SIXTEENTH AMENDMENT

INCOME TAX

CONTENTS

Page

Income Tax ................................................................................................................................. 2259

History and Purpose of the Amendment .......................................................................... 2259

Income Subject to Taxation ............................................................................................... 2260

Corporate Dividends: When Taxable ......................................................................... 2261

Corporate Earnings: When Taxable ........................................................................... 2263

Gains: When Taxable .................................................................................................. 2265

Income from Illicit Transactions ................................................................................ 2267

Deductions and Exemptions ....................................................................................... 2268

Diminution of Loss ...................................................................................................... 2269

2257

INCOME TAX

SIXTEENTH AMENDMENT

The Congress shall have power to lay and collect taxes on

incomes, from whatever source derived, without apportionment

among the several States, and without regard to any census or

enumeration.

INCOME TAX

History and Purpose of the Amendment

The ratification of the Sixteenth Amendment was the direct consequence of the Court’s 1895 decision in Pollock v. Farmers’ Loan

& Trust Co.1 holding unconstitutional Congress’s attempt of the previous year to tax incomes uniformly throughout the United States.2

A tax on incomes derived from property,3 the Court declared, was a

“direct tax,” which Congress, under the terms of Article I, § 2, and

§ 9, could impose only by the rule of apportionment according to

population. Scarcely fifteen years earlier the Justices had unanimously sustained 4 the collection of a similar tax during the Civil

War,5 the only other occasion preceding the Sixteenth Amendment

in which Congress had used this method of raising revenue.6

During the years between the Pollock decision in 1895 and the

ratification of the Sixteenth Amendment in 1913, the Court gave

evidence of a greater awareness of the dangerous consequences to

national solvency that Pollock threatened, and partially circumvented the threat, either by taking refuge in redefinitions of “direct

tax” or by emphasizing the history of excise taxation. Thus, in a

series of cases, notably Nicol v. Ames,

7 Knowlton v. Moore,8 and Pat1 157 U.S. 429 (1895); 158 U.S. 601 (1895).

2 Ch. 349, § 27, 28 Stat. 509, 553.

3 The Court conceded that taxes on incomes from “professions, trades, employments, or vocations” levied by this act were excise taxes and therefore valid. The entire statute, however, was voided on the ground that Congress never intended to permit the entire “burden of the tax to be borne by professions, trades, employments, or

vocations” after real estate and personal property had been exempted, 158 U.S. at 635.

4 Springer v. United States, 102 U.S. 586 (1881).

5 Ch. 173, § 116, 13 Stat. 223, 281 (1864).

6 For an account of the Pollock decision, see “From the Hylton to the Pollock

Case,” under Art. I, § 9, cl. 4, supra.

7 173 U.S. 509 (1899).

8 178 U.S. 41 (1900).

2259
ton v. Brady,

9 the Court held the following taxes to have been levied merely upon one of the “incidents of ownership” and hence to

be excises: a tax that involved affixing revenue stamps to memoranda evidencing the sale of merchandise on commodity exchanges,

an inheritance tax, and a war revenue tax upon tobacco on which

the hitherto imposed excise tax had already been paid and that was

held by the manufacturer for resale.

Under this approach, the Court found it possible to sustain a

corporate income tax as an excise “measured by income” on the privilege of doing business in corporate form.10 The adoption of the Sixteenth Amendment, however, put an end to speculation whether the

Court, unaided by constitutional amendment, would persist along

these lines of construction until it had reversed its holding in Pollock. Indeed, in its initial appraisal 11 of the Amendment, it classified income taxes as being inherently “indirect.” “[T]he command of

the Amendment that all income taxes shall not be subject to apportionment by a consideration of the sources from which the taxed

income may be derived, forbids the application to such taxes of the

rule applied in the Pollock Case by which alone such taxes were

removed from the great class of excises, duties and imports subject

to the rule of uniformity and were placed under the other or direct

class.” 12 “[T]he Sixteenth Amendment conferred no new power of

taxation but simply prohibited the previous complete and plenary

power of income taxation possessed by Congress from the beginning from being taken out of the category of indirect taxation to

which it inherently belonged . . . .” 13

Income Subject to Taxation

Building upon definitions formulated in cases construing the Corporation Tax Act of 1909,14 the Court initially described income as

the “gain derived from capital, from labor, or from both combined,”

inclusive of the “profit gained through a sale or conversion of capital assets”; 15 in the following array of factual situations it subsequently applied this definition to achieve results that have been productive of extended controversy.

