Tax A1, Halperin, Dec. 15, 2006 Grade: B+

QUESTION 1

Ann’s use of the room in her home is not deductible, because, although it is exclusively used for a business purpose, her “principle place of business” is Symphony Hall, because it is the designated location where rehearsals take place. Rehearsals at home do not count as administrative or management activities, so Ann’s rehearsal at home does not fall under §280A, and is therefore non-deductible. However, Ann could argue that because her employer requires her to spend significantly more time practicing at home (perhaps because the rehearsal space is used for other purposes outside of the scheduled rehearsals, or the Symphony finds it too difficult to get all of the musicians together for any more rehearsal time), she uses her home practice room exclusively for the convenience of her employer, in which case she would be entitled to a deduction.

Tax law would impose different treatment of the formal if it is provided by the employer, than if it is purchased by Ann. If Ann purchases the formal wear, under Pevsner, it would be taxable income, because under an objective test, the formal wear could be adaptable to general wear (evidenced by the fact that musicians can purchase it own their own, and can seek permission to wear it outside of performances if the Symphony provides it). The additional cash that the Symphony provides to musicians purchasing their own formal wear would also be taxable income, because it serves as a bonus incentive to employees. However, if the Symphony provides the formal wear, it would not be taxable income to Ann, for a number of reasons. First, since formal wear provided by the Symphony must remain in the dressing room to be worn only during performance, Ann would never assert exclusive control over the clothing for it to become an “accession to wealth.” Second, the formal wear could be considered a de minimus fringe, because it would be similar to a uniform provided by the employer for use only during employment.

The meals at Symphony Hall after rehearsal are excluded from gross income under §119(a), because they are provided by the employer for its convenience, and are on the business premise.

The orchestra’s trip to Europe would be subject to the Gotcher test, which considers whether the Symphony provided the trip primarily for its own benefit (or if a substantial corporate purpose motivated the trip), which it presumably did if the orchestra performed during the trip (even beyond the time the orchestra spent performing, Ann could argue that taking the orchestra to Europe was a form of education because they were exposed to places where classical music originated and flourished, and that traveling was a form of advertising for the Symphony). Another factor to consider is whether the musicians had a choice but to go, and the extent to which they controlled their itinerary. Arguably, Ann’s remaining an additional three weeks is a reflection ot the lack of control that the musicians had during the Symphony-sponsored trip. Since shoe wouldn’t be in Europe but for the corporate trip, airfare to and from Europe are deductible.

However, expenses that Ann paid for her extended stay in Europe are not likely to be deductible, because it seems that the extension of the trip and the expenses incurred originated from a personal vacation. Even though Ann may argue that attending the concerts served a business purpose, because attending concerts enhances her professional performances, the business purpose seems secondary to the personal purpose. Additionally, the standard seems higher for deductibility when the individual pays for her own trip as opposed to the employer incurring the cost.

QUESTION 2

The payment is an accession to wealth, and under §61, would be considered taxable income because it seems to be a form of a dividend payment to residents, simply resulting from the state’s increased revenue. Although Congress can tax government transfers, certain transfers are not taxed, and if Ames wanted the distribution to not be taxed, it could modify the benefit distribution into a need-based welfare grant (which is not taxed, since for policy reasons, welfare is not treated as income). The structure of the distribution suggests that the intent is to distribute a form of welfare (from the general fund, more is given to those with more dependants, and less money is given to higher-income earners), but it would be less likely to be taxed if some restrictions were imposed so that only certain residents qualified for the grant, like only residents earning below a specific AGI, or who have more than a specific number of dependents, etc.

When the $1 million deposit was confiscated by the government and placed into a “blocked” account, Stoveware’s rights to the money and ability to assert exclusive possession over the money was lost, which stripped away any income it would have obtained from the deal. The $1 million, therefore, should not be taxed, unless at some point the government returns the money to Stoveware.

Under North American Oil, Stoveware should include the $1.5 million in income and it should be subject to tax when it was deposited into the bank account in 1991. When the order was issued to place the funds into a blocked account and Stoveware decided to litigate, it still had a claim of right to the $1.5 million, even though its absolute right to it was in dispute. In the event that Stoveware lost its right to the $1.5 million, it could file for a return of the taxes it paid on the income.

If Stoveware is allowed to deduct the second and third furnaces as confiscated items, it will be able to deduct the costs of manufacturing the furnaces by comparing the confiscation to a casualty or involuntary conversion. If Stoveware is able to deduct the costs of the furnaces through this casualty scheme, it should not be allowed to deduct the subsequent receipt it gets in selling the furnaces at a loss (since it has already recovered the value of the loss). It just doesn’t seem right to allow Stoveware to deduct the costs of the furnaces as a casualty, though, because it still retains possession of them, it could still sell them, and one of the three furnaces was sold earlier at a profit. In that vein, when the furnaces are sold at a loss, Stoveware should only be able to offset its ordinary income by the amount of this loss (unless it considers a portion of the initial $1 million deposit as belonging to each furnace, and profit that it received and was thereafter confiscated by the government; this argument seemingly would justify the casualty deduction for the confiscation that could offset the loss from the later sale).

QUESTION 3

The proposal would greatly simplify the current capital gains regime, which is replete with complications, specific rules, and numerous exemptions related to the definition of a capital asset and when an asset is allowed to take advantage of the preferential tax (in some cases even if the property is not a capital asset). There have been many suggestions that the regime should be changed, and courts have adopted the trend of construing the exclusions to the capital gains tax broadly, but it’s not clear that eliminating all transactions besides public stock is the best solution. Although capital gains treatment results in a complex system of first determining what property is a capital asset, and then calculating the value of the capital gain or loss depending on which special rate applies, the original goals of instituting a favorable tax treatment of this kind were to promote long-term investments in certain areas and to ease the deterrent effect of realization to allow changing the nature of investments to be easier.

Specifically, restricting capital gains to publicly held stock would have a serious impact on real estate, where capital gains treatment guides a number of transactions (as well as other transactions where an appreciation on the value of the asset can be determined and would be considered capital gain but for this proposal). However, the real estate investment community could be quieted by the government not recognizing realization of gains if upon transfer of property, the gains are reinvested into public stocks, and also by retaining the non-recognition provisions. The general public may also be opposed to this proposal, because it concentrates the benefits in the hands of corporations by providing an incentive for investment in corporate stock (as opposed to other investments that individuals may have more interest in or control over, like real estate).

Limiting deductible loss to the actual economic loss would prevent the abuse that exists in the present system, where taxpayers attempt to deduct a capital loss even in the absence of a real economic loss. An unfavorable result to investors, however, is that if they cannot benefit from the immediate deduction, it is lost. Economically, this seems reasonable, but it seems harsh considering the other limitations on benefits that this proposal includes. This proposal also limits the possibility of the investor obtaining a “double return,” by disallowing investment interest where there are unrealized gains.

It seems likely that this proposal will result in a revenue gain, since transactions formerly taxed at a lower rate will now be taxed at the normal rate of income. In order to mitigate some of the complaints to this proposal, which may be more concentrated in the real estate sector, the Congressman could temporarily reduce the property tax to counter the sudden increase in tax liability that investors in real property will incur. He could also suggest that the revenue generated through this proposal be used to fund an overall reduction in income tax, which would provide an overall increase in general welfare, but would especially benefit people that cannot take advantage of the capital gains benefits.