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Author:  	Mr. Robert Linton Reeves Munden (rlrm.utlaw@mail.utexas.edu)
School:		University of Texas School of Law
Course:		Federal Income Taxation
Year:		Summer Session, 1995
Professor:	Evans
Book:		Federal Income Taxation, 10th Edition, by Kline

DEFINTIONS
GI = §61:  realized accretions to wealth; increases to wealth; earnings, salary, (list not exhaustive)
TY:  any year, 365 days
D = non-taxable expenditure; realized decrease in wealth
TR = §1; based upon TI
AGI = GI - “above the line deductions” [business, not personal]
	why--stricter defn of bus, want to encourage bus
	indicator of how well off you are
TI = AGI - “below the line deductions” [personal, misc.]; “net” concept
	why--more suspect, not nec to foster business
	corps do not get these b/c by defn personal
MR = marginal tax rate; rate at which income above given thresholds is taxed
	why--allows progressivity, indexation w/o disincentive to earn next dollar accompanying a step fn TR
		rational people base decisions to earn on MR, not avg TR
TL Tax liability = TI(MR)
Tax Credit = $ amt applied to TL, not TI  TC much better than D b/c 1/1 elim of tax owed (D = MR/1 elim)
		people in higher MR always value D more than those in lower TR

BASICS

§ are law, passed by Cong
1.xxx are regs, by DoT--IRS only has auth to extent they reasonable interpret the §
OOP:  ^; IRS Revenue Rulings; IRS Revenue Proceedings; IRS Private Letter Rulings
--below DoT, very changeable; PLRs not citable
SD std deduction: §63, inflation adjusted
PE personal exemption:  §151, inflation adjusted 
	why--P2:  shields survival/subsistence income from taxation  subsistence income = PE + SD
investment/property not D b/c not a decrease in wealth, merely a shift in wealth--cost of acquiring asset  D

Tax Systems
progressive = MR increases as TI increases--US FIT
proportional = same rate wort I--poll tax
regressive = MR decreases as income increases--sales, excise, VAT

Tax Expenditure Budget
shows all deviations from a theoretically pure progressive IT system--net cost to Feds of all deductions, 	loopholes, credits, deferrals (delay income recognition), fringe benefits
--shows the cost for encouraging different beh
probs:  can change defn of I to exclude s.t and  hide it
	not beh neutral
	actual #s given projected,  not certain (do not account for beh effects, intermingling/multiplicative eff)

FICA
7.65% by both Er & Ee for all I  $60k; 1.45% >60k for both Er & Ee; if indep contractor, pay both
example of regressive tax:  MR decreases as income increases, plus only on earned I
	but FICA bene --very progressive

Tax Policy
Three goals to any rational tax system:
Fairness:  TL linked to ability to pay; 1) horizontal--those who earn = have = TL; and 2)  vertical--those who 	earn > have >TL
Simplicity/Adminstrative Feasibility:  sys does not impose DWL on society:  admin + enforcement + political
Economic Efficiency:  tax  distort beh  mkt mech det where $ goes

			EFFICIENCY			SIMPLICITY			FAIRNESS                           .
FIT		worst					bad				best
	
VAT		poor, but better than FIT		much better than FIT		worse  (vertical )
											
Poll		very good				some better than VAT	worst    (completely )

VAT	--ultimately consumer pays all tax; diff from US sales tax b/c assessed @ every level of activity, not 			just point of sale
	--encourages fewer levels of exchange/infrastructure, disincentive to cheat b/c taxes collected anyway
	--treats saving neutrally--only taxed once

FIT	--discourages savings b/c you are taxed wort actual spending--I taxed as earned
	--we sub spending for saving b/c saving relatively overtaxed 
		but may increase effort to increase I to compensate  if this more important, want FIT b/c get 				both spurred economy and increased savings
		but may be able to better target the savings we want to
	--interest is 2x taxed--once when principal earned, again when interest accrued

Haig-Simons Income
HSI = economic income for a year = consumption + [net  in wealth (assets and liabilities)]
1.  increase in wealth may mean you have income even w/o realization
2.  even though you consume, it is taxable under FIT even though you cannot use it to pay the taxes

Penalties
wilful attempt to tax evade (felony)--100k + 5yrs	§7201 p797
wilful failure to file (misdemeanor)--1yr		§7203
fraud, perjury, aid/abet				§7206

can take aggressive stance by saying you have 1/3 chance of prevailing on your position 
--if too weak to supt your belief, can be sanctioned w/civ penalty + tax + interest
--need realistic probability of success, “substantial authority”
if meet 1/3 but still wrong, just owe tax + interest