9 184 U.S. 608 (1902).

10 Flint v. Stone Tracy Co., 220 U.S. 107 (1911).

11 Brushaber v. Union Pac. R.R., 240 U.S. 1 (1916); Stanton v. Baltic Mining

Co., 240 U.S. 103 (1916); Tyee Realty Co. v. Anderson, 240 U.S. 115 (1916).

12 Brushaber v. Union Pac. R.R., 240 U.S. 1, 18–19 (1916).

13 Stanton v. Baltic Mining Co., 240 U.S. 103, 112 (1916).

14 Stratton’s Independence, Ltd. v. Howbert, 231 U.S. 399 (1913); Doyle v. Mitchell Bros. Co., 247 U.S. 179 (1918).

15 Eisner v. Macomber, 252 U.S. 189, 207 (1920); Bowers v. Kerbaugh-Empire

Co., 271 U.S. 170 (1926).

2260 AMENDMENT 16—INCOME TAX
Corporate Dividends: When Taxable.—Rendered in conformity with the belief that all income “in the ordinary sense of the

word” became taxable under the Sixteenth Amendment, the earliest decisions of the Court on the taxability of corporate dividends

occasioned little comment. Emphasizing that in all such cases the

stockholder is to be viewed as “a different entity from the corporation,” the Court in Lynch v. Hornby,

16 held that a cash dividend

equal to 24 percent of the par value of the outstanding stock and

made possible largely by the conversion into money of assets earned

prior to the adoption of the Amendment, was income taxable to the

stockholder for the year in which he received it, notwithstanding

that such an extraordinary payment might appear “to be a mere

realization in possession of an inchoate and contingent interest . . .

[of] the stockholder . . . in a surplus of corporate assets previously

existing.” In Peabody v. Eisner,

17 decided on the same day and deemed

to have been controlled by the preceding case, the Court ruled that

a dividend paid in the stock of another corporation, although representing earnings that had accrued before ratification of the Amendment, was also taxable to the shareholder as income. The dividend

was likened to a distribution in specie.

Two years later, the Court decided Eisner v. Macomber,

18 and

the controversy that that decision precipitated still endures. Departing from the interpretation placed upon the Sixteenth Amendment

in the earlier cases, i.e., that the purpose of the Amendment was to

correct the “error” committed in Pollock and to restore income taxation to “the category of indirect taxation to which it inherently belonged,” 19 Justice Pitney, speaking for the Court in Eisner, indicated that the Sixteenth Amendment “did not extend the taxing power

to new subjects, but merely removed the necessity which otherwise

might exist for an apportionment among the States of taxes laid on

income.” 20 The decision gave the term “income” a restrictive meaning.

16 247 U.S. 339, 344 (1918). On the other hand, in Lynch v. Turrish, 247 U.S.

221 (1918), the single and final dividend distributed upon liquidation of the entire

assets of a corporation, although equaling twice the par value of the capital stock,

was declared to represent only the intrinsic value of the latter earned prior to the

effective date of the Amendment, and hence was not taxable as income to the shareholder in the year in which actually received. Similarly, in Southern Pacific Co. v.

Lowe, 247 U.S. 330 (1918), dividends paid out of surplus accumulated before the

effective date of the Amendment by a railway company whose entire capital stock

was owned by another railway company and whose physical assets were leased to

and used by the latter was declared to be a nontaxable bookkeeping transaction between virtually identical corporations.

17 247 U.S. 347 (1918).

18 252 U.S. 189 (1920).

19 Stanton v. Baltic Mining Co., 240 U.S. 103, 112 (1916).

20 252 U.S. at 206.

