Axelrod v. C. I. R.
| Decision Date | 17 December 1974 |
| Docket Number | No. 74-1511,74-1511 |
| Citation | 507 F.2d 884 |
| Parties | 75-1 USTC P 9115 Sidney AXELROD and Andrea Axelrod, Petitioners-Appellees, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellant. |
| Court | U.S. Court of Appeals — Sixth Circuit |
Scott P. Crampton, Asst. Atty. Gen., Meyer Rothwacks, Bennet Hollander, Robert G. Burt, Richard Roberts, Gilbert E. Andrews, Tax Div., Dept. of Justice, Meade Whitaker, Chief Counsel, I.R.S., Washington, D.C., for respondent-appellant.
Sidney Axelrod, Columbus, Ohio, prose.
Robert E. Glaser, Arter & Hadden, Carlton Schnell, Cleveland, Ohio, for petitioners-appellees.
Before PHILLIPS, Chief Judge, and PECK and McCREE, Circuit Judges.
This appeal requires us to define the relationship between the alternative capital gains tax provisions of section 1201(b) of the Internal Revenue Code of 1954, 26 U.S.C. 1201(b), and the net operating loss carryback and carryover provisions of section 172 of the Code, 26 U.S.C. 172. Specifically, we must determine whether 'taxable income,' against which section 172 of the Internal Revenue Code requires a net operating loss carried back to an earlier year to be offset in determining whether there will be an excess to carry forward to other years comprehends only ordinary income and not income derived from capital gains accorded special treatment under the alternative method of tax computation permitted by section 1201(b).
In 1964, taxpayers had taxable income of $1,042,032.03, of which $4,999.20 was ordinary income and of which $1,037,032.83 was a net long-term capital gain computed after the deduction for capital gains provided for by section 1202 of the Internal Revenue Code. 1 In 1965 and in 1966 taxpayers received no taxable income. In 1967, however, taxpayers incurred a net operating loss of $114,627.75 and, by filing a claim for a refund, carried the loss back to their 1964 taxable year pursuant to section 172 of the Code. Taking into account the net operating loss incurred in 1967, taxpayers recomputed their tax liability for 1964 under both the 'regular' method provided for by section 1 of the Code, 26 U.S.C. 1, and under the 'alternative' method provided for by section 1201(b). The computations are as follows:
Because their tax liability under the alternative
method was less than their tax liability under the regular method, taxpayers' actual tax liability was, as required by section 1201(b) of the Code, determined by the alternative method.
The controversy before us arose when taxpayers received ordinary income of $14,785.71 and $17,308.90 in 1968 and in 1969 respectively and sought to carry over to those years a portion of the net operating loss incurred in 1967. They contended that since they recomputed their tax liability for 1964 under the alternative method, they were entitled to carry forward to 1968 and 1969 $109,628.55, representing the amount by which their 1967 net operating loss exceeded ordinary income received in 1964. The Commissioner, however, disallowed any deduction in 1968 and 1969 on the ground that no excess remained that could be carried forward since, under section 172(b)(2) of the Code, the entire net operating loss had been used in determining taxpayers' taxable income of $927,404.28, as the first step in computing tax liability under the alternative method. Accordingly, the Commissioner assessed deficiencies of $2,260.60 and $758.19 for the taxable years 1968 and 1969 respectively.
On appeal, the Tax Court held that no deficiencies existed for those years and, moreover, that taxpayers were entitled to refunds of $1,885.06 and $3,230.95 for those years. Axelrod v. Commissioner, 32 T.C.M. 885 (1973). This determination was based on its decision in Chartier Real Estate Co. v. Commissioner, 52 T.C. 346 (1969), aff'd per curiam, 428 F.2d 474 (1st Cir. 1970). In Chartier, a case involving a corporate taxpayer which computed its tax liability under the alternative method, the Tax Court held that to the extent that a net operating loss is not offset by ordinary income received in a year to which the loss could be carried back, it could be carried forward to a later taxable year under section 172(b)(2). In applying the same rule to individual taxpayers, the Tax Court explained that its interpretation
serves the basic Congressional policy of granting special favorable tax treatment to capital gains under section 1201(b) without requiring the forfeiture of deductions for net operating losses merely because such losses happen to have occurred within the statutory carryback or carryover period. The opinion preserves intack the Congressional intent to permit the offsetting of the business losses of lean years against the profit of lush years in those situations, described in section 1201(b), where capital gains-- unrelated to prior or subsequent net operating losses-- are the major factor in computation of tax liability.
This appeal is taken by the Commissioner from the determination of the Tax Court. The Commissioner contends that even though taxpayers computed their 1964 tax liabilty under the alternative method, their taxable income, as defined by the Code, and against which a net operating loss from other taxable years must be offset, exceeded their 1967 net operating loss carryback and that, accordingly, no portion of it remained to be carried forward to 1968 and 1969. Taxpayers concede that if they had computed their tax liability under the regular method, the 1967 net operating loss would have been totally offset by their taxable income, and no portion of it would be left to be carried forward to later taxable years. They argue, however, that by computing their tax liability under the alternative method, the net operating loss was offset only by ordinary income, and that to require them to include capital gain income in 'taxable income,' against which the loss must be offset, deprives them of the benefits Congress intended to confer upon them when it enacted section 1201(b), the alternative capital gains tax provision. We disagree and reverse.
Section 172, governing the treatment of net operating losses provides, in part, 'The portion of such loss (net operating loss) which shall be carried to each of the other taxable years shall be the excess, if any, of the amount of such loss over the sum of the taxable income for each of the prior taxable years to which such loss may be carried.' 26 U.S.C. 172(b)(2). 2
Congress has defined 'taxable income' in the case of individual taxpayers for the purposes of subtitle A of Chapter 1 of Title 26 of the United States Code, sections 1 through 1563 inclusive, as 'gross income, minus the deductions allowed by this chapter, other than the standard deduction . . ..' Int.Rev. Code of 1954, 63(a), 26 U.S.C. 63(a). This is the meaning to be placed on 'taxable income' unless expressly modified. In this case, the taxpayers' gross income for 1964 was $2,079,064.86, of which $4,999.20 was ordinary income and of which $2,074,065.66 was net long-term capital gains. Had taxpayers recomputed their tax liability under the regular method, section 1202 would have permitted them a deduction of fifty percent of their net long-term capital gains leaving them with taxable income of $1,042,032.03 before taking into account the net operating loss. Taxable income, so computed, would have exceeded the net operating loss, and no portion of the loss would have remained to be carried forward to other taxable years.
Taxpayers, however, computed their tax liability in accordance with the provisions of section 1201(b). 3 Under this provision, taxable income is still defined as gross income minus the deductions permitted by the Code. The only difference between this method and the regular method lies in the way in which tax liability is computed. Under the alternative method, an individual's tax liability is the sum of a partial tax imposed on taxable income reduced by 50...
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United States v. Foster Lumber Company, Inc
...Soc. v. Commissioner, 505 F.2d 128. The Sixth Circuit appears to agree in principle with the Fourth Circuit's reasoning. See Axelrod v. Commissioner, 507 F.2d 884. 3. Congress has specifically tailored definitions of taxable income in other sections of the Code when the § 63(a) definition i......