Fringe Benefits
FB = 	Er pays 3d party on behalf of Ee for bene given to Ee
	s.t. and Er provides an Ee which he would not otherwise be able to D
	tax favored b/c paid w/pre-tax dollars  increase effective amount by MR  more imp as MR ^
	econ = to taking a deduction                   after tax bene = (pre-tax cost)  (1-MR)
	excluded  no FICA, too; NOT included and then deducted
	Old Colony
	§61 says Fbs taxed, but §125 lists exceptions; also §119, §132
Cost neutral to Er--don’t care either way
P2 problem:  	FB favor those in higher MR more, though they arguably need less
		econ ineff b/c will take s.t. even if it is worth less than nominal cost b/c w/MR effect may still be 			better (e.g., 10k meals, 28%MR--only need to value meals @ $7201, even though cost 				$10k  ineff b/c take up resources valued at less than cost
			 e.g. of waste b/c non-neutral
Fixes:	AMT/tax ‘em/allow = D for indiv/exempt cash from tax
P2 argts:	Tax ‘em
		1.  DWL
		2.  encourages spending at expense of saving
		3.  compliance problem--don’t want sys to be unfair
		Don't Tax ‘em
		1.  externality--we want to encourage some beh, this is efficient mech (but indiv don't bear full 				cost to society)
		2.  paternalistic--encourage “right” beh
	or, lower overall TR and make all FB taxable to compensate  broadening base (but gov’t has hist of 			^ TR thereafter)
Benaglia--remote HI hotel room provided
	H:   I b/c for convenience of Er
	DIS:  should pay tax for the FMV of what he would have had to have spent anyway (valuation probs)
	RoL now:  §119 meals & lodging excluded from GI if 1)  on premises of Er & 2)  for convenience of Er
		--e.g. remote sites, on-call
		--seems overgenerous, but converse is too harsh
§132  Misc FB
	1.   0 add’l cost svcs
		can give Ee for free type of service provided to pub in incur “no subst” add’l cost to do so
		--don't want to tax giving away of unused assets                         ^p875 1.132-295ii
		available to wife & kids b/c define Ee that way for this §132h p106-7
		line of business requirement--1.132-4a2 p.880 must be closely linked to parent co, no ofc supl.
			otherwise looks like compensation, adv to conglomerates
		must be non-discriminatory--must give to rank and file (may depress cash compensation so 				exec can get it)
	2.  qualified Ee discounts
		provide good/svc to Ee  cost of good/svc to Er for non-compensatory bus reason
		--if sold to Ee < cost, TI = (Er cost) - (Ee cost)
		can be itemized or averaged over an area (in essence, deduct overall profit margin)
		for services, discount = 20% for all (b/c can’t be sure on indiv basis what profit = )
		line of business requirement--1.132-4a2 p.880 must be closely linked to parent co, no ofc supl.
			otherwise looks like compensation, adv to conglomerates
		must be non-discriminatory--must give to rank and file (may depress cash compensation so 				exec can get it)
	3.  working condition FBs
		s.t. Er gives to Ee which Ee can D anyway under §162 as a bus expense	
		--e.g., uniforms, special shoes, org memberships/dues
		why?  0 net effect who Er/Ee takes  neutral; why bother w/hassle of reporting; not meant to 				compensate not really I
		Indep GenK?  1.132-1b2iv p. 873 includes them  don’t include in GI
	4.  de minimis:  1-132-6e p884
		bene which would normally be included in GI, but so small it isn’t worth accounting for it  				completely exclude from I
			e.g.:  quick use of co car for pers use, coffee;  season tix, clubs
		non-discrim & LoB n/a b/c too small to matter

§79--group term life ins up to 50k (taxed > 50k)
§106--disability & med ins (no lim)
§127--education assistance up to $5259/yr, doesn’t have to be job related
§129--dependent care up to $5k/yr (but decreases 1for1 maximum amount claimable under CCC)

Imputed Income
Good:		Value you receive from using an asset  which builds up capital:  living in own home  I, but if 				had to rent would decrease wealth--tenant owner ignored
			--but cannot deduct repair & depreciation on tenant owned home, can for investment 					home
			Home mortgage int D for home1 & home2, but TI only from home2, and then only if 					rented	
			encourages home buying; allows offset of mortgage even though not taxed on II
			allows D on expense of asset generating I (imputed) that is not taxed
			 home attract a disproportionate amount of investment capital in US  homeowners 					pay more for home than should b/c competition is artificially high b/c of tax adv
	applies to any durable good which you could rent as opposed to buying:  as long as you own it and 			don't (readily) consume it, you have II  taxed
	could theoretically tax this II (counties, Sts do) but politically impossible and admin expensive
Service:	Value you receive from good/svc you provide yourself:  housekeeping  I, but if had to pay for 				it, would decrease wealth
		happens b/c of marriage penalty--incomes are combined at taxed at highest MR,  if 2 					incomes, the 2nd must be viewed as all coming at the highest MR
		results in misallocation of resources b/c to be worth going to work, 2nd I must have 
			Vsvc@home < Vscv@work-MR, which is tough at a 28% discount or better
	 if MR was less across the board, the tax base would be broader b/c more people would go to work 	b/c MR would not deter them
	no effective way to tax this ( argt for VAT)--too intrusive, end up taxing leisure
	reduce problem by lowering MR & giving other credit/D to get people to work
		--fund prob is that sys  neutral

Gifts and Bequests
FIT
§102	--gifts & inheritances are not FIT taxable to donee if intent of donor was not to receive any benefit
	--income form gift is TI
	--gift not D to donor b/c personal (not bus §262 p189)
	--gifts are econ I, but  TI
gift:  s.t. given to another w/o expectation of recompense in any way
Duberstein test:  based on donor’s intent
	1.  must be detached and disinterested generosity
	2.  cannot be b/c of moral/legal obligation
	3.  cannot be to get future/potential bene profit
	determined from surrounding facts/events
--creates uncertainty b/c donee needs to know donor’s intent
--Frankfurter wanted presumption that put BoP on taxpayer to show it was a gift if in a bus relationship

BASIS §1015
GIFT:  donee inherits basis (not stepped-up) from donor (Taft v. Bowers)
--if basis not carried forward, people would just give stuff away to avoid taxation on realization
--not inflation adjusted b/c the CG is not inflation adjusted
--if don't know basis, then basis = 0 ( total sale amt = GI)
INHERITANCE:  devisee inherits asset w/basis stepped-up (or down) at Tdeath
--b/c can’t control what is willed to you; want to encourage xfer of wealth
--creates incentive to hold appreciated assets until death so can will away w/higher basis
planning opportunities:  rather than sell assets to give $ to kids, give them the assets and let them sell b/c will 	be taxed at their lower MR
DEPRECIATED GIFTS:  if gift has FMV<basis (unrealized loss), donee cannot take the loss
	if gift sold later for:	P< FMV@Tdonation,  take (FMV@Tdonation-P) as loss (b/c V lost by donee)
				P> FMV@Tdonation<basis, no gain or loss
				P> basis, gain (GI) = (P - basis)
Thus, can shift gain to a lower tax bracket, but can’t shift loss to a higher one
 if 	MR40 --> MR15, appreciated asset, gift
 	MR40 --> MR15, depreciated asset, sell (b/c can’t pass loss), take loss, give $
	MR15 --> MR40, appreciated asset, sell (b/c lower MR when sold), pay tax, give $
	MR15 --> MR40, depreciated asset, sell (b/c can’t pass loss), take loss, give $
		    --but if significant difference between basis and FMV@Tdonation, then would allow MR40 to 			take up to basis w/o GI

