Lucas v. Earl, 281 U.S. 111 (1930).
JUSTICE HOLMES delivered the opinion of the Court.
This case presents the question whether the respondent, Earl, could be taxed for the whole of the salary and attorney’s fees earned by him in the years 1920 and 1921, or should be taxed for only a half of them in view of a contract with his wife which we shall mention. The Commissioner of Internal Revenue and the Board of Tax Appeals imposed a tax upon the whole, but their decision was reversed by the circuit court of appeals. A writ of certiorari was granted by this Court.
By the contract, made in 1901, Earl and his wife agreed “that any property either of us now has or may hereafter acquire ... in any way, either by earnings (including salaries, fees, etc.), or any rights by contract or otherwise, during the existence of our marriage, or which we or either of us may receive by gift, bequest, devise, or inheritance, and all the proceeds, issues, and profits of any and all such property shall be treated and considered, and hereby is declared to be received, held, taken, and owned by us as joint tenants, and not otherwise, with the right of survivorship.” The validity of the contract is not questioned, and we assume it to be unquestionable under the law of the California, in which the parties lived. Nevertheless we are of opinion that the Commissioner and Board of Tax Appeals were right.
The Revenue Act of 1918 approved February 24, 1919, c. 18, §§ 210, 211, 212(a), 213(a), 40 Stat. 1057, 1062, 1064, 1065, imposes a tax upon the net income of every individual including “income derived from salaries, wages, or compensation for personal service ... of whatever kind and in whatever form paid,” § 213(a). The provisions of the Revenue Act of 1921 … are similar to those of the above. A very forcible argument is presented to the effect that the statute seeks to tax only income beneficially received, and that, taking the question more technically, the salary and fees became the joint property of Earl and his wife on the very first instant on which they were received. We well might hesitate upon the latter proposition, because, however the matter might stand between husband and wife, he was the only party to the contracts by which the salary and fees were earned, and it is somewhat hard to say that the last step in the performance of those contracts could be taken by anyone but himself alone. But this case is not to be decided by attenuated subtleties. It turns on the import and reasonable construction of the taxing act. There is no doubt that the statute could tax salaries to those who earned them, and provide that the tax could not be escaped by anticipatory arrangements and contracts, however skillfully devised, to prevent the salary when paid from vesting even for a second in the man who earned it. That seems to us the import of the statute before us, and we think that no distinction can be taken according to the motives leading to the arrangement by which the fruits are attributed to a different tree from that on which they grew.
Notes and Questions:
1. This case is the origin of the “assignment of income” doctrine, i.e., a taxpayer cannot assign his/her income tax liability to another by assigning as yet unearned income to another.
2. The Earls entered their contract 1901 – at a time when most people believed that a federal personal income tax was unconstitutional and fifteen years before Congress enacted the income tax statute. This “anticipatory assignment” could hardly have had as a purpose the avoidance of federal income tax liability.
- In fact, Guy Earl probably utilized the contract as an estate planning device. He was not in good health, and by this simple contract, he was able to pass half of his property – already owned or to be acquired – to his wife without need of probate. At the time, there was no right of survivorship in California community property. See Patricia A. Cain, The Story of Earl: How Echoes (and Metaphors) from the Past Continue to Shape the Assignment of Income Doctrine, in Tax Stories 305, 315 (Paul Caron, ed., 2d ed. 2009).
3. Is Mr. Earl subject to income tax in this case because he earned the income or because he exercised a right to assign its receipt prospectively?
4a. Consider: Taxpayer sold life insurance for several years. As such, he was entitled to “renewal commissions” when the purchaser of a policy paid premiums in later years in order to keep the policy in effect. Taxpayer sold his/her insurance agency business to another company, and the company paid $100,000 to Taxpayer for Taxpayer’s right to “renewal commissions.” Tax consequences to Taxpayer? How is this case different in essence from Lucas v. Earl?
- SeeHodges v. Commissioner, 50 T.C. 428 (1968); cf.Helvering v. Eubank, 311 U.S. 122 (1941), infra.
4b. Taxpayer was a waitress at a restaurant and collected tips from customers. At the end of each shift, she would “tip out” various other restaurant employees, including busboys, bartenders, cooks, and other waitresses and waiters who assisted her during particularly busy times.
