In several previous columns, I’ve noted that Internal Revenue Code Sections 61 and 102 stipulate disparate treatment for compensation and gifts. Whereas Section 61 requires those who receive money or other assets as compensation for their efforts to count such items as reportable income, Section 102 says recipients of money or other assets as “gifts” needn’t count them as reportable income.
Given these disparities, the courts often have to resolve vexing wrangles about whether they should characterize cash and other items as gifts, as the recipients assert, or as compensation for services rendered, as the IRS asserts. Not unexpectedly, that becomes the key issue in disputes that pit the agency against attractive women who are recipients (no male recipients in the cases decided so far) of currency, cars, dwellings, fur coats, gems and other goodies from benefactors other than their husbands or family members.
Sometimes, the courts quickly decide income-versus-gift disputes. Here’s how the Tax Court cut to the chase and resolved one that inspired this article’s title.
It all began in Boston in November of 1962. That’s where and when Byrnece S. Green, then 36 years old and a divorced secretary with a 15-year-old son, met Maxwell Richmond, a wealthy, 49-year-old bachelor, whose holdings included licenses to operate three radio stations.
They met cute and fell in love, just like Meg Ryan and Tom Hanks in Sleepless in Seattle. About a month after they first met, Maxwell proposed marriage and Byrnece accepted. They announced their wedding plans to their families and friends.
Segue to October 1963, when Maxwell begged Byrnece to eighty-six their engagement. How come? Because he had "a mental hangup” about marriage.
She reluctantly acquiesced in his solution: Just agree to live with him without benefit of matrimony. In return, he’d leave her "everything."
Spoiler alert: The arrangement proved to be more advantageous for Maxwell than for Byrnece. She was loyal to the nth degree and savvy. Even better for him, she was an around-the-clock multi tasker.
Let me, Dear Readers, count the ways. Byrnece worked as a stockbroker, spoke on his radio station about financial matters and advised him on his business affairs and investments.
There’s more. She also monitored his diet, cared for him during illnesses, and accompanied him on business trips and social engagements.
Maxwell somehow never got around to showing his will to Byrnece, but assured his inamorata it provided for her. The two were inseparable until October of 1971, when Maxwell died in Byrnece’s arms of a heart attack. That’s when she first became aware of a will that left Mr. Right’s entire $7 million estate to his brother and sister.
So what did the spurned sweet heart say to the satisfied siblings? Never dawns the day when she’d walk away with nothing from the estate of a lothario who reneged on his vow to leave her everything.
She sued the estate for the value of services rendered in reliance on his promise. The protracted litigation ended when she agreed to settle for $900,000 payable over two years.
Enter the IRS, because Byrnece decided not to include those payments in her tax returns for 1977 and 1978. The 1040s were accompanied by statements that cited Section102 and explained that the payments were nontaxable gifts or bequests from Maxwell; all that she’d performed were "wifely services."
The Stepford response of the IRS’s auditors: They rejected her reliance on Section 102. Instead, they invoked Section 61 and assessed taxes. The Tax Court (54 T.C.M. 764) and the U.S. Court of Appeals for the Second Circuit (846 F. 2d 870) sided with them.
The Tax Court’s 1987 decision emphasized that "The taxability of the proceeds of a lawsuit depends...upon the nature of the claim." Because Byrnece based her claim on the value of her services, the $900,000 was clearly taxable income.
Additional articles. A reminder for accountants who would welcome advice on how to alert clients to tactics that trim taxes for this year and even give a head start for next year: Delve into the archive of my articles (more than 300 and counting).
Attorney and author Julian Block is frequently quoted in the New York Times, Wall Street Journal, and the Washington Post. He has been cited as “a leading tax professional” (New York Times), an “accomplished writer on taxes...