T.C. Memo. 2004-244

UNITED STATES TAX COURT

ROGER L. WATKINS, Petitioner v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 19587-02. Filed October 26, 2004.

Eric J. Zinn and Gregory W. Berger, for petitioner.

Mary T. Klaasen, for respondent.

MEMORANDUM OPINION

HAINES, Judge: Respondent determined a $518,463 deficiency

in petitioner’s Federal income tax for 1998 (year in issue). The

sole issue for decision is whether petitioner’s receipt of

$2,614,744 in exchange for an assignment of a right to receive
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1 The parties stipulated that if the assignment does not

constitute the sale of a capital asset, then a $200,000 fee paid

to Will Hoover Group is deductible only as a miscellaneous

itemized deduction on petitioner’s Schedule A, Itemized

Deductions, for 1998, as respondent determined in the notice of

deficiency.

future lottery installment payments constitutes ordinary income

or capital gain during the year in issue.1

Unless otherwise noted, all section references are to the

Internal Revenue Code in effect for the year in issue, and all

Rule references are to the Tax Court Rules of Practice and

Procedure.

Background

The parties submitted this case fully stipulated pursuant to

Rule 122. The stipulation of facts and the attached exhibits are

incorporated herein by this reference. At the time the petition

was filed, petitioner resided in Hotchkiss, Colorado.

Petitioner purchased a $1 lottery ticket sometime before May

1, 1993. On May 1, 1993, petitioner won $12,358,688 from the

Colorado State lottery with this ticket. At the time he won the

lottery, petitioner was married to Tammy Watkins (Mrs. Watkins). 

The lottery prize amount was payable in 25 annual installments

beginning on May 3, 1993, and payable on the third of May for the

next 24 years.
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Petitioner reported the receipt of the first five lottery

installment payments as ordinary income on his Federal income tax

returns.

On February 7, 1997, petitioner and Mrs. Watkins were

divorced by order of the District Court, Park County, of the

State of Colorado. As part of the divorce settlement, the

district court awarded petitioner and Mrs. Watkins each one-half

interest in the future lottery installment payments as of May 3,

1998.

On or about April 10, 1998, petitioner entered into a

contract with Stone Street Capital, Inc. (Stone Street) to sell

and assign his one-half interest in the remaining lottery

installment payments beginning with the annual payment due on May

3, 1999. The remaining lottery installment payments were as

follows:

Year Amount

1999 $384,220

2000 398,436

2001 413,178

2002 428,465

2003 444,318

2004 460,756

2005 477,805

2006 495,483

2007 513,815

2008 532,826

2009 552,540

2010 572,983

2011 594,183

2012 616,167

2013 638,965

2014 662,606

2015 687,122

2016 712,545

2017 738,909
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The contract sale price of petitioner’s interest in the

remaining lottery installment payments was $2,614,744. On June

16, 1998, an order from the District Court for the City and

County of Denver, Colorado, directing the Colorado State lottery

to make assigned payments to Stone Street was issued. Petitioner

received consideration of $2,614,744 for the remaining lottery

installment payments from Stone Street on June 29, 1998.

On petitioner’s 1998 tax return, he reported the one-half

share of the annual installment payment awarded in the divorce

settlement, i.e., $185,256, due on May 3, 1998, as ordinary

income. Also on the 1998 tax return, petitioner reported the

consideration received for the assignment of his one-half

interest in the remaining lottery installment payments to Stone

Street as the sale of a capital asset of $2,414,744, with a basis

of zero. The sale amount represented the price paid by Stone

Street, i.e., $2,614,744, minus $200,000 paid to Will Hoover

Group as consulting fees for services provided in the assignment

to Stone Street.

In the notice of deficiency, respondent determined that

petitioner’s assignment of his right to future lottery

installment payments to Stone Street was not a sale of a capital

asset, and the consideration received was includable as ordinary

income in the full amount of $2,614,744. Further, respondent

determined the deduction of $200,000 for consulting fees was

allowable as a miscellaneous itemized deduction. Petitioner
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2 Under the “substitute for ordinary income doctrine”, a

court narrowly construes the term “capital asset” when taxpayers

make attempts to transform ordinary income into capital gain. 

See Commissioner v. P.G. Lake, Inc., 356 U.S. 260, 265 (1958).

timely filed a petition with the Court to dispute respondent’s

determinations.

Discussion

The parties dispute whether petitioner’s receipt of

$2,614,744 in exchange for the assignment of his right to receive

future lottery installment payments constitutes ordinary income

or capital gain during the year in issue. Resolution of this

issue depends on whether petitioner’s right to receive the

remaining lottery installment payments was a capital asset within

the meaning of section 1221.

Petitioner’s argument that the assignment was a sale of a

capital asset relies on reasoning found in United States v.

Maginnis, 356 F.3d 1179 (9th Cir. 2004). We note from the outset

that we are not bound by the opinion of the Court of Appeals for

the Ninth Circuit because appeal of this decision would lie in

the Court of Appeals for the Tenth Circuit, which has not ruled

on this issue. Sec. 7482(b)(1)(A).

Additionally, in Maginnis, the Court of Appeals affirmed the

District Court holding that under the substitute for ordinary

income doctrine the sale of a right to future lottery payments

should be taxed as ordinary income.2 Id. at 1187. Petitioner
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argues on the basis of reasoning stated as follows by the Court

of Appeals:

Two factors are crucial to our conclusion, although we do

not hold that they will be dispositive in all cases. 

