WEEK 3 RESEARCH PROJECT
(Set #1)
ACCT 429
DeVry University
IMPORTANT NOTE TO STUDENTS
This assignment is being distributed solely for your use in completing the Week 3 project in
DeVry University’s online Accounting 429 class. This assignment is an individual assignment,
and you are to complete it without any outside assistance by any other student, individual, or
outside materials, other than those specifically permitted by the problem. Any violations of
these requirements will be addressed as an academic integrity violation. Similarly, this
assignment may not be shared with any other student at any time, even after your completion
of the course. Students to do so may be subject to sanctions pursuant to DeVry’s academic
integrity policy, even though they may no longer be enrolled in Accounting 429.
Week 3 Research Project (Set #1)
DeVry University Acct 429
Performing tax research is an important part of tax practice. As outlined in Assessment Brief Original Custom Research Essay Pro Papers Help – Chapter 2 of your
textbook, tax law is developed through a number of different governmental entities. Congress
enacts the tax Code as statutory law. The Treasury Department is tasked with the
implementation of the tax Code and, in the course of doing so, develops a number of
documents and materials to aid taxpayers in understanding the Treasury Department’s
interpretation of the code, including the Regulations. In turn, the Internal Revenue Service
(“IRS”) has the direct responsibility for implementing the tax Code and in assessing and
collecting the applicable tax from taxpayers. In the course of its duties, it also develops a
number of materials, including Revenue Rulings, Revenue Procedures, and Private Letter
Rulings, in which it sets forth its understanding of the tax laws. Finally, the federal courts
decide tax cases in which taxpayers contest the government’s interpretation of the tax laws. In
deciding these cases, the federal courts set forth binding interpretation of what the tax laws
provide. All of these materials (often called primary resources) are important resources in
performing tax research. On top of these primary sources of tax law, there are a number of
secondary materials provided by various organizations and publishers. These secondary
materials offer editorial analysis of the tax laws (somewhat akin to a Cliffs’ – – Notes – essay service -® on tax laws)
to help tax practitioners understand the tax laws and apply them in given situations.
The following assignment has three (3) different graded elements. Two of them require you to
prepare tax file memoranda, while the remaining element requires you to compose an essay
answering the question asked. AS SUCH, YOU WILL BE SUBMITTING THREE SEPARATE
DOCUMENTS FOR THIS ASSIGNMENT.
1. The first two assignments require you to compose tax file memoranda. In each of these
problems, you will be given a fact pattern or issue that requires you to decide or analyze
a particular issue of tax law. You will also be provided with a number of the primary
sources discussed above (e.g., Revenue Rulings, cases) on that issue of tax law. You will
then compose a tax file memoranda concerning that taxpayer. You can find details as to
how to compose such a memorandum in Assessment Brief Original Custom Research Essay Pro Papers Help – Chapter 2 of your text, including a sample text
file memorandum in Figure 2.6 on page 2-26 of your text. Use the materials provided to
determine the proper solution to the taxpayer’s issues. In particular, discuss the
materials in some detail in the “Analysis” section of the tax file memorandum. THIS IS
IMPORTANT! The most important part of any tax file memorandum is the thoroughness
of the analysis defending the conclusion reached in the memorandum. Accordingly,
most of the points awarded on the assignment are allocated to the “Analysis” section of
the memorandum. In assessing these assignments, consideration will be given to,
among other factors, (1) your accuracy in summarizing the relevant facts; (2) the
accuracy of your identification and statement of the “Issue” presented by the problem;
(3) the accuracy of your “Conclusion;” (4) the thoroughness and quality of your analysis
Week 3 Research Project (Set #1)
DeVry University Acct 429
offered in the “Analysis” section of your memorandum; and (5) the overall
professionalism of your memorandum (e.g., presentation, use of proper grammar,
proper spelling, and quality of communication). EACH OF THE TAX MEMORANDA IS
WORTH 30 POINTS, FOR A TOTAL OF 60 POINTS.
