative intent
"detached and disinterested generosity". This was for publicity.
b. He then claims that it was a prize or award. He losses. Nothing fell under §
117 or qualified under §74(b).
II. Davis v. Commissioner: IN which year was severance payment received. It
came on Dec. 21, 1974. The mail carrier even attempted to deliever it in on the
31st. By the time she got home it was Jan. The court found that she did not
constructive receive the money in 1974, but 1975.
III. Veit: There is a contract and is supposed to get a bonus. He says do not pay me
this year, but next year. IRS claims constructive receipt. He says no because
there was an agreement and it was going to be paid over 5 years by his
employer. The court said it was okay because it was at "arms length". The
agreement in this case was reached way before the money was earned.
a. Veit II: He gets a second bonus and the IRS losses again. It is critical that the
employer wanted to do this as well.
IV. Cowden: At the tax court the IRS losses. Advance royalties from a mineral lease
is what is at issue.
V. Pg. 365, the legal right of a tax payer to decrease his amount of taxes legally is
allowed and can not be doubted. Is a promissory note the same as cash? The IRS
says that it is.
VI. See pg. 369.
a. Payment by check is deemed to occur on the day that is is delivered.
However, this does not count for a post dated check.
b. Deliverary of a promissory note under the cash method is not considered
"payment" until the note is paid.
c. Payment by credit card occurs at the point of sale.
VII. Boylston: Fire insurance policy that is paid in advance for 3 or 4 years. The
expense is paid up front. The court initially said that a party could take the full
deduction, but it is later overruled if it distorts income.
VIII. Zaninovich: extends this distortion for only one year ahead.
a. Example: lawyer, PI case, take case in 1999, in 2001 there is a settlement
and the money is received. The cash method says this is received in 2001,
accrual method asks when was it earned (all three years). The way to report
this is by using the "all events test" pg. 381.