Federal Gift & Estate Taxes ( FIT)  §2001 p662
federal tax on xfer of wealth--an excise tax on a privilege 
--originally to be rid of dynastic wealth, populism; doesn’t raise much money
1.  $10k/yr each donor per donee not taxed  §2503b 
	--don't want to deter gifts, so have $10k/yr de minimis rule; no relation required
	--e.g. H&W can each give 10k/yr to each kid
2.  $192k lifetime tax credit per donee (wort donor(s)) 
	 can receive up to $600k w/o paying G&E tax, plus $10k/yr (10k does not use up any of 192k credit)
3.  MR imposed on donor (not donee) @Tdeath for all gifts during life + will, not including $10k/yr
	for gifts not in 1, but >600k, TR = 37%; highest MR = 55% (for >$3m)
4.  Child support does not count at all--unlimited child support is available
5.  Unlimited marriage allowance--can give between H&W unlimited amount   §2056 ( H+W give $1.2m/yr)
6.  Charitable donations also unlimited §2522
7.  Tuition, medical expense gifts also unlimited, even if unrelated §2503e

Windfalls
punitive D, treasure trove, pot luck, lottery
Glenshaw Glass:  Goldman gets 3xD + Dcomp--what tax treatment?
	Dcomp = GI b/c designed to replace/substitute $ that would have been earned
H:	Dpun = GI b/c defn of GI  “gains or profits from any source whatsoever”
XVIA--Cong can only tax income, so very imp to det what I means
p128 “accession to wealth over which taxpayer has complete dominion”  = “looks like wealth to us”

Cesarini:  buy old piano, find $ stash--how & when taxed? (originally declared in GI, then 1040X to refund)
H:  	windfall = GI in year found

Bargain Purchase--different from windfall b/c of intent
	if P << FMV, bargain purchase
	if P = FMV, but you find s.t. valuable = I
	BP taxed when gain realized--like an investment
treasure taxed when received or found, but not taxed until §oL up for finder--not taxed when sold

Annuities
a periodic payment for life/2 lives/ToY--paid up purchase--to avoid having excess assets @ death
--gamble b/c could die prematurely, not get money’s worth; ins co does so it can get the interest
2 elements:  1)  risk sharing + 2)  investment interest
depreciated at flat rate, not actual rate, against payments using actuarial LE p840 1.72-9
	 (NPV (year1) of flow of payments  expected payout (based upon actuarial table)) = exclusion ratio
	then ER x Annuity Pmt = (exclusion amount) 
	(1-ER) x Annuity Pmt = GI    same amt each year if annuity pmt same 
	b/c ER is not income, does not represent investment I, merely cost of capital over time
§72 excludes the cost recovery for mortgages and annuities; must be insurance company
no limits + flexible investment 

MORTGAGE v. ANNUITY   borrow 379.08/5yrs 10%; buy annuity of $100/yr/5yrs for $379.08 (= 10%)
				Mortgage						Annuity
		balance	pmt	int pd	princ			pmt	int	princ
year 1	379.08	100	37.91		62.09			100	25	75
year 2	316.98	100	31.70		68.03			100	25	75
year 3	248.68	100	24.87		75.13			100	25	75
year 4	175.53	100	17.56		82.44			100	25	75
year 5	 90.91	100	 9.10		90.91			100	25	75
					^^^^^^					^^^	^^^
					GI to bank					GI	D		
					D to HO					to taxpayer

	Key: system set up to favor both b/c TVM
		1.  w/Mort, get to D int pmts which are front heavy
		2.  w/Annuity, get to deduct average int pmt, even though actual recovery is front loaded ( 				deferred) = accelerated depreciation
	Favors Annuities even more b/c allows inside build-up:  only taxed when received, not during life 			before pmts, thus the interest accumulating "inside" the annuity is not taxed,  you get interest 		on the additional money you would have had to pay in taxes if the annuity had been taxed 			every year
Danger:  putative/imputed taxes from sales charges/commissions--usually competitive, so few probs now
Now unisex table; lowers recovery for men b/c they essentially "live" longer in the eyes of the company
	--opposite for women (windfall--they seem to "live" shorter lives)
Why should they be favored?
	1.  encourage savings
	2.  encourage saving for old age/retirement (penalty for early withdrawal)
e.g.:  buy for 120k; 1k/mo for life @60:  what is tax treatment
	1.  what is LE?		[16]

	2.  what is ER?    		[120,000  =  .625	]
					[(12k)(16)	   	]

	3.  Excludable amount?   	[(ER)(PMT) = .625(12k) = $7500]

	4.  GI?				[(1-ER)(PMT) = .375(12K) = $4500]

	5.  What if live beyond LE?	[All PMT = GI]

	6.  What if die bef LE?	[can deduct all of unrecovered principle amt against that year's tax]

Life Insurance
Term
§101(a)  benefits paid due to death 
premiums  D, though
	but Er can provide <50k of ins as FB

Whole/Integrated/Endowment  
= term life + savings quality
the difference between what you would pay for term and what you pay for whole is invested, and not taxed
	(whole cost) - (term cost) = savings amt, not taxed until withdrawn
GI at withdrawal = (savings pmt) - (premiums paid)
Advantages:
--b/c not taxed as accumulated, but at withdrawal, also gets "inside buildup"--interest on taxes deferred
--makes the ins premiums tax-free (pretax $) b/c allowed to deduct them against the current expenses	
--b/c commit early, get to lock in rate (premium)
--tax deferral
e.g.	30yr whole life; 3k/yr premium; 175k benefit
	if you die before 30 yrs, survivor gets 175k, no tax paid b/c mere death benefit 
	if you die some time after 30yrs, at 30yr point, you get 175k and walk away
	--represents your saving account
	GI = (175) - (30)(3) = 85k
	
Damages/Settlements
Business
who pays the tax on settlements/damages awarded
dams to comp for lost bus profits= GI to recipient   Glenshaw Glass 
dams for fraud = GI to recipient
§1033--Invol Conversions
but....if dams used to rebuild bus from invol conversion (plane crash), then amt of dams used to rebuild GI
	why?   b/c don't want to penalize for invol conversions
		want to encourage rebuilding, continuing investments
	but must be same property (not next door) b/c then he would be able to take adv of conversion w/o 			paying tax--here we would step up the basis, but he would pay tax now
	if all dams are used in rebuilding, basis after = basis before
	thus, system gives low basis by not taxing reinvested dams initially, plus lowers depreciation
		so pay more taxes, but later, so better
but....if dams not used to rebuild bus, then GI = (dams) - (basis in bus)
	why?  b/c accretions to wealth--reps the increase in value of bus that you elect to take
		--in essence, you make an involuntary conversion voluntary by not reinvesting
Individual
§104(a)2
why not just sell your body parts?  0 basis in human capital, just as with your "work"  all I = GI
IRS doesn't tax for PI b/c valuation too hard (1922 solicitor's opinion)
--even if some of the dams are to comp for future earnings
	why?	1)  not sure victim is getting enough
		2)  compassion
		3)  maybe unCons b/c may be taxing s.t./part  I
Do juries know @ taxability ( deflate awd accordingly)?  Fed--->YES; ST---->some
 b/c may be taxed unfairly, taxed on none, so almost always a windfall to recipient
				compensatory dams		punitive dams
non-physical injury		no tax				taxed
physical injury			no tax				no tax
br/K				taxed				taxed

