Federal Tax Memorandum - Essay Example

Tax Research Memorandum Tax Research Memorandum File: RE: Peaceful Pastures Funeral Home, Inc Facts Peaceful Pastures Funeral Home, Inc. is an accrual service taxpayer. It provides a full line funeral services as well as selling goods related to those services. Over the last few years, the cost of services and goods offered by this company experienced a dramatic increase. In response, this company registered decline in sale because many customers were not able to afford the same. Peaceful Pastures Funeral Homes, Inc responded by designing its products to allow customers to prepay for the services and goods.

The new product design allowed clients to make prepayment for the goods and services and be accorded with a discount at the time of their death. The contract entered states that the payments are refundable at any time the purchaser request for them until the time when they receive the goods and services. Peaceful record this payment and income for the year the client received the funeral services. IRS sent Peaceful an audit notice in which it contends that the amount prepared under the Peaceful product design constitute prepaid income and must form Peaceful income therefore subject to tax in the year Peaceful received it.

Issue and Conclusion Is Peaceful Funeral Homes, Inc entitled to a tax deduction for the income it receives from clients under the prepaid product design? No, the amount received is not taxable because the contract allows the customers to reclaim their money before purchase. Analysis The income received under the prepaid product are susceptible to refund upon customer request and thus do not form the real income of the business. From the contract, customers of Peaceful Funeral Homes Inc, reserve the right to demand their money before the actual purchase of the services and goods offered by this firm.

It follows that, Peaceful is only able to pay taxes on the money which it has received upon delivery of goods and services. A similar case, filed in the Supreme Court by Commissioner of Internal Revenue against Indianapolis Power & Light Co., Comm. V. Indianapolis Power & Light Co., 65 aftr 2d 90-394 (110 s.ct.589), 01/09/1990 , Code Sec(s) 61. In this case, the Commissioner of Tax submitted before the court that Indianapolis Power & Light Co. should remit taxes on income its receives from clients in the form of deposit.

While challenging suit, the defendant argued that deposit it received did not form part of income because the company could only include it as part of its income when clients failed to remit their bills. The court ruled in favor of the defendant arguing that even though the defendant enjoyed some commercial gain in keeping the deposit, it did not form its income. In general, the accrual method is designated a permissible method of accounting for purposes of section 446. Sec. 446 (c)(2). Under the accrual method, income is to be included for the taxable year when all events have occurred that fix the right to receive the income and the amount of the income can be determined with reasonable accuracy.

Mega Corp, Inc. Facts Mega Corp purchased all the assets of Little, Inc. and acquired some of Little Liabilities specifically liability of patent infringement case. In the agreement between Mega Corps and Little, Inc. Mega Corps agreed to meet the expenses of the lawsuit. In this case, Little, Inc. lost the case thereby forcing Mega Corps to meet the damages of $5 million. Mega Corps paid the damages and deducted this payment as an ordinary business expense under § 162. IRS reclassified the $5 million payment as capital expenditure under § 263 and disallow the deduction.

Issue and Conclusion Did Mega Corps err in recording the settlement of Little, Inc. under ordinary business expense under § 162? No, the acquisition agreement between Little, Inc. and Mega Corps subjected Mega Corps to meet any damages of the lawsuit. The payment made by Mega Corps was part of capital expenditure and it falls under the provisions of § 162 (a). Analysis of the Case The amount spent by Mega Corps in settling the patent infringement damages by Little, Inc formed part of the capital acquisition agreement.

Moreover, the court ruled in favor of the plaintiff thereby compelling Mega Corps to meet the settlement as provided in the original agreement. Under § 162 (a) Mega Corps should categorize deduction under capital acquisition expenses and thus it should form part of ordinary expenses of the company. In INDOPCO, INC. v. COMM., 69 AFTR 2d 92-694 (503 U.S. 79, 112 S.Ct. 1039), 02/26/1992, Code Sec(s) 162 the Supreme Court affirmed that taxpayer could not deduct investment banking in legal and other friendly takeover.

In NCNB Corp. v. United States, 684 F.2d 285, 293-294 [50 AFTR2d 82-5281] (CA4 1982) (bank expenditures for expansion-related planning reports, feasibility studies, and regulatory applications did not "create or enhance separate and identifiable assets," and therefore were ordinary and necessary expenses under §162(a). Thus, by arguing in the above opinion, Mega Corps should treat the settlement as ordinary deduction. References COMM. v. INDIANAPOLIS POWER & LIGHT CO., 65 AFTR 2d 90-394 (110 S.Ct.589), 01/09/1990, Code Sec(s) 61 Tax Court & Board of Tax Appeals Memorandum Decisions Perry Funeral Home, Inc. v. Commissioner, TC Memo 2003-340, Code Sec (s) 451.