AMENDMENT 16—INCOME TAX 2261
Specifically, the Court held that a stock dividend was capital

when received by a stockholder of the issuing corporation and did

not become taxable as “income” until sold or converted, and then

only to the extent that a gain was realized upon the proportion of

the original investment that such stock represented. A stock dividend, Justice Pitney maintained, “[f]ar from being a realization of

profits of the stockholder, . . . tends rather to postpone such realization, in that the fund represented by the new stock has been transferred from surplus to capital, and no longer is available for actual

distribution. . . . We are clear that not only does a stock dividend

really take nothing from the property of the corporation and add

nothing to that of the shareholder, but that the antecedent accumulation of profits evidenced thereby, while indicating that the shareholder is richer because of an increase of his capital, at the same

time shows [that] he has not realized or received any income in the

transaction.” 21 But conceding that a stock dividend represented a

gain, the Justice concluded that the only gain taxable as “income”

under the Amendment was “a gain, a profit, something of exchangeable value proceeding from the property, severed from the capital

however invested or employed, and coming in, being ‘derived,’ that

is, received or drawn by the recipient (the taxpayer) for his separate use, benefit and disposal;—that is income derived from property. Nothing else answers the description,” including “a gain accruing to capital, not a growth or increment of value in the investment.” 22

Although the Court has not overturned the principle it asserted in Eisner v. Macomber,

23 it has significantly narrowed its application. The Court treated as taxable income new stock issued in

connection with a corporate reorganization designed to move the place

of incorporation. The fact that a comparison of the market value of

the shares in the older corporation immediately before, with the aggregate market value of those shares plus the dividend shares immediately after, the dividend showed that the stockholders experienced no increase in aggregate wealth was declared not to be a proper

21 252 U.S. at 211, 212.

22 252 U.S. at 207. This decision has been severely criticized, chiefly on the ground

that gains accruing to capital over a period of years are not income and are not

transformed into income by being dissevered from capital through sale or conversion. Critics have also experienced difficulty in understanding how a tax on income

that has been severed from capital can continue to be labeled a “direct” tax on the

capital from which the severance has thus been made. Finally, the contention has

been made that, in stressing the separate identities of a corporation and its stockholders, the Court overlooked the fact that when a surplus has been accumulated,

the stockholders are thereby enriched, and that a stock dividend may therefore be

appropriately viewed simply as a device whereby the corporation reinvests money

earned in their behalf. See also Merchants’ L. & T. Co. v. Smietanka, 255 U.S. 509

(1921).

23 Reconsideration was refused in Helvering v. Griffiths, 318 U.S. 371 (1943).

2262 AMENDMENT 16—INCOME TAX
test for determining whether taxable income had been received by

these stockholders.24 The Court viewed the shareholders as essentially exchanging a stock in the old corporation for stock in the new

corporation. By contrast, the Court held that no taxable income resulted from the mere receipt by a stockholder of rights to subscribe

for shares in a new issue of capital stock, the intrinsic value of which

was assumed to be in excess of the issuing price. The right to subscribe was declared to be analogous to a stock dividend, and “only

so much of the proceeds obtained upon the sale of such rights as

represents a realized profit over cost” to the stockholders was deemed

to be taxable income.25 Similarly, on grounds of consistency with

Eisner v. Macomber, the Court has ruled that a dividend in common stock paid to holders of preferred stock,26 and a dividend in

preferred stock paid to holders of common stock,27 because they gave

the stockholders an interest different from that represented by their

prior holdings, constituted income taxable under the Sixteenth Amendment.

Corporate Earnings: When Taxable.—On at least two occasions the Court has rejected as untenable the contention that a tax

on undistributed corporate profits is essentially a penalty rather than

a tax or that it is a direct tax on capital and hence is not exempt

from the requirement of apportionment. Because the exaction was

permissible as a tax, its validity was held not to be impaired by its

penal objective, which was “to force corporations to distribute earnings in order to create a basis for taxation against the stockholders.” As to the added contention that, because liability was assessed upon a mere purpose to evade imposition of surtaxes against

stockholders, the tax was a direct tax on a state of mind, the Court

replied that while “the existence of the defined purpose was a con24 United States v. Phellis, 257 U.S. 156 (1921); Rockefeller v. United States,

257 U.S. 176 (1921). See also Cullinan v. Walker, 262 U.S. 134 (1923). In Marr v.

United States, 268 U.S. 536 (1925), the Court held that the increased market value

of stock issued by a new corporation in exchange for stock of an older corporation,

the assets of which it was organized to absorb, was subject to taxation as income to

the holder, notwithstanding that the income represented profits of the older corporation and that the capital remained invested in the same general enterprise. The Court

likened Weiss v. Stearn, 265 U.S. 242 (1924), to Eisner v. Macomber, and distinguished it from the aforementioned cases on the ground of preservation of corporate

identity. Although the “new corporation had . . . been organized to take over the

assets and business of the old . . . [,] the corporate identity was deemed to have

been substantially maintained because the new corporation was organized under the

laws of the same State with presumably the same powers as the old. There was

also no change in the character of the securities issued. By reason of these facts,

the proportional interest of the stockholder after the distribution of the new securities was deemed to be exactly the same . . . .” Marr, 268 U.S. at 541.