Tort dams
probably exlcuded, but may be in certain cases
--if PI ( necessarily a T), excluded 
--but if T   PI (IIED, defamation), then dams = GI
prob:  ED dams may not have phys manifestation (argue for  GI by saying that had other phy results

Contract dams
may be excluded, but probably not
why?  dams usually are for R&R, rarely punitive  looks like compensations for lost bus/profits  GI

OLD:  Title VII suits are generally br/K w/ Cong set dams as back pay  looks more like br/k dams  GI
NOW:  Cong changes in light of ^, gives broader remedies   GI
--Burke lost, but b/c of that, tax law changed and helped many afterwards

Punitive dams
 GI if connected to PI
= GI if not connected to PI
--big fight b/c hard to tell what is PI related, what isn't
	--if no PI, wouldn't have underlying suit ( all punitive dams  GI)
	
Attorney Fees per §
§265(a)1, 2
atty fees = GI for non-taxable AND taxable awards
§212
if for K dams, may be D as bus expense + costs are D as bus expenses
--b/c costs of earning income are D
 get atty to allocate most time to comp dams, not pun dams, so can D these as cost

CANCELLATION OF INDEBTEDNESS INCOME
COD income--when creditor allows incomplete payback of debt in full satisfaction
decreases in payment obligations are treated as GI  taxable
§108 lists exceptions to this rule
consistent w/HS income, but delayed (b/c value of debt actually decreases before repurchase/obligation)
a decrease in debt will be considered the same as an increase in wealth; repurchasing debt for discount
e.g., buy back bonds at less than issue price due to interest rate flux
recourse debt--creditor has full recourse--sue, force bankruptcy, take other assets--to satisfy debt
non-recourse debt--creditor limited in remedy to seizure of collateral
	--neither recourse/non-recourse affects basis
if you purchase house for price discounted by debt obligation, basis = (price) + (debt obligation) b/c debt 	viewed as cash for this transaction

US v. Kirby Lumber   issued bonds, buys back at 138k less than issued for
H:  this COD = GI, taxable

Bankruptcy
Ch 7--straight bankruptcy--liquidate all assets to satisfy creditors
Ch 11, 13 are "work-outs" solve debt plan over time; don't lose business
§108a1a exempts COD income from Ch 7, 11, 13   (but may not wipe out IRS debts owed)
why?  	don't want to deter business
	allows fresh start (COD would undermine this principle of bkrptcy)
	have no ability to pay any taxed incurred b/c bankrupt
but....if debt decreased to point that FMV assets > debt owed, then pay tax on difference (surplus)
	thus, if FMV = 200, debt was 500, reduced to 150, GI  = 200 - 150
	why--because now you are solvent, and have ability to pay
	 if you are insolvent but not bankrupt, you may reduce debt and not incur income, but only to 			threshold of solvency
inconsistent b/c even though COD income  GI, all other income still counts while insolvent; if wanted to be 	consistent, would forgive all other income, too 
must decrease basis in capital by amount of debt reduction, too
why?  debtor used the debt to acquire these assets, and they should reflect the value of the debt
--the debt funds these tax attributes; if basis not reduced, US effectively pays for them
--if no tax attributes, then forgiven; no carry-forward
 if don't buy prop, can't be hurt  favors credit card payers who buy svcs, not things

Farm debt 
 COD income, but must reduce basis in farm by same amount (thus not tax forgiven, but deferred)
so, if 30k reduction, must decrease basis somewhere on farm by 30k
COD forgiveness is only good if depreciation rate < interest rate, but tax deferred, too

Debt for Equity Swaps
--lowers current interest pmts b/c no longer have to pay on coupons
--stockholder have no right to force bus into bankruptcy, but do own what is left after a bankruptcy
if cash were swapped instead of stock, would = COD income
§108e8 now says that if stock swapped for debt in a work-out (11/13), it will be viewed as cash pmt  = FMV of 	the stock, thus taxable as COD income
	--this inhibits work-outs, encourages bankruptcies

Illegal Income
must pay tax on illegal income

Gilbert pres of lumber co wants to merge, so individually buys stock of that co so he can force merger; but he 	can't buy enough, so bought on margin; had his bus meet the margin call w/o director's approval = bus 	paid personal obligation
IRS:  you are embezzler  owe tax
H:  no, not embezzler b/c he had an obligation to repay, thus didn't have net increase in wealth
	b/c he told others and merger was in company's interest

Tax Exempt Income
§61 includes interest, but §103 excludes interest on subFederal gov't bonds
 interest from any ST/local bond  GI
§103 [p82] defines ST bond:  and debt obligation of any political subdivision of any state
if MR40, taxable bond interest rate = 10%, what is equivalent tax-exempt bond rate for same after tax yield? 	6% b/c PTY = TY - MR(TY) = (10%) - (.40)(10%) = (10%) - (4%)
since cannot fund enough bonds at MR40, must target down to MR28 
	 @ same 10% ^, PTY = 10 - (10)(.28) = 7.2%
why?  allow munis bene of non-taxability , not individual
--but b/c must target for MR below 40, all at above MR targeted get windfall b/c rate is more favored than 	necessary to attract them
--^ MR40 people could exclude an additional 12% of tax
--the richest people benefit the most from this provision
could get rid of this, tax all bonds, and then Fed could refund tax difference to STs directly
	--but Feds could always change later, admin inefficiency, make mkt ambivalent  depress bond mkt 

Tax Arbitrage
riskless profit
if in MR40, may want to borrow to finance TE bonds; thus buy bonds at lower % than loan, but come out 	ahead b/c can deduct interest on loan and interest paid by bond
§265 not allowed:  cannot deduct interest on loans used to buy TE bonds
but....is implicitly allowed in home ownership b/c you can buy an investment (home) and deuct taxes while 	excluding imputed income and deferring CG