- The Commissioner argues that Taxpayer must report all of the tip income. Taxpayer may deduct as a trade or business expense what she pays other employees.
- Taxpayer argued that what she paid other employees was not even gross income to her.
- Why does one characterization rather than the other matter? Read §§ 62(a)(1), 67.
- What result?
- See, e.g., Brown v. Commissioner, T.C. Memo 1996-310, 1996 WL 384904 (1996).
4c. Taxpayer was a partner in a partnership. Partnerships do not pay income taxes. Rather, individual partners are liable for income tax on their individual distributive shares of partnership profits. Taxpayer and his wife entered an agreement whereby she was made a full and equal partner with him. Wife performed no services and the other partners were not a party to this agreement.
- Taxpayer argued that he should be taxed on one half of his partnership distributive share, and his wife should be taxed on one half of his distributive share. This case predates married filing jointly tax returns.
- What result?
- SeeBurnet v. Leininger, 285 U.S. 136, 142 (1932).
5. How useful is the tree-fruits metaphor in resolving difficult questions of assignment of income?
- Taxpayer works for Mega Corporation. Taxpayer was personally responsible for generating $1M of new business for Mega. Mega paid taxpayer his usual salary of $100,000. Next year, Mega will
give taxpayer a 50% raise. On how much income should taxpayer be liable for income tax –
- in year 1?
- in year 2?
Poe v. Seaborn, 282 U.S. 101 (1930).
MR. JUSTICE ROBERTS delivered the opinion of the Court.
Seaborn and his wife, citizens and residents of the State of Washington, made for the year 1927 separate income tax returns as permitted by the Revenue Act of 1926, c. 27, § 223 (U.S.C.App., Title 26, § 964).
During and prior to 1927, they accumulated property comprising real estate, stocks, bonds and other personal property. While the real estate stood in his name alone, it is undisputed that all of the property, real and personal, constituted community property, and that neither owned any separate property or had any separate income.
The income comprised Seaborn’s salary, interest on bank deposits and on bonds, dividends, and profits on sales of real and personal property. He and his wife each returned one-half the total community income as gross income, and each deducted one-half of the community expenses to arrive at the net income returned.
The Commissioner of Internal Revenue determined that all of the income should have been reported in the husband’s return, and made an additional assessment against him. Seaborn paid under protest, claimed a refund, and, on its rejection, brought this suit.
The district court rendered judgment for the plaintiff; the Collector appealed, and the circuit court of appeals certified to us the question whether the husband was bound to report for income tax the entire income, or whether the spouses were entitled each to return one-half thereof. This Court ordered the whole record to be sent up.
The case requires us to construe §§ 210(a) and 211(a) of the Revenue Act of 1926 (44 Stat. 21, U.S.C.App. Tit. 26, §§ 951 and 952), and apply them, as construed, to the interests of husband and wife in community property under the law of Washington. These sections lay a tax upon the net income of every individual. [footnote omitted] The Act goes no farther, and furnishes no other standard or definition of what constitutes an individual’s income. The use of the word “of” denotes ownership. It would be a strained construction, which, in the absence of further definition by Congress, should impute a broader significance to the phrase.
The Commissioner concedes that the answer to the question involved in the cause must be found in the provisions of the law of the state as to a wife’s ownership of or interest in community property. What, then, is the law of Washington as to the ownership of community property and of community income including the earnings of the husband’s and wife’s labor?
The answer is found in the statutes of the state [footnote omitted] and the decisions interpreting them.
These statutes provide that, save for property acquired by gift, bequest, devise, or inheritance, all property however acquired after marriage by either husband or wife or by both is community property. On the death of either spouse, his or her interest is subject to testamentary disposition, and, failing that, it passes to the issue of the decedent, and not to the surviving spouse. While the husband has the management and control of community personal property and like power of disposition thereof as of his separate personal property, this power is subject to restrictions which are inconsistent with denial of the wife’s interest as co owner. The wife may borrow for community purposes and bind the community property. [citation omitted]. Since the husband may not discharge his separate obligation out of community property, she may, suing alone, enjoin collection of his separate debt out of community property. [citation omitted]. She may prevent his making substantial gifts out of community property without her consent. [citation omitted]. The community property is not liable for the husband’s torts not committed in carrying on the business of the community. [citation omitted].