Maginnis (1) did not make any underlying investment of

capital in return for the receipt of his lottery right, and

(2) the sale of his right did not reflect an accretion in

value over cost to any underlying asset Maginnis held. * * *

[Id. at 1183; fn. ref. omitted]

Petitioner argues that his purchase of the lottery ticket was an

underlying investment of capital. Further, petitioner argues

that the assignment of lottery installment payments did reflect

an accretion in value over cost to an underlying asset petitioner

held because the assigned future lottery installment payments

appreciated in value due to “impersonal market forces outside of

the control of the asset’s owner”. We disagree. We find that

the facts in Maginnis are indistinguishable from the instant

case.

In Maginnis, the taxpayer assigned his right to receive the

remaining installments of a lottery prize to a third party in

exchange for a lump-sum payment. Id. at 1181. The Court of

Appeals held that the taxpayer could not argue that a purchase of

a lottery ticket was a capital investment. Id. at 1183. The

Court of Appeals stated that “the purchase of a lottery ticket is

no more an underlying investment of capital than is a dollar bet

on the spin of a roulette wheel.” Id. at 1184. Further, because

the Court of Appeals held that the lottery ticket was not a

capital investment, it also held that there was no “cost” to the
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3 We note that petitioner’s tax return reported a zero cost

basis with regard to amount received for the assignment of the

future lottery installment payments to Stone Street.

taxpayer for the right to receive the future lottery payments,

and, therefore, the money received for the sale of the right

could not be seen as reflecting an increase of value above the

cost of any underlying asset.3 Id.; see also Boehme v.

Commissioner, T.C. Memo. 2003-81 (holding taxpayer’s right to

receive future annual lottery payments did not constitute a

capital asset). We reiterated this reasoning in Clopton v.

Commissioner, T.C. Memo. 2004-95, in which we held that the lumpsum amount received in exchange for an interest in a trust

holding the right to receive future lottery payments was ordinary

income. As a result, petitioner’s arguments fail under Maginnis.

Additionally, we find the facts in the instant case

indistinguishable in substance from the facts in our opinion of

Davis v. Commissioner, 119 T.C. 1 (2002), and cases relying on

this opinion, in which a taxpayer assigned a right to future

lottery installment payments in return for a lump-sum payout at a

discounted value from a third party. Id. at 3; Lattera v.

Commissioner, T.C. Memo. 2004-216; Clopton v. Commissioner,

supra; Simpson v. Commissioner, T.C. Memo. 2003-155; Johns v.

Commissioner, T.C. Memo. 2003-140; Boehme v. Commissioner, supra. 

We held in each of these cases that a right to future lottery
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4 SEC. 1221. CAPITAL ASSET DEFINED. 

For purposes of this subtitle, the term “capital asset”

means property held by the taxpayer (whether or not

connected with his trade or business), but does not 

include--

(1) stock in trade of the taxpayer or other

property of a kind which would properly be included in

the inventory of the taxpayer if on hand at the close

of the taxable year, or property held by the taxpayer

primarily for sale to customers in the ordinary course

of his trade or business;

(2) property, used in his trade or business, of a

character which is subject to the allowance for

depreciation provided in section 167, or real property

used in his trade or business;

(3) a copyright, a literary, musical, or artistic

composition, a letter or memorandum, or similar

property, held by--

(A) a taxpayer whose personal efforts created

such property,

(B) in the case of a letter, memorandum, or

similar property, a taxpayer for whom such

property was prepared or produced, or

(C) a taxpayer in whose hands the basis of

such property is determined, for purposes of

determining gain from a sale or exchange, in whole

or part by reference to the basis of such property

in the hands of a taxpayer described in

subparagraph (A) or (B);

(4) accounts or notes receivable acquired in the

ordinary course of trade or business for services

rendered or from the sale of property described in

paragraph (1);

(5) a publication of the United States Government

(including the Congressional Record) which is received

(continued...)

installment payments did not constitute a capital asset within

the meaning of section 1221.4 Davis v. Commissioner, supra at 7;
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4(...continued)

from the United States Government or any agency

thereof, other than by purchase at the price at which

it is offered for sale to the public, and which is held

by--

(A) a taxpayer who so received such

publication, or

(B) a taxpayer in whose hands the basis of

such publication is determined, for purposes of

determining gain from a sale or exchange, in whole

or in part by reference to the basis of such

publication in the hands of a taxpayer described

in subparagraph (A).

Lattera v. Commissioner, supra; Clopton v. Commissioner, supra;

Simpson v. Commissioner, supra; Johns v. Commissioner, supra;

Boehme v. Commissioner, supra. Given the similarity of facts, it

would serve no purpose in repeating the analysis provided in

Davis v. Commissioner, supra. See also Sec. State Bank v.

Commissioner, 111 T.C. 210, 213-214 (1998)(“The doctrine of stare

decisis generally requires that we follow the holding of a

previously decided case, absent special justification.”), affd.

214 F.3d 1254 (10th Cir. 2000).

Pursuant to Davis v. Commissioner, supra, and its progeny,

we hold that the $2,614,744 received by petitioner from Stone

Street in exchange for petitioner’s right to receive one-half of

the remaining lottery installment payments is ordinary income and

not capital gain.
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In reaching our holding herein, we have considered all

arguments made, and, to the extent not mentioned above, we

conclude that they are moot, irrelevant, or without merit.

To reflect the foregoing,

Decision will be

entered for respondent.