on 111(b) and (c).
Alice Phelan Sullivan Corp. v. United States
Court of Claims of the United States, 1967
381 F.2d 399.
а
COLLINS, JUDGE.
Plaintiff, California corporation, brings this action to recover an
alleged overpayment in its 1957 income tax. During that year, there was
returned to taxpayer two parcels of realty, each of which it had previously
donated and claimed as a charitable contribution deduction. The first
donation had been made in 1939; the second, in 1940. Under the then
applicable corporate tax rates, the deductions claimed ($4,243.49 for
1939 and $4,463.44 for 1940) yielded plaintiff an aggregate tax benefit of
$1,877.49.1
Each conveyance had been made subject to the condition that the
property be used either for a religious or for an educational purpose. In
1957, the donee decided not to use the gifts; they were therefore
reconveyed to plaintiff. Upon audit of taxpayer's income tax return it was
found that the recovered property was not reflected in its 1957 gross
income. The Commissioner of Internal Revenue disagreed with plaintiff's
characterization of the recovery as a nontaxable return of capital. He
viewed the transaction as giving rise to taxable income and therefore
adjusted plaintiff's income by adding to it $8,706.93—the total of the
charitable contribution deductions previously claimed and allowed. This
addition to income, taxed at the 1957 corporate tax rate of 52 percent,
resulted in a deficiency assessment of $4,527.60. After payment of the
deficiency, plaintiff filed a claim for the refund of $2,650.11, asserting
this amount as overpayment on the theory that a correct assessment
See Lindsay, "An Asset-Based Approach to the Tax Benefit Rule," 72 Cal.L. Rev. 1257
(1984); White, “An Essay on the Conceptual Foundations of the Tax Benefit Rule," 82
Mich.L.Rev. 486 (1983). Bittker and Kanner, "The Tax Benefit Rule," 26 U.C.L.A.L. Rev. 265
(1978); Corlew, “The Tax Benefit Rule, Claim of Right Restorations, and Annual Accounting: A
Cure for the Inconsistencies," 21 Vand.L. Rev. 995 (1968); Willis, "The Tax Benefit Rule: A
Different View and a Unified Theory of Error Correction,” 42 Fla.L. Rev. 575 (1990).
There is a comment on Sullivan at 66 Mich.L.Rev. 381 (1967). Ed.
The tax rate in 1939 was 18 percent; in 1940, 24 percent.
1
661
CHAPTER 20
How INELUCTABLE IS THE INTEGRITY OF THE TAXABLE YEAR?
could demand no more than the return of the tax benefit originally
enjoyed, i.e., $1,877.49. The claim was disallowed.
This court has had prior occasion to consider the question which the
present suit presents. In Perry v. United States, 160 F.Supp. 270, 142
recognized that a return to the donor of a prior charitable contribution
Ct.Cl. 7 (1958) (Judges Madden and Laramore dissenting), it was
court's point of division-which is likewise the division between the
gave rise to income to the extent of the deduction previously allowed. The
instant parties-was whether the “gain" attributable to the recovery was
to be taxed at the rate applicable at the time the deduction was first
claimed or whether the proper rate was that in effect at the time of
recovery. The majority, concluding that the Government should be
entitled to recoup no more than that which it lost, held that the tax
liability arising upon the return of a charitable gift should equal the tax
benefit experienced at time of donation. Taxpayer urges that the Perry
rationale dictates that a like result be reached in this case.
The Government, of course, assumes the opposite stance. Mindful of
the homage due the principle of stare decisis, it bids us first to consider
the criteria under which judicial reexamination of an earlier decision is
justifiable. We are referred to Judge Davis' concurring opinion in
Mississippi River Fuel Corp. v. United States, 314 F.2d 953, 958, 161
Ct.Cl. 237, 246–247 (1963), wherein he states that:
***. The question is not what we would hold if we now took a
fresh look but whether we should take that fresh look. ***.
(We) examine anew the issue which this case presents.
A transaction which returns to a taxpayer his own property cannot
be considered as giving rise to "income”-at least where that term is
confined to its traditional sense of "gain derived from capital, from labor,
or from both combined.” Eisner v. Macomber, 252 U.S. 189, 207, 40 S.Ct.