2. The remaining assignment requires you to perform some research on the Internet to
find relevant materials and to analyze these materials. As previously noted, in
performing this research, you may not take advantage of any resources other than those
specifically permitted by the assignment, including assignments previously completed by
other students or other similar materials. You will then complete an essay answering
the question or questions presented by this assignment. Your submission will be graded
on a number of factors, including (1) your ability to locate relevant research and
materials on the Internet; (2) your ability to analyze these resources; (3) your ability to
draw conclusions from these resources and to defend these conclusions with analysis of
the research and materials located; and (4) the overall professionalism and content of
your essay (e.g., presentation, use of proper grammar, proper spelling, and quality of
communication). THIS ESSAY IS WORTH 20 POINTS.
Please note that these assignments are worth a significant portion of your grade. As such, you
should take them seriously, and leave yourself enough time to complete them. Do not wait
until the last weekend to begin these assignments. If you do, it will be very difficult for you to
submit quality responses to each of the four questions or problems posed. Please also note
that preparing these answers conscientiously will help you in preparing for the final
examination, given that you may be required to perform similar analyses on the exam. Should
you have a question, please ask your instructor. Good luck!
Week 3 Research Project (Set #1)
DeVry University Acct 429
TAX RESEARCH MEMORANDUM ASSIGNMENT 1
– – One of your clients is an incorporated funeral home, Peaceful Pastures Funeral Home, Inc.
(“Peaceful”). Peaceful, an accrual basis taxpayer, provides a full line of funeral services and sells
goods related to those services. Over the last few years, however, the cost of these goods and
services have risen dramatically. As a result, more of Peaceful’s customers have had difficulties
paying their bills or have selected goods and services that cost less, sharply impacting Peaceful’s
bottom line.
As a result, Peaceful has attempted to design an approach that allows customers to prepay for
their funeral goods and services. Under this program, the customer pays in advance for the
goods and services that will be provided at the time of their death, often at a significant
discount. Under the terms of the contract, the payments are refundable at the contract
purchaser’s request any time until the goods and services are provided to them. Given that it is
an accrual basis taxpayer, Peaceful has included these payments and income for the year the
funeral service is provided.
This year, the IRS sent Peaceful an audit notice. It contends that the amount prepaid under
Peaceful’s program constitutes prepaid income that must be included in Peaceful’s income (and
therefore subject to tax) in the year in which it is received. Peaceful has come to you for
advice. Is the IRS correct?
COMPOSE A TAX FILE MEMORANDUM CONCERNING THIS ISSUE USING THESE FACTS AND THE
RESEARCH MATERIALS PROVIDED TO YOU IN THE NEXT FEW PAGES (30 POINTS).
Checkpoint Contents
Federal Library
Federal Source Materials
Federal Tax Decisions
American Federal Tax Reports
American Federal Tax Reports (Prior Years)
1990
AFTR 2d Vol. 65
65 AFTR 2d 90-407 (888 F.2d 208) – 65 AFTR 2d 90-301 (19 Cl Ct 1)
COMM. v. INDIANAPOLIS POWER & LIGHT CO., 65 AFTR 2d 90-394 (110 S.Ct.589), Code Sec(s) 451;
61, (S Ct), 01/09/1990
American Federal Tax Reports
COMM. v. INDIANAPOLIS POWER & LIGHT CO., Cite as 65 AFTR 2d 90-394
(110 S.Ct.589), 01/09/1990 , Code Sec(s) 61
COMMISSIONER of Internal Revenue, PETITIONER v. INDIANAPOLIS POWER & LIGHT COMPANY, RESPONDENT
Case Information:
HEADNOTE
1. TIME FOR REPORTING INCOME—Prepaid income—receipt for future services or sale of personal property.
Customer deposits required by public utility to insure customer creditworthiness and bill payment weren’t advance
payments for electricity and weren’t taxable income to utility on receipt. Utility didn’t have requisite “complete
dominion” over payments at time they were made, the crucial point for determining taxable income. 11th Circuit’s
holding in City Gas Co. of Fla. v. Comm., 50 AFTR 2d 82-5959 ( 689 F2d 943), not followed. Utility’s right to
keep deposits depended on events outside its control—customer’s purchase of electricity, decision to have deposit
applied to future bills, or default. Utility’s dominion over fund was far less complete than is ordinarily case in
advance-payment situation. Closest analogy is lease deposits.