Wed, 11.5.08
I. §446: Permissible Methods of Accounting
a. Types: Cash, accrual, “any other method allowed by chapter”, any
combo of methods
b. If you’ve not used a method w/regularity, or if method does not clearly
reflect income, the Secretary will use that method that clearly reflects
i. Done all the time
c. Have to request change of method of accounting
i. Have to b/c some income could fall through the cracks
II. More on Timing
a. When you have a Net Operating Loss (NOL), can carryback 2 years [2
yrs back is kept open for purposes of NOL only], then back 1 year
b. Cash Equivalent
i. Cowden:
1. General Rule: If paid in Promissory Note (promise to pay
in future), if it’s the equivalent of cash, then it will be
taxed right away
2. Facts: Advance royalties from a mineral lease payable in 3
payments [1 this year, 2nd next year, 3rd in the 3rd year]
3. Tax Court says this is all income in the first year, so it was
4. Taxpayer says there was no guarantee they’d get paid,
but Appeals Ct agrees w/Tax Ct…
a. …b/c of the financial stature of the financing
b. Rule: Prom Notes are not necessarily equivalent of
cash, but if the obligor is solvent, then it’ll be cash
III. Accrual Method (income when it’s earned, deduction when it’s
a. INCOME ALL EVENTS TEST for considering year of income (pg 381)
TR §1.1446-1c1iiA
i. PROCESS: (1) State 2 parts of All Events Test; (2) Do Earlier of
Test to prove Fixed Income prong; (3) Do reasonably
determinable prong
ii.(1) Right to income has to be fixed
1. (1a) EARLIER OF TEST (Rev Ruling 74-607)
determines whether the income is fixed
a. Look at:
i. The required performance occurs, or
ii.When the payment is due, or
iii.When the payment is made
iii.(2) Amount of income has to be reasonably determinable
1. AAA Cases: Pay fee on Jan 2, but covers Jan-Dec; Issue: When
is the income earned?
a. So, when do you get your service? You don’t
get service until your car breaks down, we don’t
know when that will be.
b. When does AAA put the payments into income?
i. AAA says end of the year
ii.IRS says beginning of the year
c. 3 Cases
i. 1. Ct says since they don’t know when
service is needed, just put it in at start of
ii.2. AAA makes econometric reports, but Ct
says services are provided on demand, so
pay at start of year
iii.3. They lose again; Ct says services are
provided on demand and since you don’t
know when service will be provided, you
have to make it income upon payment
b. Flamingo Las Vegas Hotel: Don’t need legal right to a debt to ………
c. White Sox Baseball: Sell tickets in 1962 to games in 1963; When is
income earned?
i. Ct says income in 1963 b/c you have a determined time of
ii.Ct says they purposely ingored Earlier Of rule b/c they wanted to
match income year with baseball year
iii.Tampa Bay Rays: Same issue, same result
IV. When do you incur an expense?
i. (1) Events have occurred that establish liability
ii.(2) Amount of liability can be determined with reasonable
iii.(3) Economic Performance
b. Gold Coast: (only looking at 1st and 2nd prongs b/c 3rd was stipulated to
(really just looking at (1)st prong) – get points on a card for gambling; the
more points you get, the better the prize you get; Casino takes expense @
time of getting 1,200 points and if people don’t claim prize for certain time,
the casino will put the $ (value of points unredeemed) back in income
i. Arguments
1. Casino’s arg: Once 1,200 points reached, then there’s
liability; Accumulation method
a. Hughes: Casino case where casino (Hughes) wants
to take expense for %age of 2000 slot machine
winnings that were accumulated in 1999. IRS says
you get the expense at date of winner. Ct goes
2. IRS’s Arg: @ redemption of points, there’s liability (b/c not
everyone redeems points)
a. General Dynamics: Emp-ees that are self-insured
and bill the company later. Get hurt in Year 1, pay
in Year 2 and then bill your emp-er. Ct allows emp-
ees to take expenses in Year 1.
ii.Ct relies on Hughes
c. (3) §461(h) Economic Performance: Services and prop provided to
or by taxpayer when the services or prop are provided for or by
i. If taxpayer is liable for payment to another person and arises
out of tort or worker’s comp, income occurs when payment is
ii.Recurring items: Income on year All Events Test is fulfilled
d. Tax Benefit Rule §111. Recovery of tax benefit Items: For
itemized deduction in Year 1, and then tax benefit received in Year 2,
have to report back the amount you actually benefitted from
i. Alice Phelan Sullivan Corp: Corp donated prop to a charity
w/some conditions on it (had to be used for religion or
1. Get tax benefits for contrib. for $1,877.49 in 1939, 1940;
In 1957, get prop back from charity and so tax that would
be due b/c the owned the prop is $4527.60. Do they have
to pay the $1877.49 or $4527.60 deficiency?
2. Ct says it doesn’t matter you have to pay back more b/c
each year stands alone, so they have to pay back
e. Erroneous Deduction Rule
i. Tax Court says: Years stand alone so don’t have to report loan
payoff if erroneous deduction from years before (IRS should
have audited them years before)
ii.(Circuit Split) 9th Circuit says: You do have to report the loan
V. Timing for Deduction of Accrual (§461f)
a. EX: bought for $200k in 2004, city says it’s worth $270k in 2006 =
$270k x Tax Rate = Prop Tax Bill
i. Consolidated Edison: Taxpayer contesting home value gov’t
said it was worth to lower prop tax bill
1. Cons Edison still has to pay tax when contesting
2. Can ConsolEd deduct the tax in the year of liability…Ct
says nope, has to be year of ruling, not year of paying
ii.§461f – Cong changed the Cons Edison rule and said the
deduction can be taken in the year the tax is due
1. In year of ruling, you just count the money you get back
as income

