In deference to Skippy, because he/she took the time to form an incredibly well thought out post, it may be worth reviewing Skippy's cited example in a point-by-point form:
Please note that all of the Numbered items in the above quoted post are wholly or partially incorrect. Thus, readers of this post can simply stop here and do not need to consider the explanations and clarifications on these items that are provided below.
---
1. "The IRS expects you to declare all income, whether taxable or not."
Incorrect, as highlighted by Skippy above.
From
IRS Publication 525:
"Income that is taxable must be reported on your return and is subject to tax. Income that is nontaxable
may have to be shown on your tax return but is not taxable..."
In other words, depending on the nature of the income and the tax status of the person, certain income may not have to be declared. There are many types of such income, and Publication 525 can be referenced to understand these in greater detail.
2. "So in this case the $2.5m for costs would be declared but not taxed."
As noted in a previous post above, the $2.5m must be declared as income.
Whether and how much tax is applied on that $2.5m depends on the amount and nature of "allowable" expenses that may offset that income in whole or in part as well as the tax status of the individual reporting the income and how and when the costs were incurred and reported as well as to what extent the IRS allows year-over-year restatements of income, etc.
It is possible that allowable costs actually exceeded the $2.5m award, for example. In which case the net impact on the individual would be a tax benefit that could be applied to other income.
3. "he would declare the gain as income and he would also ask for the deduction of the $1m legal fees paid."
Yes, he would declare the $1m in the example as income in the year it was received, even if he had not yet deposited it.
With respect to the legal fees, he would need to provide the appropriate tax schedule to accompany his Return that would list the various expenses along with accompanying receipts. The IRS would review that schedule, and the receipts, to determine if they were eligible expenses. If eligible, they would be applied 'above the line' to the pre-tax income which may or may not include the $1m in the example.
4. "The IRS would allow the $1m income not to be taxed as its restores the costs"
The IRS does not do this kind of matching and really doesn't care about whether anyone restores their costs. The amount of the eligible expenses may exactly offset the income, or not. Eligibility of the declared expenses will be determined by the IRS.
5. "he shouldn't have had to pay"
The IRS does not make moral judgments nor do they make legal judgments, and really doesn't care about whether he should have received a settlement or not. They only care about net taxable income.
6. "The IRS however would not then provide the deduction as the income wasn't actually received in terms of a gain"
Ok, trying to avoid anything inflammatory as this statement does appear very confusing.
As discussed in previous posts, and again here taxable income must be reported. The net income upon which tax is due can be reduced through the application of allowable expenses.
7. "if Armstrong has to pay $10m in the recent hearing as a sanction and has already paid tax on the $5m, he doesn't get a credit for what ha been paid"
Armstrong should already have been 'credited' for the $5m in income (less any allowable expenses), assuming that he reported this correctly. The $10m sanction will be treated as a separate matter. Please refer to previous posts above from a variety of different Forum members for insightful discussions about the $10m.
8. "then does SCA have to pay tax? You would say no"
No, as noted above, I would say yes. Yes, the SCA would have to report this as taxable income. Only if their allowable expenses on this matter matched or exceeded the $10m would they not have any tax liability.
9. "because they gave up the $5m years ago"
These are separate matters, reported in separate tax years.
10. "but $10m would be a gain from the $7.5"
Separate matters, reported in separate tax years.
11. "and its a sanction rather than an award"
The IRS does not make moral judgments nor do they make legal judgments.
Dave.
Facebook
Twitter
Instagram