Reference(s): PH Fed 2d ¶4515.191(90); ¶615.003(10). Code Sec. 61 ; Code Sec. 451 .
OPINION
On Writ of Certiorari to the United States Court of Appeals for the Seventh Circuit.
Syllabus
Respondent Indianapolis Power and Light Co. (IPL), a regulated Indiana utility and an accrual-basis taxpayer,
requires customers having suspect credit to make deposits with it to assure prompt payment of future electric bills.
Prior to termination of service, customers who satisfy a credit test can obtain a refund of their deposits or can
choose to have the amount applied against future bills. Although the deposits are at all times subject to the
company’s unfettered use and control, IPL does not treat them as income at the time of receipt but carries them on
its books as current liabilities. Upon audit of IPL’s returns for the tax years at issue, petitioner Commissioner of
Internal Revenue asserted deficiencies, claiming that the deposits are advance payments for electricity and
Code Sec(s): 61
Court Name: U.S. Supreme Court,
Docket No.: No. 88-1319,
Date
Decided: 01/09/1990
Prior History: Court of Appeals, 62 AFTR 2d 88-5708 ( 857 F.2d 1162), aff’g 88 TC 964
(No.52), affirmed.
Tax Year(s): Years 1974, 1975, 1976, 1977.
Disposition: Decision for Taxpayer.
Cites: 65 AFTR 2d 90-394, 493 US 203, 110 S Ct 589, 107 L Ed 2d 591, 90-1 USTC P 50007.
therefore are taxable to IPL in the year of receipt. The Tax Court ruled in favor of IPL on its petition for
redetermination, holding that the deposits’ principal purpose is to serve as security rather than a prepayment of
income. The Court of Appeals affirmed.
Held: The customer deposits are not advance payments for electricity and therefore do not constitute taxable
income to IPL upon receipt. Although IPL derives some economic benefit from the deposits, it does not have the
requisite “complete dominion” over them at the time they are made, the crucial point for determining taxable
income. IPL has an obligation to repay the deposits upon termination of service or satisfaction of the credit test.
Moreover, The Academic Papers UK Thesis Writing Service a customer submitting a deposit makes no commitment to purchase any electricity at all. Thus, while
deposits eventually may be used to pay for electricity by virtue of customer default or choice, IPL’s right to retain
them at the time they are made is contingent upon events outside its control. This construction is consistent with
the Tax Court’s longstanding treatment of sums deposited to secure a tenant’s performance of a lease agreement,
perhaps the closet analogy to the present situation.
857 F.2d 1162 [ 62 AFTR2d 88-5708], affirmed.
BLACKMUN, J., delivered the opinion for a unanimous Court.
Opinion
Justice BLACKMUN delivered the opinion of the Court.
Respondent Indianapolis Power & Light Company (IPL) requires certain customers to make deposits with it to assure
payment of future bills for electric service. Petitioner Commissioner of Internal Revenue contends that these deposits
are advance payments for electricity and therefore constitute taxable income to IPL upon receipt. IPL contends
otherwise.
I
IPL is a regulated Indiana corporation that generates and sells electricity in Indianapolis and its environs. It keeps its
books on the accrual and calendar year basis. [pg. 90-395] During the years 1974 through 1977, approximately 5%
of IPL’s residential and commercial customers were required to make deposits “to insure prompt payment,” as the
customers’ receipts stated, of future utility bills. These customers were selected because their credit was suspect.
Prior to March 10, 1976, the deposit requirement was imposed on a case-by-case basis. IPL relied on a credit test
but employed no fixed formula. The amount of the required deposit ordinarily was twice the customer’s estimated
monthly bill. IPL paid 3% interest on a deposit held for six months or more. A customer could obtain a refund of the
deposit prior to termination of service by requesting a review and demonstrating acceptable credit. The refund
usually was made in cash or by check, but the customer could choose to have the amount applied against future
bills.
In March 1976, IPL amended its rules governing the deposit program. See Title 170, Ind. Admin. Code 4-1-15 (1988).