25 Miles v. Safe Deposit Co., 259 U.S. 247 (1922).

26 Koshland v. Helvering, 298 U.S. 441 (1936).

27 Helvering v. Gowran, 302 U.S. 238 (1937).

AMENDMENT 16—INCOME TAX 2263
dition precedent to the imposition of the tax liability, . . . [did] not

prevent it from being a true income tax within the meaning of the

Sixteenth Amendment.” 28 Subsequently, in Helvering v. Northwest

Steel Mills,

29 this appraisal of the constitutionality of the undistributed profits tax was buttressed by the following observation: “It is

true that the surtax is imposed upon the annual income only if it

is not distributed, but this does not serve to make it anything other

than a true tax on income within the meaning of the Sixteenth Amendment. Nor is it true . . . that because there might be an impairment of the capital stock, the tax on the current annual profit would

be the equivalent of a tax upon capital. Whether there was an impairment of the capital stock or not, the tax . . . was imposed on

profits earned during a definite period—a tax year—and therefore

on profits constituting income within the meaning of the Sixteenth

Amendment.” 30

Likening a cooperative to a corporation, federal courts have also

declared to be taxable income the net earnings of a farmers’ cooperative, a portion of which was used to pay dividends on capital

stock without reference to patronage. The argument that such earnings were in reality accumulated savings of its patrons that the cooperative held as their bailee was rejected as unsound because, “while

those who might be entitled to patronage dividends have . . . an

interest in such earnings, such interest never ripens into an individual ownership . . . until and if a patronage dividend be declared.” Had such net earnings been apportioned to all of the patrons during the year, “there might be . . . a more serious question

as to whether such earnings constituted ‘income’ [of the cooperative] within the Amendment.” 31 Similarly, the power of Congress to

tax the income of an unincorporated joint stock association has been

held to be unaffected by the fact that under state law the association is not a legal entity and cannot hold title to property, or by the

fact that the shareholders are liable for its debts as partners.32

28 Helvering v. National Grocery Co., 304 U.S. 282, 288–89 (1938). In Helvering

v. Mitchell, 303 U.S. 391 (1938), the defendant contended the collection of fifty per

cent of any deficiency in addition to the deficiency alleged to have resulted from a

fraudulent intent to evade the income tax amounted to the imposition of a criminal

penalty. The Court, however, described the additional sum as a civil and not a criminal sanction, and one which could be constitutionally employed to safeguard the government against loss of revenue. In contrast, the exaction upheld in Helvering v.

National Grocery Co., though conceded to possess the attributes of a civil sanction,

was declared to be sustainable as a tax.

29 311 U.S. 46 (1940). See also Crane-Johnson Co. v. Helvering, 311 U.S. 54 (1940).

30 311 U.S. at 53.

31 Farmers Union Co-op v. Commissioner, 90 F.2d 488, 491, 492 (8th Cir. 1937).

32 Burk-Waggoner Ass’n v. Hopkins, 269 U.S. 110 (1925).

2264 AMENDMENT 16—INCOME TAX
Whether subsidies paid to corporations in money or in the form

of grants of land or other physical property constitute taxable income has also concerned the Court. In Edwards v. Cuba Railroad,

33 it ruled that subsidies of lands, equipment, and money paid

by Cuba for the construction of a railroad were not taxable income

but were to be viewed as having been received by the railroad as a

reimbursement for capital expenditures in completing such project.