The books are full of expressions such as “the personal property is just as much hers as his” [citation omitted]; “her property right in it [(an automobile)] is as great as his” [citation omitted]; “the title of the spouse therein was a legal title, as well as that of the other” [citation omitted].
Without further extending this opinion, it must suffice to say that it is clear the wife has, in Washington, a vested property right in the community property equal with that of her husband, and in the income of the community, including salaries or wages of either husband or wife, or both. ...
The taxpayer contends that, if the test of taxability under Sections 210 and 211 is ownership, it is clear that income of community property is owned by the community, and that husband and wife have each a present vested one-half interest therein.
The Commissioner contends, however, that we are here concerned not with mere names, nor even with mere technical legal titles; that calling the wife’s interest vested is nothing to the purpose, because the husband has such broad powers of control and alienation that, while the community lasts, he is essentially the owner of the whole community property, and ought so to be considered for the purposes of §§ 210 and 211. He points out that, as to personal property, the husband may convey it, may make contracts affecting it, may do anything with it short of committing a fraud on his wife’s rights. And though the wife must join in any sale of real estate, he asserts that the same is true, by virtue of statutes, in most states which do not have the community system. He asserts that control without accountability is indistinguishable from ownership, and that, since the husband has this, quoad community property and income, the income is that “of” the husband under §§ 210, 211 of the income tax law.
quoad: as to; as long as; until
We think, in view of the law of Washington above stated, this contention is unsound. The community must act through an agent. This Court has said with respect to the community property system [citation omitted] that “property acquired during marriage with community funds became an acquêt of the community, and not the sole property of the one in whose name the property was bought, although by the law existing at the time the husband was given the management, control, and power of sale of such property. This right being vested in him not because he was the exclusive owner, but because, by law, he was created the agent of the community.”
The obligations of the husband as agent of the community are no less real because the policy of the state limits the wife’s right to call him to account in a court. Power is not synonymous with right. Nor is obligation coterminous with legal remedy. The law’s investiture of the husband with broad powers by no means negatives the wife’s present interest as a co-owner.
We are of opinion that, under the law of Washington, the entire property and income of the community can no more be said to be that of the husband than it could rightly be termed that of the wife.
The Commissioner urges that we have, in principle, decided the instant question in favor of the government. He relies on [citations omitted] and Lucas v. Earl, 281 U. S. 111.
In the Earl case, a husband and wife contracted that any property they had or might thereafter acquire in any way, either by earnings (including salaries, fees, etc.) or any rights by contract or otherwise, “shall be treated and considered, and hereby is declared to be received, held, taken, and owned by us as joint tenants. ...” We held that assuming the validity of the contract under local law, it still remained true that the husband’s professional fees, earned in years subsequent to the date of the contract, were his individual income, “derived from salaries, wages, or compensation for personal service” under § 210, 211, 212(a) and 213 of the Revenue Act of 1918. The very assignment in that case was bottomed on the fact that the earnings would be the husband’s property, else there would have been nothing on which if could operate. That case presents quite a different question from this, because here, by law, the earnings are never the property of the husband, but that of the community.
Finally the argument is pressed upon us that the Commissioner’s ruling will work uniformity of incidence and operation of the tax in the various states, while the view urged by the taxpayer will make the tax fall unevenly upon married people. This argument cuts both ways. When it is remembered that a wife’s earnings are a part of the community property equally with her husband’s, it may well seem to those who live in states where a wife’s earnings are her own that it would not tend to promote uniformity to tax the husband on her earnings as part of his income. The answer to such argument, however, is that the constitutional requirement of uniformity is not intrinsic, but geographic. [citations omitted]. And differences of state law, which may bring a person within or without the category designated by Congress as taxable, may not be read into the Revenue Act to spell out a lack of uniformity. [citation omitted].