Under the amended rules, the residential customers from whom deposits were required were selected on the basis of
a fixed formula. The interest rate was raised to 6% but was payable only on deposits held for 12 months or more. A
deposit was refunded when the customer made timely payments for either nine consecutive months, or for 10 out of
12 consecutive months so long as the two delinquent months were not themselves consecutive. A customer could
obtain a refund prior to that time by satisfying the credit test. As under the previous rules, the refund would be
made in cash or by check, or, at the customer’s option, applied against future bills. Any deposit unclaimed after
seven years was to escheat to the State. See Ind. Code §32-9-1-6(a) (1988) 1
IPL did not treat these deposits as income at the time of receipt. Rather, as required by state administrative
regulations, the deposits were carried on its books as current liabilities. Under its accounting system, IPL recognized
income when it mailed a monthly bill. If the deposit was used to offset a customer’s bill, the utility made the
necessary accounting adjustments. Customer deposits were not physically segregated in any way from the
company’s general funds. They were commingled with other receipts and at all times were subject to IPL’s
unfettered use and control. It is undisputed that IPL’s treatment of the deposits was consistent with accepted
accounting practice and applicable state regulations.
Upon audit of respondent’s returns for the calendar years 1974 through 1977, the Commissioner asserted
deficiencies. Although other items initially were in dispute, the parties were able to reach agreement on every issue
except that of the proper treatment of customer deposits for the years 1975, 1976, and 1977. The Commissioner
took the position that the deposits were advance payments for electricity and therefore were taxable to IPL in the
year of receipt. He contended that the increase or decrease in customer deposits outstanding at the end of each
year represented an increase or decrease in IPL’s income for the year. 2 IPL disagreed and filed a petition in the
United States Tax Court for redetermination of the asserted deficiencies.
In a reviewed decision, with one judge not participating, a unanimous Tax Court ruled in favor of IPL. 88 T.C. 964
(1987). The court followed the approach it had adopted in City Gas Co. of Florida v. Commissioner of Internal
Revenue, 74 T.C. 386 (1980), rev’d, 689 F.2d 943 [ 50 AFTR2d 82-5959] (CA 11 1982). It found it
necessary to “continue to examine all of the circumstances,” 88 T.C., at 976, and relied on several factors in
concluding that the deposits in question were properly excluded from gross income. It noted, among other things,
that only 5% of IPL’s customers were required to make deposits; that the customer rather than the utility controlled
the ultimate disposition of a deposit; and that IPL consistently treated the deposits as belonging to the customers,
both by listing them as current liabilities for accounting purposes and by paying interest. Id., at 976-978.
The United States Court of Appeals for the Seventh Circuit affirmed the Tax Court’s decision. 857 F.2d 1162 [
62 AFTR2d 88-5708] (1988). The court stated that “the proper approach to determining the appropriate tax
treatment of a customer deposit is to look at the primary purpose of the deposit based on all the facts and
circumstances….” Id., at 1167. [pg. 90-396] The court appeared to place primary reliance, however, on IPL’s
obligation to pay interest on the deposits. It asserted that ” as the interest rate paid on a deposit to secure income
begins to approximate the return that the recipient would be expected to make from ‘the use’ of the deposit amount,
the deposit begins to serve purposes that comport more squarely with a security deposit.” Id., at 1169. Noting that
IPL had paid interest on the customer deposits throughout the period in question, the court upheld, as not clearly
erroneous, the Tax Court’s determination that the principal purpose of these deposits was to serve as security
rather than as prepayment of income. Id., at 1170.
Because the Seventh Circuit was in specific disagreement with the Eleventh Circuit’s ruling in City Gas Co. of Florida,
supra, we granted certiorari to resolve the conflict. —U.S. — (1989).