REALIZATION DOCTRINE
to realize the gain, you must have a change in form of the investment
--^ described as realization events
not taxed on change in wealth until realized--represents a very narrow concept of income, but is now required
	that is, it is now unCons to tax unrealized wealth
may not be pure system, but to change system now to tax unrealized wealth would be too hard due to: 
	(1) admin costs (2) valuation probs (3) req huge infrastructure (4) may have illiquid asset ( no 			access to its wealth)	
the realization doctrine allows you to defer wealth (by investing in growth assets that don't give current 	income flows)
	inherently nonneutral b/c favors CG, allows inside buildup for non-div paying assets
	 reduces real effective rate of tax
favors CG stocks, real estate over bonds
--but free to choose either as an investment; but rich are only ones with access to all the choices.
RE has implicit taxes b/c of its favored status, there is artificially high demand for it  bidding up price

Eisner v. McComber bus pays dividends in stock, I:  is it taxable income?
H:  stock dividends  taxable b/c not income, mere distribution
 IRS reg wrong wrt this unCons b/c can only directly tax income, nothing else    

why issue stock dividends (usually done through a stock split)? 	
	keep price of stock down, allow investment more easily, allows more rapid gain, dilutes ownership
	--sends message:  we want to reinvest our profits internally b/c we are profitable  suggests a 				permanent increase in capital, so price may go down, but not as much as % dilution

If dividend had been cash, would = GI
	why different?  b/c now it is realized--you have converted that wealth increase so that it can be used, 			even if involuntary

exceptions:
§1256:  requires mark to market for people owning commodity futures
	that is, essentially realize your change in wealth at the end of every year, and adjust the basis to that
	so, buy 100, FMV on 31DEC= 200, then GI = 100 and basis = 200 on 01JAN
	why?  (1)valuation no problem  (2)  can take out cash against unrealized gain, so no liquidity prob 			(CTs say that 2 is like realizing it)

§457:  securities dealers are also required to use mark to market
	why?  sophisticated, know mkt values, huge volume so little liquidity prob
	but....undermined McComber b/c stock mkt is also liquid

Like Kind Exchanges
swaps are realization events  taxable situation w/step up of basis
p309--list of rules to det if recognized or not (if substantially =, not treated as realization)

Cottage Savings  S&L w/many low int rate mortgages  not worth much once rates increase
in order to realize loss, CS swaps mortgages for other morts w/ ~~value 
	in order to recognize/create a Net Operation Loss NOL
	NOL can be carried back against previous 3 years' tax returns
	 NOL creates current cash by generating a tax refund on the previous three years
	also, b/c accounting rules different than tax, would let them take tax loss w/o accounting loss
IRS/Regulators:  no this isn't loss b/c morts too similar  identical, not like kind; cites 1.1001a-2 [p1273]
	says swapped items must be matierially different
H:  IRS has law right, but applies wrong:  these are materially different properties b/c legal entitlements  	different people own them (K rights ), the properties themselves are different (collateral)
	 this is realization event  loss is recognized
problem:  now these rules are a 1-way street b/c taxpayer can always elect a loss, but cannot be forced to 	realize a gain
	 essentially, a form of arbitrage

Recognition Events
§1031
even though a loss/gain is realized, it may not be recognized by the tax system
	a land swap is always a realization even, but not necessarily a recognition event
	like kind exchange and primary house rollover are best examples
why?  b/c even if you've realized your loss/gain, you have continued your investment
	 if what you have recevied is sufficiently similar, you have satisfied the goal of continuing investment
		 you are not taxed wrt loss/gain
a deferral rule only b/c still taxed when sold outright (forgiven @ death)
§1014 forgives at death
boot = consideration in addition to item of swap that is used to sweeten the deal; must still be for bus/invest
	= recognized gain b/c not like kind
	 essentially a partial recognition
	basis reflects that boot is recognized (basis increased by amount of boot)
	GI from boot = lesser of :  gain realized or boot received
	new basis = old basis + gain recognized - boot
	--every dollar of boot causes recog of gain until boot gone
	 all of boot = GI unless boot > gain ( goes into basis)  goal: to preserve gain not immediately recog
swap losses are also not recognized; increase basis for gain to prevent gain from being recog 2x

e.g.	S sells land A, basis 10k, FMV 200k, to B, for land C, FMV 150k + 50k boot
	S originally has 190k gain, so  50k from boot is recog b/c 50k boot < 190k gain; 
	 only have to account for 140k gain   
	 FMV- unrecog gain = 150k - 140k = 10k basis in new land

e.g.	Land A basis 180k, FMV 200k  for landB  FMV 150 + boot 50k
	S now only recognizes 20k gain so 20k gain is recog as GI b/c 20k gain < 50k boot
	new basis = old basis of land b/c all gain already recog  150k
e.g.	Swap land A FMV 150k + 50k boot for land B FMV 240k
	S has unrealized loss of 40k
	basis = (240) old basis + (0) gain recognized - (50) boot = 190k

1.  must be bus or investment property, NOT personal         [e.g., bus car for bus car not recog; pers car for invest car is recog]
2.  must be same form of property, real or chattel 			      [e.g., land for land not recog; land for tractor is recog]
3.  only your intentions wrt the property matter 		[e.g., farm land for idle land to be dev/invest not recog; farm land for 											         idle land for pers house is recog]
4.  can switch freely betw invest & bus 					      [e.g. raw invest land for bus prop not recog]
5.  pers prop needs to be quite similar, or will be recognized 	       [gold  silver, tractor  computer, but truck = tractor] 
6.  any real prop w/in ^ is ok--very liberal

§103a2:  not qualifying like kind items:  inventory, stocks, bonds, notes, bills (covered elsewhere)