On the other hand, sums paid out by the Federal Government to

fulfill its guarantee of minimum operating revenue to railroads during the six months following relinquishment of their control by that

government were found to be taxable income. Such payments were

distinguished from those excluded from computation of income in

the preceding case in that the former were neither bonuses, nor gifts,

nor subsidies, “that is, contributions to capital.” 34 Other corporate

receipts deemed to be taxable as income include the following: (1)

“insiders profits” realized by a director and stockholder of a corporation from transaction in its stock, which, as required by the Securities and Exchange Act,35 are paid over to the corporation; 36 (2)

money received as exemplary damages for fraud or as the punitive

two-thirds portion of a treble damage antitrust recovery; 37 and (3)

compensation awarded for the fair rental value of trucking facilities operated by the taxpayer under control and possession of the

government during World War II, for in the last instance the government never acquired title to the property and had not damaged

it beyond ordinary wear.38

Gains: When Taxable.—Although “economic gain is not always taxable as income, it is settled that the realization of gain

need not be in cash derived from the sale of an asset.” 39 Thus, when

through forfeiture of a lease, a landlord became possessed of a new

building erected on his land by the outgoing tenant, the resulting

gain to the former was taxable to him in that same year. “The fact

that the gain is a portion of the value of the property received by

the . . . [landlord] does not negative its realization. . . . It is not

necessary to recognition of taxable gain that . . . [the landlord] should

be able to sever the improvement begetting the gain from his original capital.” Hence, the taxpayer was incorrect in contending “that

the Amendment does not permit the taxation of such [a] gain with33 268 U.S. 628 (1925).

34 Texas & Pacific Ry. Co. v. United States, 286 U.S. 285, 289 (1932); Continental Tie & L. Co. v. United States, 286 U.S. 290 (1932).

35 15 U.S.C. § 78p.

36 General American Investors Co. v. Commissioner, 348 U.S. 434 (1955).

37 Commissioner v. Glenshaw Glass Co., 348 U.S. 426 (1955).

38 Commissioner v. Gillette Motor Co., 364 U.S. 130 (1960).

39 Helvering v. Bruun, 309 U.S. 461, 469 (1940).

AMENDMENT 16—INCOME TAX 2265
out apportionment amongst the states.” 40 Consistent with this holding, the Court has also ruled that, when an apartment house was

acquired by bequest subject to an unassumed mortgage, and several years later was sold for a price slightly in excess of the mortgage, the basis for determining the gain from that sale was the difference between the selling price, undiminished by the amount of

the mortgage, and the value of the property at the time of the acquisition, less deductions for depreciation during the years the building was held by the taxpayer. The latter’s contention that the Revenue Act, as thus applied, taxed something that was not revenue,

was declared to be unfounded.41

As against the argument of a donee that a gift of stock became

a capital asset when received and that therefore, when disposed of,

no part of that value could be treated as taxable income to said

donee, the Court has declared that it was within the power of Congress to require a donee of stock, who sells it at a profit, to pay

income tax on the difference between the selling price and the value

when the donor acquired it.42 Moreover, “receipt in cash or property . . . not [being] the only characteristic of realization of income

to a taxpayer on the cash receipt basis,” it follows that one who is

normally taxable only on the receipt of interest payments cannot

escape taxation thereon by giving away his right to such income in

advance of payment. When “the taxpayer does not receive payment

of income in money or property[,] realization may occur when the

last step is taken by which he obtains the fruition of the economic

gain which has already accrued to him.” Hence an owner of bonds,

reporting on the cash receipts basis, who clipped interest coupons

therefrom before their due date and gave them to his son, was held

to have realized taxable income in the amount of said coupons, notwithstanding that his son had collected them upon maturity later

in the year.43

40 309 U.S. at 469, 468.

41 Crane v. Commissioner, 331 U.S. 1, 15–16 (1947).

42 The donor could not, “by mere gift, enable another to hold this stock free from

. . . [the] right . . . [of] the sovereign to take part of any increase in its value when

separated through sale or conversion and reduced to possession.” Taft v. Bowers,

278 U.S. 470, 482, 484 (1929). However, when a husband, as part of a divorce settlement, transfers his own corporate stock to his wife, he is deemed to have exchanged

the stock for the release of his wife’s inchoate, marital rights, the value of which

are presumed to be equal to the current, market value of the stock, and, accordingly, he incurs a taxable gain measured by the difference between the initial purchase price of the stock and said market value upon transfer. United States v. Davis, 370 U.S. 65 (1962).

