Memorandum Case

Memorandum

Facts:

A radio station wanted to recognize the hard work of Mr. Grady, a world class athlete, by offering him the use of a Porsche "Carrera" convertible for one year, valued at $20,000. This offer is not subject to any appearances, promotions or provision of services, on behalf of Mr. Grady, to the radio station in any way.

Issue:

In this case, Mr. Grady believes that the gift he received from the radio station is not taxable and he shouldn't have to include it in his gross income. The issue when deciding if this is a taxable gift is that the IRS tax code does not provide specific information on what qualifies as an excludable gift. In order to figure out whether the use of the car is taxable or not, it is necessary to review several cases that were subject to litigation and have similar facts to Mr. Grady's case.

Discussion: Review of the Tax Code

The gross income is defined by the Internal Revenue Code Section 61(a) as: "Except as otherwise provided...Gross income means all income from whatever source derived, including (but not limited to) the following items..." There are about fifteen items that are included in gross income, but in our case we are more interested in tax liabilities of gifts versus prizes and awards and the exceptions that can make them excludable from income. The IRC Section 74 states that prizes and awards are included in the gross income but are subject to exceptions. These exceptions include prizes and awards that are based on academic, civic or similar achievement as long as the recipient did not enter the contest on purpose. However, IRC section 102(a) states that gifts are excluded from gross income but subject to exceptions as well. These exceptions for gifts include inherited money and property, and the gift cannot exceed gross income. In this case, the most valuable exception to consider is the Code's exclusion of prizes and awards that are transferred to charities, found in IRC Section 74 (b)(3). This part of the tax code may be useful in reducing tax liability if it is determined that Mr. Grady's car counts as a taxable prize or award.

Discussion: Commissioner v. Duberstein

In the case of Commissioner v. Duberstein, the taxpayer (Duberstein) was president of Duberstein Iron and Metal Corporation in Dayton, OH. Duberstein maintained a close relationship with the president (Berman) of Mohawk Metal Corporation in New York City and often had phone conversations with him about business and potential customers. Berman asked Duberstein for referrals for potential customers and Duberstein gave him some names, one of which turned out to be a very good profit for Berman. After this, Berman called Duberstein and told him he wanted to give him a gift of a Cadillac to thank him for referring such a good customer but Duberstein told Berman that he was not owed anything and already had enough cars. Still, Berman sent the car to Duberstein, who later did not include the receipt of the car as gross income on his tax return. However, Berman's corporation did include the purchase of the car as a business expense on their corporate tax return. In court, Duberstein admitted that he did not think Berman would have given him the gift if he had not provided customer referrals. The Tax Court ruled that the car was not an excludable gift, however the Court of Appeals reversed this decision.

Combined with the Duberstein case was the case of Commissioner v. Stanton, where Stanton had not reported $20,000 on his taxes and the IRS considered this money income. For about 10 years, Stanton had been an employee at Trinity Church as a comptroller and also as president of Trinity Operating Company, which managed the church's real estate. In 1942, Stanton resigned to start his own business and the church gave him $20,000 in appreciation for his past work there. The church trustees said that this money was a show of good will and appreciation to a man that had helped bring Trinity Church out of bad times. However, there was also a suggestion that perhaps Stanton took the money as severance pay because this is what happened in a similar controversial situation at the church just a few weeks earlier with another former employee. Either way, Stanton did not report the income on his taxes and after he was forced to pay, he sued for a refund. The Federal District Court judge ruled that the money was an excludable gift, but this decision was made without a jury. The Court of Appeals reversed this decision, concluding that the money should be reported as income.

Court Opinion and Conclusions

The Court noted that at that point in time, the definition of a gift and its income tax liabilities had often appeared as an issue but there was little court precedence on the matter. Also, the Court rejected a request that it should create a standard 'test' to be used in future cases because they believe each case needed to be examined based on its own circumstances. In the Duberstein case, the Supreme Court reversed the Appeals Court's decision. The final decision concluded that the gift of the automobile was not an excludable gift, but was a payment for services rendered. The company was thanking Duberstein for the services he provided and encouraging him to provide future services by awarding him the vehicle. The Court points out that the corporation wrote off the purchase of the vehicle as a business expense on their own tax return, so it is clear that the intention of the gift was related to business: the services rendered by Duberstein. Their intention that the gift was a payment for services indicates that it should not be excludable on the taxpayer's gross income.

In the Stanton case, the Supreme Court vacated the decision of the Court of Appeals. This means that the previous ruling was suspended (not necessarily reversed) and the case was returned to the Federal District Court. The case went back to District Court because the Supreme Court found a problem with the initial ruling - that the finding was inadequate and the judge did not consider all aspects of the case thoroughly enough to justify the ruling provided.

Basis for Court Opinion

The basis of the Court's decision relies a lot on differences in the definition of a gift compared to an award. According to the Court, "the statute does not use the term 'gift in the common-law sense, but in a more colloquial sense." This means that just because a gift is a voluntary transfer of property with no payment involved, this doesn't always make it a gift according to tax law. In order to determine if the