VI. Claim of Right Doctrine

a. Lewis: guy gets $22k bonus in 1944, but had to remit $11k in 1946 back to
emp-er b/c bonus was improperly given
i. Statute: Every year stands alone
ii.Lewis reports all $22k as income in 1944
iii.Issue: Does he amend 1944 return or do something in 1946?
iv.Claim of Right Doctrine: As long as he had a claim of right to
in 1944 and had it legitimately, he has to report it all as income
in 1944. Any variances to that money in a later year (i.e., return
of money) should be deducted in the year of return
v.In this case, SOL had run, so Lewis didn’t get relief, but the
overall rule is still there
vi.There’s a diff in the amounts that taxpayer would get back if
amending old claim (get more $) v. deducting in current year
b. §1341: Computation of tax where taxpayer restores substantial
amount held under claim of right
i. Cong’s answer to Lewis
ii.Affects only those cases where the amount in question over $3k
iii.Compute the later year’s taxes to give you the benefit of
whatever taxable income is less
iv.Rule: If there’s over $3k amount in question, you can take
whatever is less
vi.B/c has to EXCEED $3k, this kicks out all situations where you
have a capital loss
VII. Arrowsmith Doctrine
a. Report amount in income as a long-term capital gain (get preferential
rate) when they liquidate. Get sued by creditors and pay the creditors
back (Restoration of a Claim of Right). Arrowsmith wants to take an
ordinary loss (get whole amount w/no limit )
b. Arrowsmith Doctrine: When you make the claim of right (LTCG), the
loss has to have the same flavor [capital or not] as the gain (LTCL)
c. Skelly Oil: Looking at both §1341 and Arrowsmith Doctrine;
Overcharge from preceding year
i. 1952-57  overcharged
1. $505,536 in income , but special provision says that if
you’re depleting natural resources you get an income
break…so only $366, 513 is taxable
ii.Restoring - paying back customers the $505,536.
1. Now, they’ll get a deduction for paying back customers
and they’re trying to take the deduction for all $505,536
b/c “each year stands alone”
2. IRS says its only $366,513 b/c it’s not fair
iii.Ct looks at §1341 and Arrowsmith
1. Ct follows Arrowsmith and follows the IRS saying you can
deduct only to the extent that you had to report it as
income…Fairness Doctrine
iv.Ct says every year stands alone, but it doesn’t stop from
looking at how the income was taxed (did it get special
treatment?) and its flavor
v.Dissent: Agrees, but says either each year stands alone or it

Chapter 7: FLAVOR
I. Determining whether an asset is capital or not
II. If loss and capital asset  long-term or short-term capital loss
III. If gain and capital asset  long-term or short-term capital gain

ONE. Capital Asset

IV. §1221 (1) – (8): Capital asset defined

a. Important in Arkansas Best
b. Prop held by taxpayer, but DOES NOT INCLUDE these 8
things(everything else is a capital asset): (PARTIAL LIST BELOW…
i. Stock in trade (the raw materials a taxpayer uses to
manufacture or produce his inventory prop)
ii.Inventory Property
iii.Prop held primarily for sale to customers in the ordinary course
of biz
c. Regular biz income  Regular rates
d. Capital gain (prop held for investment)  preferential rates
e. Capital loss  limited loss
f. Ordinary loss  claim entire loss
V. When looking at capital assets, you’re trying to differentiate b/c regular
biz income and investment
a. Want to encourage investment, so you give a better rate if stock or
prop is held long-term
b. Also, asset is increasing value at least partially b/c of the length of time
you’re holding them
VII. What is Biz Income? Byram v US Byram sells 22 parcels of RE b/t 1971-73
for $9 mil, w/$2 mil in profit Did he buy props for investment or was it his biz?
a. Fact specific determination: length of holding, day job, RE
knowledge, amount of props/value of props, whether or not props were
advertized, did he improve props
b. District Ct says it’s investment b/c not held out for resale/flipping
VIII. Arkansas Best
a. Corn Products Rule: If you hold something for investment reasons,
you will get preferential tax rates, but if its just a regular biz income,
then ordinary income rates Corn Products
b. THE RULE WE USE AK Best Rule: §1221’s list of what is not a capital
asset is the beginning and ending of the analysis. If the asset is on the
list, then it is not a capital asset. If it’s not on the list, then it’s a capital
IX. Who is holding the prop? EX: Curt Cobain’s hand written notes go way
up in value after his death. If his estate/wife sell them, then it’s ordinary
income b/c it was part of his biz. But, if a collector buys the notes and
then sells them, he’ll get capital asset treatment b/c they were held for
investment purposes
X. Self-Assessment Questions (pg 487)
a. Machine used in trade or biz - Ordinary biz
b. Accts Receivable - Ordinary biz
c. Cash – capital b/c not on list, but doesn’t matter b/c there’s not going
to be an exchange
d. Patent - Capital b/c does not appear on the list
e. Personal Residence – Capital, but you get capital gain treatment over
and above §121 $500K exemption but not a capital loss
f. Art bought from unrelated person – capital
g. Art made by me – ordinary
h. Art from related party by gift - depends on how it was held by that
XI. Davis v Cmsr Is amt taxpayer received in exchange for assignment of their
right to receive a portion of certain future annual lottery payments is ordinary
income or capital gain?
a. Guy gets $x per year, but in 1997 sells 11 payments to Singer in return
for a lump sum of $1.04M
b. He argues that since this assignment is not on §1221’s list, as per AK
Best, it’s cap gain
c. IRS says that if it was ordinary income before, it’s still ordinary income
d. Ct says it’s ordinary income…can’t pull this trick! (4 Circuits have said
no now!)
XII. Timing
a. Short-Term Capital Gain < 1 year
b. Long-Term Capital Gain > 1 year