189 (1920). Yet the principle is well engrained in our tax law that the
return or recovery of property that was once the subject of an income tax
deduction must be treated as income in the year of its recovery.***. The
only limitation upon that principle is the so-called "tax-benefit rule." This
rule permits exclusion of the recovered item from income so long as its
initial use as a deduction did not provide a tax saving. *** But where
full tax use of a deduction was made and a tax saving thereby obtained,
then the extent of saving is considered immaterial. The recovery is
viewed as income to the full extent of the deduction previously allowed.2
Formerly the exclusive province of judge-made law, the tax-benefit
concept now finds expression both in statute and administrative
regulations. Section 111 of the Internal Revenue Code of 1954 accords
The rationale which supports the principle, as well as its limitation, is that the property,
having once served to offset taxable income (i.e., as a tax deduction) should be treated, upon its
recoupment, as the recovery of that which had been previously deducted. See Plumb, "The Tax
Benefit Rule Today," 57 Harv.L.Rev. 129, 131 n. 10 (1943).
662
THE YEAR OF INCLUSION OR DEDUCTION
PART 5
income for prior taxable years ***"4
tax-benefit treatment to the recovery of bad debts, prior taxes, and
delinquency amounts.3 Treasury regulations have "broadened" the rule
of exclusion by extending similar treatment to "all other losses,
expenditures, and accruals made the basis of deductions from gross
4
Drawing our attention to the broad language of this regulation, the
Government insists that the present recovery must find its place within
consistent with the treatment provided for like items of recovery, i.e.,
that it be taxed at the rate prevailing in the year of recovery. We are
the scope of the regulation and, as such, should be taxed in a manner
compelled to agree.
Set in historical perspective, it is clear that the cited regulation may
not be regarded as an unauthorized extension of the otherwise limited
congressional approval given to the tax-benefit concept. While the
statute, (i.e., section 111) addresses itself only to bad debts, prior taxes,
and delinquency amounts, it was, as noted in Dobson v. Commissioner,
320 U.S. 489, 64 S.Ct. 239 (1943), designed not to limit the application of
the judicially designed tax-benefit rule, but rather to insure against its
demise. "A specific statutory exception was necessary in bad debt cases
only because the courts reversed the Tax Court and established as matter
of law a 'theoretically proper' rule which distorted the taxpayer's income
[i.e., taxation of a recovery though no benefit may have been obtained
through its earlier deduction)." 320 U.S. at 506, 64 S.Ct. at 249.
The Dobson decision insured the continued validity of the tax-benefit
concept, and the regulation-being but the embodiment of that
principle-is clearly adequate to embrace a recoverable charitable
contribution. See California & Hawaiian Sugar Ref. Corp., supra, 311
F.2d at 239, 159 Ct.Cl. at 567. But the regulation does not specify which
tax rate is to be applied to the recouped
deduction, and this consideration
brings us to the matter here in issue.
Ever since Burnet v. Sanford & Brooks Co., 282 U.S. 359, 51 S.Ct.
150 (1931), the concept of accounting for items of income and expense on
an annual basis has been accepted as the basic principle upon which our
tax laws are structured. “It is the essence of any system of taxation that
it should produce revenue ascertainable, and payable to the government,
at regular intervals. Only by such a system is it practicable to produce a
regular flow of income and apply methods of accounting, assessment, and
collection capable of practical operation." 282 U.S. at 365, 51 S.Ct. at 152.
To insure the vitality of the single-year concept, it is essential not only
that annual income be ascertained without reference to losses
experienced in an earlier accounting period, but also that income be taxed
without reference to earlier tax rates. And absent specific statutory
authority sanctioning a departure from this principle, it may only be said
3 [I.R.C. $ 111 and Reg. $ 1.111-1 is omitted. Ed.]
4 Id.
How INELUCTABLE IS THE INTEGRITY OF THE TAXABLE YEAR?
663
CHAPTER 20
of Perry that it achieved a result which was more equitably just than
legally correct. 5
Since taxpayer in this case did obtain full tax benefit from its earlier
deductions, those deductions were properly classified as income upon
recoupment and must be taxed as such. This can mean nothing less than
the application of that tax rate which is in effect during the year in which
the recovered item is recognized as a factor of income. We therefore
sustain the Government's position and grant its motion for summary
judgment. Perry v. United States, supra, is hereby overruled, and
plaintiff's petition is dismissed.
PROBLEMS
1.
In year one Taxpayers filed a joint return showing gross income of
$45,000 and deductions of $48,000, which included state real property taxes
paid on their residence in the amount of $5,000. Contesting the amount of
their liability for the state property taxes, Taxpayers successfully brought
suit for a refund of those taxes. What result to Taxpayers in the following
alternative circumstances?
(a) In year two, they get a judgment for and receive a $2,000 refund.
(b) In year two, they get a judgment for and receive a $4,000 refund.
(c) What result in (b), above, if they had no itemized deductions
for year one other than the $4,000 in taxes and they claimed
the standard deduction for year one?
2. Compare 111 with § 1341. Which is friendlier to the taxpayer?
Purchase answer to see full
attachment