43 Helvering v. Horst, 311 U.S. 112, 115 (1940). The Court was also called upon

to resolve questions as to whether gains, realized after 1913, on transactions consummated prior to ratification of the Sixteenth Amendment are taxable, and if so,

how such tax is to be determined. The Court’s answer generally has been that if the

2266 AMENDMENT 16—INCOME TAX
Income from Illicit Transactions.—In United States v. Sullivan,

44 the Court held that gains derived from illicit traffic were taxable income under the act of 1921.45 Justice Holmes wrote, for the

unanimous Court: “We see no reason . . . why the fact that a business is unlawful should exempt it from paying the taxes that if lawful it would have to pay.” 46 Consistent with that decision, although

not without dissent, the Court ruled that Congress has the power

to tax as income moneys received by an extortioner,47 and, more

recently, that embezzled money is taxable income of an embezzler

in the year of embezzlement. “When a taxpayer acquires earnings,

gain to the person whose income is under consideration became such subsequent to

the date at which the amendment went into effect, namely, March 1, 1913, and is a

real, and not merely an apparent, gain, said gain is taxable. Thus, one who purchased stock in 1912 for $500 could not limit his taxable gain to the difference, $695,

the value of the stock on March 1, 1913 and $13,931, the price obtained on the sale

thereof, in 1916; but was obliged to pay tax on the entire gain, that is the difference

between the original purchase price and the proceeds of the sale, Goodrich v. Edwards, 255 U.S. 527 (1921). Conversely, one who acquired stock in 1912 for $291,600

and who sold the same in 1916 for only $269,346, incurred a loss and could not be

taxed at all, notwithstanding the fact that on March 1, 1913, his stock had depreciated to $148,635. Walsh v. Brewster, 255 U.S. 536 (1921). On the other hand, although the difference between the amount of life insurance premiums paid as of

1908, and the amount distributed in 1919, when the insured received the amount of

his policy plus cash dividends apportioned thereto since 1908, constituted a gain,

that portion of the latter that accrued between 1908 and 1913 was deemed to be an

accretion of capital and hence not taxable. Lucas v. Alexander, 279 U.S. 473 (1929).

However, a litigant who, in 1915, reduced to judgment a suit pending on February 26, 1913, for an accounting under a patent infringement, was unable to have

treated as capital, and excluded from the taxable income produced by such settlement, that portion of his claim that had accrued prior to March 1, 1913. Income

within the meaning of the Amendment was interpreted to be the fruit that is born

of capital, not the potency of fruition. All that the taxpayer possessed in 1913 was a

contingent chose in action that was inchoate, uncertain, and contested. United States

v. Safety Car Heating Co., 297 U.S. 88 (1936).

Similarly, purchasers of coal lands subject to mining leases executed before adoption of the Amendment could not successfully contend that royalties received during

1920–1926 were payments for capital assets sold before March 1, 1913, and hence

not taxable. Such an exemption, these purchasers argued, would have been in harmony with applicable local law under which title to coal passes immediately to the

lessee on execution of such leases. To the Court, however, such leases were not to be

viewed “as a ‘sale’ of the mineral content of the soil,” as minerals “may or may not

be present in the leased premises, and may or may not be found [therein]. . . . If

found, their abstraction . . . is a time-consuming operation and the payments made

by the lessee to the lessor do not normally become payable as the result of a single

transaction. . . .” The result for tax purposes would have been the same even had

the lease provided that title to the minerals would pass only “on severance by the

lessee.” Burnet v. Harmel, 287 U.S. 103, 107, 106, 111 (1932).

44 274 U.S. 259 (1927).

45 42 Stat. 227, 250, 268.

46 274 U.S. at 263. Profits from illegal undertakings being taxable as income,

expenses in the form of salaries and rentals incurred by bookmakers are deductible.

Commissioner v. Sullivan, 356 U.S. 27 (1958).

47 Rutkin v. United States, 343 U.S. 130 (1952). Four Justices—Black, Reed, Frankfurter, and Douglas—dissented.

AMENDMENT 16—INCOME TAX 2267
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 which he is required to

return, even though it may still be claimed that he is not entitled

to retain the money, and even though he may still be adjudged liable to restore its equivalent.’ ” 48

Deductions and Exemptions.—The authorization contained in

the Sixteenth Amendment to tax income “from whatever source derived” does not preclude Congress from granting exemptions.

49 Thus,

the fact that, “[u]nder the Revenue Acts of 1913, 1916, 1917 and

1918, stock fire insurance companies were taxed upon their income, including gains realized from the sale or other disposition of

property accruing subsequent to March 1, 1913,” but were not so

taxed by the Revenue Acts of 1921, 1924, and 1926, did not prevent Congress, under the terms of the Revenue Act of 1928, from

taxing all the gain attributable to increase in value after March 1,

1913, that such a company realized from a sale of property in 1928.