II
We begin with the common ground. IPL acknowledges that these customer deposits are taxable as income upon
receipt if they constituteadvance payments for electricity to be supplied. 3 The Commissioner, on his part, concedes
that customer deposits that secure the performance of nonincome-producing covenants—such as a utility
customer’s obligation to ensure that meters will not be damaged—are not taxable income. And it is settled that
receipt of a loan is not income to the borrower. See Commissioner v. Tufts, 461 U.S. 300, 307 [ 51 AFTR2d
83-1132] (1983) (“Because of [the repayment] obligation, the loan proceeds do not qualify as income to the
taxpayer”); James v. United States, 366 U.S. 213, 219 [ 7 AFTR2d 1361] (1961) (accepted definition of
gross income “excludes loans”); Commissioner v. Wilcox, 327 U.S. 404, 408 [ 34 AFTR 811] (1946). IPL,
stressing its obligation to refund the deposits with interest, asserts that the payments are similar to loans. The
Commissioner, however, contends that a deposit which serves to secure the payment of future income is properly
analogized to an advance payment for goods or services. See Rev. Rul. 72-519, 1972-2 Cum. Bull. 32, 33 (“[W]
hen the purpose of the deposit is to guarantee the customer’s payment of amounts owed to the creditor, such a
deposit is treated as an advance payment, but when the purpose of the deposit is to secure a property interest of
the taxpayer the deposit is regarded as a true security deposit”).
In economic terms, to be sure, the distinction between a loan and an advance payment is one of degree rather than
of kind. A commercial loan, like an advance payment, confers an economic benefit on the recipient: a business
presumably does not borrow money unless it believes that the income it can earn from its use of the borrowed funds
will be greater than its interest obligation. See Illinois Power Co. v. Commissioner of Internal Revenue, 792 F.2d
683, 690 [ 58 AFTR2d 86-5122] (CA7 1986). Even though receipt of the money is subject to a duty to repay,
the borrower must regard itself as better off after the loan than it was before. The economic benefit of a loan,
however, consists entirely of the opportunity to earn income on the use of the money prior to the time the loan
must be repaid. And in that context our system is content to tax these earnings as they are realized. The recipient
of an advance payment, in contrast, gains both immediate use of the money (with the chance to realize earnings
thereon) and the opportunity to make a profit by providing goods or services at a cost lower than the amount of the
payment.
The question, therefore, cannot be resolved simply by noting that respondent derives some economic benefit from
receipt of these deposits. 4 Rather, the issue turns upon the nature of the rights and obligations that IPL assumed
when the deposits were made. In determining what sort of economic benefits qualify as income, this Court has
invoked various formulations. It has referred, for example, to “undeniable accessions to wealth, clearly realized, and
over which the taxpayers have complete dominion.” Commissioner v. Glenshaw Glass Co., [pg. 90-397] 348 U.S.
426, 431 [ 47 AFTR 162] (1955). It also has stated: “When a taxpayer acquires earnings, lawfully or unlawfully,
without the consensual recognition, express or implied, of an obligation to repay and without restriction as to their
disposition, ‘he has received income….’ ” James v. United States, 366 U.S., at 219, quoting North American Oil
Consolidated v. Burnet, 286 U.S. 417, 424 [ 11 AFTR 16] (1932). IPL hardly enjoyed “complete dominion” over
the customer deposits entrusted to it. Rather, these deposits were acquired subject to an express “obligation to
repay,” either at the time service was terminated or at the time a customer established good credit. So long as the
customer fulfills his legal obligation to make timely payments, his deposit ultimately is to be refunded, and both the
timing and method of that refund are largely within the control of the customer.
The Commissioner stresses the fact that these deposits were not placed in escrow or segregated from IPL’s other
funds, and that IPL therefore enjoyed unrestricted use of the money. That circumstance, however, cannot be
dispositive. After all, the same might be said of a commercial loan; yet the Commissioner does not suggest that a
loan is taxable upon receipt simply because the borrower is free to use the funds in whatever fashion he chooses
until the time of repayment. In determining whether a taxpayer enjoys “complete dominion” over a given sum, the
crucial point is not whether his use of the funds is unconstrained during some interim period. The key is whether the
taxpayer has some guarantee that he will be allowed to keep the money. IPL’s receipt of these deposits was
accompanied by no such guarantee.
Nor is it especially significant that these deposits could be expected to generate income greater than the modest
interest IPL was required to pay. Again, the same could be said of a commercial loan, since, as has been noted, a
business is unlikely to borrow unless it believes that it can realize benefits that exceed the cost of servicing the
debt. A bank could hardly operate profitably if its earnings on deposits did not surpass its interest obligations; but
the deposits themselves are not treated as income. 5 Any income that the utility may earn through use of the
deposit money of course is taxable, but the prospect that income will be generated provides no ground for taxing
the principal.