Home Sales
if rollover gain from home sale w/in 2 years, no gain recognized, but keep old basis ( tax-deferred)
	can invest cash for 2 years, unlike §1031
	--also applies retroactive, so if you buy H2 before H1 sold, can file 1040X, etc
§1034  no like kind exchange her b/c pers prop
applies only to primary residence, not summer home
fact-driven to det if primary residence
can do every 2 years, or more if you move to a new town
gains taxable (deferred) but losses not recognized
	no losses recognized b/c pers prop  looks like consumption
any amount not rolled over into new house = CG 
e.g.	buy H1 65k, sell FMV 85k:  H2 must > 85k or difference will be taxed
e.g.	H1 100k, H2 95k:  5k CG + news basis = 100k
continuity of investment justifies this
what is new basis?  goal is to repserve gain not recognized
	 basis = Price H2 - gain not reecog from H1 
	e.g.        buy H1 65k, sell 85k, buy H2 100k:  new basis = 100 - (85 - 65) = 80k
but can take mort to pay for H2 and invest proceeds from H1 as cash
--in TX only way to get at equity in your house b/c can only take one mort against house

§121	One-Time Exclusion
can exclude once in life (of couple if married) up to 125k of gain on sale of house not rolled over
	must be over 55 yrs old (either if couple)
	= tax forgiveness
	elective, but only get once (can carry-forward any not taken advantage of):  1-shot only
can use §1034 + §121 together to not rollover all the gain b/c both elective
can also file 1040X to amend if later decide not to rollover  take adv of §121
e.g.	buy H1 100, sell H1 315; buy H2 175:  gain = 275, of which 100 not rolled over
	 under §1034 recog $200k, but now can elect §121  forgive 125k, so only 75k is CG

Involuntary Conversions
§1033:  e.g. fire, storm damage, condemnation, theft, accident
amt reinvested  GI + new basis = old basis
if invest < than FMV reimbursed, that amt is recognized, new basis = FMVnew - (total gain - recog gain)
e.g.	restaurant basis 80k, FMV 250k; burns in fire  get 250k ins  realize gains of 170k
	if reinvest all into new rest, GI = 0, basis = 80k (+ Any Improvements over FMV)
	if reinvest 200k, pocket 50k, GI = 50k, basis = 200 - (170-50) = 80k
§1031/§1033  differences:  §1031 more generous b/c involuntary
	1.  §1033 allows cash intermediate step; §1031 must be a direct swap, no cash transfer
	2.  §1033 is for both loss and gain; §1031 applies to gains only
	3.  §1033 is elective; §1031 is mandatory
	4.  §1033 applies to personal use property; §1031 only applies to bus/invest

Original Issue Discount (OID)
0-coupon bonds (0cb); price of 0cb < price bond w/coupons b/c cash flow less,  NPV of flow less
whenever bond issued a discount of par value--includes bonds with and without coupons
 have an imputed interest rate based upon the discount to face value (no need to add cash flow from 	coupons b/c there are none)
	worth more closer to maturity date (b/c don't have so long to wait)
	worth more if int % decrease  worth less if int % increase (b/c  value relative to other securities)
What is tax treatment?
	Can wait until maturity and get face value of bond, full int gain
	look at NPV from year to year  each year is a recognition event based upon previous NPV
	--recognizes increased basis every year as GI (not CG)
GI year 1 = NPV1 - NPVpurchase		NPV= 	par value 
GI year 2 = NPV2 - NPV1, etc			(1 + int rate)#years to maturuty 
e.g.  par value = 1000 @ 10 years, 8% rate  NPV = 463
		NPV1 = 500	 GI end year 1 = (500 - 463) =  37 
		NPV2 = 540	 GI end year 2 = (540 - 500) =  40
		NPV3 = 583	 GI end year 3 = (583 - 540) =  43
		NPV4 = 630	 GI end year 4 = (630 - 583) =  47.....
why?	to wait until realization give too generous a tax deferral + we can ascertain value easily
	to tax straight line is unfair--to front weighted  deter purchase
		 this sys is tax favored
what if bond with coupons sold at OID?
	must tax both OID income (imputed interest) and current income from couon payments
e.g.	PV=1000. CR=4% @5yrs, mkt rate int = 8%
	NPV of bond is based upon mkt rate = 840 
	pay less than face for bond b/c CR < MR
		(taxable)  income	           cash (cpn)		OID
	year1	(.08) (840)=67		40		27
	year2	(.08) (867)=69		40		29
	year3	(.08) (896)=72		40		32
	year4	(.08) (918)=74		40		34	
	year5	(.08) (1000)=78		40		38
	TOTAL		          		200		160
Market Discount
What if sold later at a deeper discount due to int % ?
	if sell OID 0cb for <> than NPV at face discount, that gain or loss is recognized as CG
e.g.	PV=1000, NPVnow scheduled = 500, but int rates decrease  NPVnow actual ^, so sell for 600
	CG = 600 - 500 = 100, plus still must continue int payments on scedule
	don't report CG until collected ( even if worth more theoretically on mkt, not realized until sold)

If non-discounted bond (non OID) sold at later discount:  don't include until collected (at maturity) and then it 	is GI, not CG
	why?  int rate = risk assessment (can corp pay bond) + mkt 
 have incentive to sell the day before maturity so you will get CG not GI
--but  if you sell bond w/mkt discount, must straight-line amortize discount amt over # years left when bought
	any amt over the strightline amount is CG, anything under is discount
	--represents your risk while not giving favors
e.g. 	buy 10yr bond for 500 when NPVface was 600 w/5 years left, then sell w/2 left for 800
	CG = 800 - NPVface - (100/5) 	(must account for NPVface + straight amortized discount bef 					recognizing a CG; basis in bond raised by amortized amt each year) 

if OID bond sold later at mkt discount?

e.g.	1k bond basis 540, what if s.o buys for 560?
	B treats like OID (recog int pmts as on face of bond)
	S has CG = $20 (b/c above normal amortized rate)

e.g.	1k bond basis = 540, B pays 520?
	B recognizes interest as if bond  was brand new with #yrs remaining as term--calc new OID schedule
	S recog CL = $20

JOINT RETURNS
Lucas v. Earle early case pointing out need for JRs:  H attempts to assign W ½ income before he earned it
	to get lower overall MR b/c steeply progressive
H:  no cannot assign to avoid tax liability; whoever earnes income is liable for it

Poe v. Seaborn H&W in CP ST (^ was CL ST)  each owns ½ of whole in marriage; H&W split $ on returns
H:  this is valid
 CL STs enact CP§ to give their people the adv of this
Bad P2 b/c don't want to chaneg entire prop sys just to get this tax adv
So Cong fixes by allowing JRs