The district court was right in holding that the husband and wife were entitled to file separate returns, each treating one-half of the community income as his or her respective incomes, and its judgment is
THE CHIEF JUSTICE and MR. JUSTICE STONE took no part in the consideration or decision of this case.
Notes and Questions:
1. Is the distinction of ownership by reason of state law rather than operation of a contract convincing? Would you expect the same resolution of the conflict to be applied to partnership allocations of income embodied in a partnership agreement, i.e., in a contract? Why the difference?
2. When taxpayer lawfully performed services for which insurance commissions were paid but which taxpayer could not legally receive, the Supreme Court held that taxpayer did not have sufficient dominion over the income to be required to include it in its gross income. Commissioner v. First Security Bank of Utah, 405 U.S. 394, 405 (1972) (“We think that fairness requires the tax to fall on the party that actually receives the premiums, rather than on the party that cannot.”).
3. State law often effectively dictates the ownership of property for purposes of federal income tax. Recall the role of Ohio law of treasure trove in Cesarini. If state law recognizes a taxpayer’s same-sex marriage, what federal tax law consequences should follow?
4. Section 3 of the Defense of Marriage Act (DOMA), 1 U.S.C. § 7, provides:
In determining the meaning of any Act of Congress, or of any ruling, regulation, or interpretation of the various administrative bureaus and agencies of the United States, the word “marriage” means only a legal union between one man and one woman as husband and wife, and the word “spouse” refers only to a person of the opposite sex who is a husband or a wife.
The United States Supreme Court held that this provision unconstitutionally denied same-sex spouses equal protection in United States v. Windsor, ___ U.S. ___, ___, 133 S. Ct. 2675, 2695 (2013). Section 2 of DOMA, 1 U.S.C. § 6, provides:
No State, territory, or possession of the United States, or Indian tribe, shall be required to give effect to any public act, record, or judicial proceeding of any other State, territory, possession, or tribe respecting a relationship between persons of the same sex that is treated as a marriage under the laws of such other State, territory, possession, or tribe, or a right or claim arising from such relationship.
The Supreme Court offered no holding concerning the constitutionality of § 2 of DOMA. For purposes of income tax, Windsor raised issues that the IRS addressed in Rev. Rul. 2013-17, 2013 38 I.R.B. 201.
Although states have different rules of marriage recognition, uniform nationwide rules are essential for efficient and fair tax administration. A rule under which a couple’s marital status could change simply by moving from one state to another state would be prohibitively difficult and costly for the Service to administer, and for many taxpayers to apply.
For Federal tax purposes, the term “marriage” does not include registered domestic partnerships, civil unions, or other similar formal relationships recognized under state law that are not denominated as a marriage under that state's law, and the terms “spouse,” “husband and wife,” “husband,” and “wife” do not include individuals who have entered into such a formal relationship. This conclusion applies regardless of whether individuals who have entered into such relationships are of the opposite sex or the same sex.
- For Federal tax purposes, the terms “spouse,” “husband and wife,” “husband,” and “wife” include an individual married to a person of the same sex if the individuals are lawfully married under state law, and the term “marriage” includes such a marriage between individuals of the same sex.
- For Federal tax purposes, the Service adopts a general rule recognizing a marriage of same-sex individuals that was validly entered into in a state whose laws authorize the marriage of two individuals of the same sex even if the married couple is domiciled in a state that does not recognize the validity of same-sex marriages.
- For Federal tax purposes, the terms “spouse,” “husband and wife,” “husband,” and “wife” do not include individuals (whether of the opposite sex or the same sex) who have entered into a registered domestic partnership, civil union, or other similar formal relationship recognized under state law that is not denominated as a marriage under the laws of that state, and the term “marriage” does not include such formal relationships.
Thus, same-sex couples whose marriage is recognized by any state must file as married filing jointly or as married filing separately. Married same sex spouses may not file as single or as head of household. See IRS, Notice, 2013 WL 4718990 (August 29, 2013), Answers to Frequently Asked Questions for Individuals of the Same Sex Who Are Married Under State Law (Q2 and Q5).
5. Do the CALI Lesson, Basic Federal Income Taxation: Assignment of Income: Services.
- Do not worry about question 14.
- Be prepared to learn something about waiver.