TWO. Sale or Exchange

I. What does “sale or exchange” under §1222 mean?

i. Might suggest that some kind of bilateral transaction must
occur, but cts have defined the term fairly broadly
b. Kenan v Cmsr Kenan died and put estate in her trust
i. Is the trust, which says there’s no sale or exchange, liable for the
capital gain (if it’s a capital gain)?
ii.Ct says there was a transfer regardless of what the will said, but
it’s capital gain b/c it’s a security and not on the §1221 list
iii.Purpose of Capital Gains provision is to treat an appreciation in
value, arising over a period of years but realized in one year,
that the tax will roughly approximate what the tax would have
been had a tax been paid each year upon appreciation of the
asset in value for that year.
II. Capital Loss
a. Capital Loss: Cap gain + $3k per year
b. EX: $10k cap gain, cap loss is $20k
i. You get cap gain plus $3k = $13k as a capital loss (not the entire
ii.The difference (the $7k) you can take the next year
1. Not sure why!


c. Davis v Commissioner:
i. He won the lottery – 13 million
ii.He’s going to get 19 payments of 679,000/yr
iii.In 1997 he sells 11 payments to Singer (CA pays part to singer
and part to davis) in return for a lump sum payment of
iv.He’s arguing that its capital gain because its not on the list in §
v.Ct said no way – it was ordinary when they were paid to you, it
stays ordinary when you sell it.
d. Long term v short term capital gain:
i. Long term: It has to be a capital gain (defined by 1221) and
must be held over 1 year to get the preferential rate. (so if it’s a
capital gain, but not held for longer than a year, you don’t get
the preferential treatment)
e. what does “sale or exchange” of a capital asset mean under §
i. Kenan v commissioner:
1. Kenan dies, in her will she put her estate in the trust
2. it was to pay her niece 5 mil on her 40th b-day.
3. Trust pays the money part in cash and part in securities
4. But the securities increases in value
5. Is the trust liable for the capital gain (if it’s a capital gain)
6. Trust says there is not sale or exchange (its just a
transfer) so its not a taxable event – they don’t need to
pay tax at all.
7. The ct says so what – this is a recognizable event – it
counts as a “sale or exchange” for purpose of capital
8. Ct says you have to pay tax but you get the preferential
capital gain rate.
f. Capital loss:
i. Rule: your capital loss is your capital gain plus 3,000 per yr.
ii.Ex: 2008 – capital gain is 10,000
a. Capital loss is 20,000
b. You get the capital gain(10,000) plus 3,000 =
13,000 as a capital loss (not the entire 20,000)
i. The difference (the remaining 7,000 of loss)
you can take it the next yr.
ii.(if it was ordinary loss you could claim the
entire 20,000 loss)
III. 1222 how to net capital gain and loss
a. 1222(50(6) short term capital gain plus short term capital loss = net
short term
b. 1222(7)&(8) long term capital gain plus long term capital loss = net
long term
i. then add the net short term and long term together (CHECK
1. RULES: only long term capital gain (over 1 yr) get
preferential rate (usually 20%) but if the long term capital
gain is a “collectable” then its taxed at 28% rate (because
this is not productive income (like stocks would be))
a. short term gain get regular tax rate. (34%)
IV. 1231 – special treatment for gains and losses from property used
in trade or business.
a. trade or business gains and losses are treated beneficially
i. if you have a gain out of this, you treat it as a capital gain
ii.if there is a loss, you treat it ordinary
b. congress passed this to benefit the business community.
c. However, if they way they define trade or business is much more
narrow then in section 162
i. “property used in trade or business” means - personal property
ii.Real property used in trade or business (see pg 520)
V. §1001 – determination of amount of gain or loss