JR = if married, doesn't matter who earns the income  solves CP/CL prob b/c taxes pais w/in HH wort who 	earns it
Marriage Penalty:  when you get married, tax pd by both together > tax pd both separate
	comes from steps in MR--when incomes combine to push into next MR
Marriage Subsidy:  opposite of ^, esp when 1 wage earned in family (b/c essentially splits income)
b/c progressive system, cannot be neutral:  will always have either a tax penalty or subsidy
Ability to file as married det on 31DEC

Kiddie Tax §1g
kids who earn income pay at 'rents rate (their income is :on top")
 kids income taxed at parent's highest MR
--only applies to unearned income
--only applies to kids < 14yrs old by end of tax year
why?  	keep parents from paying kids in order to shift income to lower MR
	after 14 may be saving for college
	not concerned about earned income b/c litttle opportunity for fraud
Gifts:  not taxed under FIT
Dividends:  1st  $1000 taxed @ kids MR, all > $1000 taxed at 'rent's MR
How to get around?  	gift property to kids that will not realize taxable gains until they are 14:  RE, Gstocks
	assets with built-in deferral

Divorce
			Who Taxed	Who Deducts
Alimony		recipient	earner
Chil Support		earner		recipient
Property Xfer		earner		recipient
Alimony:  payer D above the line, GI to payee b/c to substitute for living std
seen as just an xfer of salary ~~ JR splitting, CP ST
also, if payee taxed before xfer, has less to actually pay  payee gets less (if %), or payer pinched (if fixed 	amt)--more so the higher MR is
hurdle:	must be paid in cash, not property
	must be in divorce/sep agrt
	can elect out of it (not mandatory in TX)
	if continues after death of spouse  A
	A cannot be devised
	A cannot be contigent on things related to kids--e.g.stop at age of MAJ for kids
Front-Loaded Alimony = A that decreases over time
prob:  looks like P xfer
so payer, gets to D all in year pd, payee includes in GI
	but....in year3 payer must treat as taxable 85% of year1 pmt; payee gets to D all but 15%
	 tax deferral and avoidance

Child Support: payer cannot D, payee not taxed
viewed as consumption whether married or not, so really just an xfer of expenses which are never D
must pay in post-tax dollars

Property: payer cannot D, payee not taxed
basis carried over
no gain realized on prop xfer:  if basis = 10, FMV = 15, then basis in new hands = 10k
viewed as division of extant prop rts--division of extant pie, not creation of new one

Problem:  Cong worried about payers trying to make CS/P look like A for tax reasons
	--assumes that payer in higher bracket than payee
	if so, call it A, split tax difference between payer and payee (b/c total tax burden to parties less if all A)
	so Cong includes hurdles to make shifting harder

CREDITS

Earned income Tax Credit
§32
controversial b/c = welfare--a transfer pmt system
refundable credit
	essentially, a negative income tax, costs 30-40bn
opeates as % of earned income
	w/2 kids, credit = 36% of EI up to $8425  max of $3033; for all EI > 11k, lose credit at 20.22%
	w/1 kid, credit = 34% of EI up to 6k   $2040
	w/0 kids, credit = 7.65% of EI up to 4k  $306 + must be > 25yrs old
	--phase out for all at 20.22%, and inlcudes unearned income
why?	encourage work b/c only applies to earned income
probs:	potentially adds to marriage penalty
	fraud--people want to overreport income to max out the credit

Casualty Losses
§165c3
= invol conversion for pers property
normal losses are not casualty losses
e.g. own home, buy 100k, sell at FMV = 80k, loss = 20k:  No D b/c viewed as consumption
	--but loss may not be due to consumption, but mkt conditions; done for simplicity/efficiency
must be fire, storm. disaster w/o insurance reimbursement
b/c involuntary, we say  consumption  D below line
1.  each loss item must be > $100 
2.  total loss must be > 10%AGI (floor) per year
loss is lesser of FMV and basis
losses are another form of cost recovery
e.g.:	GI = 150,000; 100k lost in house; 30K above line Ds
		1.  1st $100  D, so now have 99,900
		2.  a)  is 99,900 > 10% AGI? (= 12,000) yes
	 	     b)  then D = (FMV Loss -$100) - (10%)(120,000) = 
			                           99,900 - 12,000 = $87,900
e.g.:	pers car basis = 10k, FMV = 4k; stolen w/o ins
		casualty loss = FMV = 4k b/c you consumed the 6k
		1.  3,900
		2.  only D if AGI < $39,000, dollar for dollar bleow that to $3900
e.g.:	10k basis, FMV 14k
		casualty loss = 10k  b/c generally don't get to D amt above basis
prob:  defn of casualty potentially broad
§165c1--for bus casualty losses
§165c2--for xactions for profit

Dyer [476] before $100 exclusion, cat breaks vase, claimed as "other casualty" loss
H:  vase  D n/c not unusual
IRS: 	no, casualty loss means sudden loss similar to the ones listed (fire, theft, flood, etc)
	b/c sudden doesn't look lie consumption, is not ordinary
	losses occurring over time = consumption or ordinary  D
^ is application of ejusdem generis--define meaninf by looking at surrounding words in phrase
	locusts yes, termites, no

Medical Expenses
§213
D = expenses > 7.5%AGI (floor) per year, below the line
why?	decreases wealth
	decreases ability to pay
	involuntayr
	unforeseen, unanticipated
must be direct & proximate:  health clubs, food n/a; vet bills n/a
better if bus pays for you b/c then pre-tax $
if have ins, only amt not reimbursed is claimable
Oaks Ct finds that child care during mom's recuperation from chemo  D, is pers expense b/c alternatives
DIS:  gives obj test w/factors
for s.t. to be D, must be the only way
cost of capital asset only D to extent out of pocket, not in basis
	so, if asset increases you basis, you aren't out of pocket 
e.g.:	lap pool costs 40k, med necessary; bt only adds 10k to basis of house:  D = cost - (basis) = 30k

Charitable Contributions
§170
charitable contributions = D below line

must be charitable org, not bum
	may be education, health org, or general
why?	efficient way to encourage charity
	--but unlike med & cas, not invol,  don't reduce ability to pay
	--can't reduce for value of publicity 
	--but not real consumption
How?	b/c higher MR, less it costs you to give--if MR40, only costs 60 to give 100 b/c taxes reduced 40
	 rich favored b/c 	discretionary,   MR sensitive
What is intent necessary?  Duberstein intent:  no ulterior motive; premiums must be deducted from 	contribution except de minimis
if total donations < $250, cancelled check is good enough
		> $250, must have letter from charity specifying grant and listing any premiums
	also, $100/mont is OK
cannot be value of svcs donated
why?	no basis in human capital
	if had earned equiv $ for svc and then donated, would have same effect (slippery slope on free time)