The Commissioner’s advance payment analogy seems to us to rest upon a misconception of the value of an advance
payment to its recipient. An advance payment, like the deposits at issue here, concededly protects the seller
against the risk that it would be unable to collect money owed it after it has furnished goods or services. But an
advance payment does much more: it protects against the risk that the purchaser will back out of the deal before
the seller performs. From the moment an advance payment is made, the seller is assured that, so long as it fulfills its
contractual obligation, the money is its to keep. Here, in contrast, a customer submitting a deposit made no
commitment to purchase a specified quantity of electricity, or indeed to purchase any electricity at all. 6 IPL’s right
to keep the money depends upon the customer’s purchase of electricity, and upon his later decision to have the
deposit applied to future bills, not merely upon the utility’s adherence to its contractual duties. Under these
circumstances, IPL’s dominion over the fund is far less complete than is ordinarily the case in an advance-payment
situation.
The Commissioner emphasizes that these deposits frequently will be used to pay for electricity, either because the
customer defaults on his obligation or because the customer, having established credit, chooses to apply the deposit
to future bills rather than to accept a refund. When this occurs, the Commissioner argues, the transaction, from a
cash-flow standpoint, is equivalent to an advance payment. In his view this economic equivalence mandates
identical tax treatment.
Whether these payments constitute income when received, however, depends upon the parties’ rights and obligations at the time the
payments are made. The problem with petitioner’s argument perhaps can best be understood if we imagine a loan between parties
involved in an ongoing commercial relationship. At the time the loan falls due, the lender may decide to apply the money owed him to
the purchase of goods or services rather than to accept repayment in cash. But this decision does not mean that the loan, when made,
was an advance payment after all. The lender in effect has taken repayment of his money (as was his contractual right) and has chosen
to use the proceeds for the purchase of goods or services from the borrower. Although, for the sake of convenience, the parties may
combine the two steps, that decision does not blind us to the fact that in substance two transactions are involved. 8 It is this element of
choice that distinguishes an advance payment from a loan. Whether these customer deposits are the economic equivalents of advance
payments, and therefore taxable upon receipt, must be determined by examining the relationship between the parties at the time of the
deposit. The individual who makes an advance payment retains no right to insist upon the return of the funds; so long as the recipient
fulfills the terms of the bargain, the money is its to keep. The customer who submits a deposit to the utility, like the lender in the
previous hypothetical, retains the right to insist upon repayment in cash; he may choose to apply the money to the purchase of
electricity, but he assumes no obligation to do so, and the utility therefore acquires no unfettered “dominion” over the money at the
time of receipt.
When the Commissioner examines privately structured transactions, the true understanding of the parties, of course, may not be
apparent. It may be that a transfer of funds, though nominally a loan, may conceal an unstated agreement that the money is to be
applied to the purchase of goods or services. We need not, and do not, attempt to devise a test for addressing those situations where
the nature of the parties’ bargain is legitimately in dispute. This particular respondent, however, conducts its business in a heavily
regulated environment; its rights and obligations vis-a-vis its customers are largely determined by law and regulation rather than by
private negotiation. That the utility’s customers, when they qualify for refunds of deposits, frequently choose to apply those refunds to
future bills rather than taking repayment in cash does not mean that any customer has made an unspoken commitment to do so.
Our decision is also consistent with the Tax Court’s longstanding treatment of lease deposits—perhaps the closest analogy to the
present situation. The Tax Court traditionally has distinguished between a sum designated as a prepayment of rent—which is taxable
upon receipt—and a sum deposited to secure the tenant’s performance of a lease agreement. See, e.g., J. & E. Enterprises, Inc. v.
Commissioner, 26 TCM 944 [ ¶67,191 PH Memo TC](1967). 9 In fact, the customer deposits at issue here are less plausibly
regarded as income than lease deposits would be. The [pg. 90-399] typical lease deposit secures the tenant’s fulfillment of a contractual
obligation to pay a specified rent throughout the term of the lease. The utility customer, however, makes no commitment to purchase
any services at all at the time he tenders the deposit.
We recognize that IPL derives an economic benefit from these deposits. But a taxpayer