a. GAIN = amount realized minus the basis
i. The entire amount of the gain is recognized unless another
section says the IRS will not recognize it (typically means they
will recognize it later)
b. LOSS = when excess adjusted basis is higher than the amount realized
c. Amount realized = money plus any FMV of property that is
i. Ex: bough apartment for 500,000 (basis), you sell it for 1 milion
(amount realized), your gain is 500,000
1. RULE: But if you “improve the property” you include that
into your basis (if it’s a repair it’s not included)
2. Ex: if you put a new roof (costing 10,000) to the
apartment, then you add that to your basis, so now your
“adjusted basis” is 510,000. thus your gain is lower (its
only 490,000)
3. RULE: if you take depreciation you have to add that in.
a. Ex: your apartment depreciates by 5,000, so your
adjusted basis is 505,000
ii.Ex: you sell the apartment, the purchaser give you ½ million
and another apartment building (work 500,000) – your amount
realized is still 1 million (this is an example of the rule that you
take the FMV of any property)
iii.RULE; relieved liabilities are factored into amount realized too.
1. Ex: home worth 250,000, she has a 100,000 mortgaged,
buyer pays 150,000 in cash and pays off the mortgage
(100,000) – so her amount realized is 250,000 (cash and
the release of liability) (ie her gain is 100,000 not 50,000
which it would be if you just counted the cash and not the
release of mortgage)
d. Crane v commissioner:
i. Crane buys property (apartment), he has a nonrecourse debt of
250,000 (so bank can only get building if he defaults on the
debt) crane dies and wife inherits building. She sells it for
2,5000 plus buyer assumes the mortgage (250,000)
1. What is the amount realized so we can figure out what her
gain is?
a. Mrs. Crane says the amount realized is 2,500 and
her basis is 0.00
b. The IRS says no way – you have to add in the
mortgage that is assumed
i. She says no way, it was nonrecourse I ddint
have to pay the debt back
ii.IRS said so what
c. IRS says 2,5000 plus the relief of mortgage =
amount realized is 252,500 minus her basis
(250,000) (the dead guys) minus depreciation she
claimed 25,000 = 27,500
i. IRS says why are you claiming depreciation if
you say its not your debt that you have to
pay back.
e. Cmsr v Tufts Taxpayer buys apt complex w/ non-recourse loan (bank
has recourse agst prop, but not agst investors personally) for
$1,851,500; mkt goes in the tank and want to sell at $1.4M
i. When selling, given $250 cash from buyer + taking over non-
recourse loan
ii.Basis in prop at selling = $1,455,740 b/c depreciation brought it
down from the $1.85M
iii.Taxpayer wants $55,740 loss (basis – FMV)
1. IRS says no
1. Gain = amt realized – the basis
2. Amt realized = $250 + mtge ($1.85M) = $1,850,250 amt
3. Basis = 1,895,000 ($50k of own money) – Depreciation
($440k) = Adjusted basis ($1,455,000)
4. Gain = 440k – 45k cash- 250 paid by purchaser =
v.RULE: Treat non-recourse loan as a real note
VI. § 121 – exclusion of gain from sale of principal residence:
a. single – 250,000 of gain is not taxable
b. couple – 500,000 of gain is not taxable. (it is excluded)
i. so long as it is your principal residence
ii.can only be done 1 every 2 yrs.
a. if you donate to a 501©(3) organization you can deduct it on your tax
return, only if you itemize your deductions

– §501(c)(3) – Public, religious charities corps t up specifically for certain

○ No substantial part of the activities of which is carrying on propaganda,
or otherwise attempting to influence legislation
 This is the focus of whether the LDS Church should lose its
501c3 status
 Substantial Part = the questionable part
• Murphy doesn’t think this has been violated b/c Church
hasn’t given more than $2k
○ Can’t endorse a political candidate
 This is not the focus

I. Cmsr v. Tufts