Ottawa Silica  buy land N of SD, some for mine, some w/o intent, give 50 acres to school, try to D FMV as CC
IRS:	No D b/c you have ulterior motive (get them t build school so they will build roads for other land)
H:	no D for charity
	what is basis of land xferred?  the basis of the land given away is added to the basis of the land 			remaining in Ottawa's hands

In Kind Donations
§170e
give away appreciated property, not cash
D = FMV - basis, not basis
	b/c charity tax-exempt, no tax to them, and you get big D
	 get to D full unrealized CG w/o recognizing it as income
	only if subject to LTCG (> 1yr) to prevent abuse
	not inventory--only investment prop
why?	encourages, but is anomalous

Interest Expense Deductions
§163h3
interest expenses = D only after completion of the capital asset
	so int before completion is added to basis of asset
if asset is bus expense, D above the line
if asset is personal, D below line
	allowed for h1 & h2 only
	limited to $1m total between h1 & h2 (excess not D, not a bar)
	allowed for additions, capital improvements
	refinance loans = D, but only if financed to amt of debt remaining (excess  D, not a bar)
	once debt paid off, cannot be raised w/o new purchase/addition
	int on home equity loan is D up to $100,000 (principle) total between h1&h2
credit cards, car, student loans  D b/c personal consumption, not asset building
	besides we don't tax imputed income from capital assets (like car) that you could rent, so should't 			allow D
 good idea, if you can, to take home eq. loan to pay pff other debt, essentially xfer debt from non-D to D 

Investment Interest
interest on money borrowed to buy investment generally = D below the line
why?	b/v not personal (consumption), but designed to make a profit
only D up to amt of investment income from all sources
	excess interest costs may be carried forward
	why?	if allowed to D above realized gains, would arbitrage:  set up to realize losses now, gains later
prob:	if investment doesn't increase in value, you never get to D your invest int 	
	carry forward reduces V of int so carried
	not indetifiable to loans:  may D againt any and all investment income

LTCG Treatment
do LTCG count as invest income?  your choice
1)  if exclude CG from invest income against which invest int is D, then can D up to full amt from non LTCG
	get LTCG taxed at favorable max rate (28%), but will be harder to have investment income sufficient 			to cover invest int expenses

2)  if include CG in invest income to defray invest int, all invest int taxed at MR, not 28% + MR for OI
	get to D more of your invest int; your price for taking adv of this to get full D is that you are taxed on all 		invest income at MR (no favorable tax treatment for CG)
How should you elect?
if you think you will have lots of other invest income, don't include it in invest income
if you think you won't have income in excess of your interest, put in investment income 
can split CG between categories to otimize results

§62 lists all above line D; all other are below

Taxes
1.  property taxes		D below	§164	
2.  ST income tax		D below		 pay local taxes in pre-FIT $
3.  sales taxes			 D
4.  SS Taxes		D above (Er share if self-employed); D for Ee share
5.  licenses, fees		 D 			b/c fee for service, priv

1.  	 ST sales taxes disfavored b/c post-tas $, not pre
	invol, reduce ability to pay
	--but you receive bene for this which defray pers expenses
	--you essentially make a choice of tax for bene
	--can vote with your feet (may be naive + econ ineff)
if all taxes  D deters big gov't b/c visible
also, STs with low taxes implicitly pay for STs with high taxes, esp if sales v. income
	--but those STs may be solving bigger/nat'l probs
but sales taxes are most regressive,  stronger argt to D those as opposed to ST ITs

Hobby Income/Losses
hobby losses presumed to be pers   D
	except can D losses up to amt of hoby gains
but hobby gains are GI wort bus/hobby distinction
	 if hobby costs > gains, losses D to level of gain (D = gain)
	 if hobby gains > costs, GI = gain - costs
why?  subterfuge to get hobby to make losses and yet make it look like a bus
Test:  intent of taxpayers as measured through objective criteria
	is bus primarily engaged in to make profit?   Y---> bus  D       // N----> hobby   D
	does it look like a bus?  records, investment, effort, time
	only need GF intent to make profit, but still need obj factors to convince CT
	see p 526-7 for factors
Nickerson [524]  buy dairy farm, D losses; never make profit, so looks like resort, not hobby
H:  dairy is  bus, not hobby  losses = D

Travel Expenses
§162 general; §274hn (haircut)
all bus travel expenses = D except for meals & entertainment, which are 50%D
	meals of bus guests also = 50%D on travel	
	why only 50%?	guest has no GI from this; essentially taxes you instead of client
								^ = substitute taxation--efficient, fair if MR =
what if client reimburses you for expenses? 
	include as GI to you, but D to you as bus expense above line ( no net)
	client gets to take 50%D on meal, D as expenses
whoever pays the bill gets the 50%D
§162 defines home, msut be away from home to claim travel expenses
§274 hc applies wort travel though, as long as bus
mixed purpose trips?
	for fixed costs (costs you would have incurred anyway), trip must be > 50% bus (primary purpose test)
		e.g., air fare = 100%D if >50%business
	for variable costs, simple pro rata
		e.g., hotel = 60%D if 3 of 5 days bus

Reimbursed Bus Expenses
if costs reimbursed to you as GI on W2
	= D above line for you b/c §62 says D aboce line if reimb bus expense
	no haircut rule for you or Er
if costs not reimbursed to you as GI on W2
	 D b/c you had no offsetting GI

Non-Reimbursed Bus Expenses
§67
b/c bus, = D
but b/c suspicious, below line & subject to 2% floor (only D to extent they are > 2%AGI)
for misc bus D--magazine subscriptions
so only get if you itemize, and then only to extent they exceed 2% AGI
why 2%	reduce cheating
		reduce compliance costs

ALL DEDUCTIONS

						§62a	       §67b	
						BUS	         PERS		--all aggregate for 2% floor
					       ABOVE the    SPECIFIC		--also, §212 invest int expenses
						LINE	      BELOW LINE		expenses of preparing taxes
											invest advisors, safe dep box
						MISC DEDUCTIONS
						BELOW LINE