The constitutional power of Congress to tax a gain being wellestablished, the Court found Congress competent to choose “the moment of its realization and the amount realized”; and “[i]ts failure

to impose a tax upon the increase in value in the earlier years . . .

cannot preclude it from taxing the gain in the year when realized

. . . .” 50 Congress is equally well-equipped with the “power to condition, limit, or deny deductions from gross incomes in order to arrive at the net that it chooses to tax.” 51 Accordingly, even though

the rental value of a building used by its owner does not constitute

income within the meaning of the Amendment,52 Congress was competent to provide that an insurance company shall not be entitled

to deductions for depreciation, maintenance, and property taxes on

real estate owned and occupied by it unless it includes in its computation of gross income the rental value of the space thus used.53

48 James v. United States, 366 U.S. 213, 219 (1961) (overruling Commissioner v.

Wilcox, 327 U.S. 404 (1946)).

49 Brushaber v. Union Pac. R.R., 240 U.S. 1 (1916).

50 MacLaughlin v. Alliance Ins. Co., 286 U.S. 244, 247, 250 (1932).

51 Helvering v. Independent Life Ins. Co., 292 U.S. 371, 381 (1934); Helvering v.

Winmill, 305 U.S. 79, 84 (1938).

52 A tax on the rental value of property so occupied is a direct tax on the land

and must be apportioned. Helvering v. Independent L. Ins. Co., 292 U.S. 371, 378–79

(1934).

53 292 U.S. at 381. Expenditures incurred in the prosecution of work under a

contract for the purpose of earning profits are not capital investments, the cost of

which, if converted, must first be restored from the proceeds before there is a capital gain taxable as income. Accordingly, a dredging contractor, recovering a judgment for breach of warranty of the character of the material to be dredged, must

include the amount thereof in the gross income of the year in which it was received,

rather than of the years during which the contract was performed, even though it

2268 AMENDMENT 16—INCOME TAX
Also, a taxpayer who erected a $3,000,000 office building on land,

the unimproved worth of which was $660,000, and who subsequently purchased the lease on the latter for $2,100,000 is entitled

to compute depreciation over the remaining useful life of the building on that portion of $1,440,000, representing the difference between the price and the unimproved value, as may be allocated to

the building; but he cannot deduct the $1,440,000 as a business expense incurred in eliminating the cost of allegedly excessive rentals under the lease, nor can he treat that sum as a prepayment of

rent to be amortized over the 21-year period that the lease was to

run.54

Diminution of Loss.—Mere diminution of loss is neither gain,

profit, nor income. Accordingly, one who in 1913 borrowed a sum of

money to be repaid in German marks and who subsequently lost

the money in a business transaction cannot be taxed on the curtailment of debt effected by using depreciated marks in 1921 to settle

a liability of $798,144 for $113,688, the “saving” having been exceeded by a loss on the entire operation.55

merely represents a return of expenditures made in performing the contract and

resulting in a loss. The gain or profit subject to tax under the Sixteenth Amendment is the excess of receipts over allowable deductions during the accounting period, without regard to whether or not such excess represents a profit ascertained

on the basis of particular transactions of the taxpayer when they are brought to a

conclusion. Burnet v. Sanford & Brooks Co., 282 U.S. 359 (1931).

The grant on denial of deductions is not based on the taxpayers’ engagement in

constitutionally protected activities, and, accordingly, no deduction is granted for sums

expended in combating legislation, enactment of which would destroy taxpayer’s business. Cammarano v. United States, 358 U.S. 498 (1959).

Likewise, when tank truck owners, either intentionally for business reasons or

unintentionally, violate state maximum weight laws, and incur fines, the latter are

not deductible, for fines are penalties rather than tolls for the use of highways, and

Congress is not to be viewed as having intended to encourage enterprises to violate

state policy. Tank Truck Rentals v. Commissioner, 356 U.S. 30 (1958); Hoover Express Co. v. United States, 356 U.S. 38 (1958).

54 Millinery Corp. v. Commissioner, 350 U.S. 456 (1956).

55 Bowers v. Kerbaugh-Empire Co., 271 U.S. 170 (1926).

AMENDMENT 16—INCOME TAX 2269