Constitutional and Legislative Sources Chapter 3 Constitutional and Legislative Sources William A. Raabe, Gerald E. Whittenburg, & Debra L. Sanders Copyright ©2006 Thomson South-Western, Mason, Ohio

CONSTITUTIONAL AND LEGISLATIVE SOURCES Chapter Outline: Sources of Law History of U.S. Taxation U.S. Constitution Tax Treaties The Legislative Process Internal Revenue Code

Framework of Primary and Secondary Sources of Federal Tax Law

History of U.S. Taxation (1 of 3) 1861 Income Tax Act to pay for Civil War, expired in 1872 1894 Income Tax Act held unconstitutional by Supreme Court in 1895 (Pollock v. Farmer’s Loan & Trust Co.)

History of U.S. Taxation (2 of 3) 1909: Corporate Income Tax Constitutional because it was an excise tax, not a direct tax (S.Ct.: Flint v. Stone Tracy Co.) 1913: 16th Amendment Ratified: “The Congress shall have the power to lay and collect taxes on incomes, from whatever sources derived, without apportionment among the several states, and without regard to any census or enumeration.” This was the beginning of our current income tax system.

History of U.S. Taxation (3 of 3) Tax Protest Laws and Penalties “Frivolous” tax return protest $500 fine “Frivolous” case brought before Tax Court Up to $25,000 fine (§§6673, 6702)

U.S. Constitution (1 of 2) Source for all federal tax law Requires uniform imposition of Congressional tax law throughout U.S. Estate and gift taxes are excise taxes on transfer of property

U.S. Constitution (2 of 2) Congress can impose import taxes, but not export taxes Right to due process and privacy apply in tax

Tax Treaties (1 of 2) Authorized by Article II, Sec. 2 of the Constitution Definition Agreements between countries concerning tax treatment of entities in both countries Primary Purpose Eliminate “double” taxation Any tax matter may be covered

Tax Treaties (2 of 2) Weight of Authority Treaty has equal weight as Code (§7852) May have multiple treaties with same country Conflict between Treaty and Code The one enacted later prevails Courts may attempt to give effect to both, to resolve the conflict

Article II, Sec. 2: Constitutional Authorization for Tax Treaties President allowed to create treaties with advice and consent of Senate Ways to terminate treaties Expire (date proscribed in treaty) Superceded Mutual termination

The Legislative Process

The Legislative Process Technical Corrections Acts can be used by Congress to correct errors in the original bill Committee reports are produced at each step of legislative process

Committee Reports Explain elements of proposed changes to Code and reasons for each proposal Used by tax researchers to clarify meaning of statute or intent of Congress Published in weekly Internal Revenue Bulletin Comm. reports related to tax law changes IRBs reorganized and published every six months in the Cumulative Bulletin

Internal Revenue Code: History Pre-1939 Periodic Revenue Acts Various Revenue Acts codified in 1939 Recodified in 1954 Current numbering system Renamed in 1986 because of the extensive changes in the Tax Reform Act of 1986

Organization of the Internal Revenue Code Title 26 of United States Code Divisions Subtitles Chapters Subchapters Parts and Subparts Sections and Subsections

Subtitles Identified by letter (A-I) Well-defined area of tax law Subtitles commonly used Examples: A: Income Taxes B: Estate and Gift Taxes F: Procedure and Administration

Chapters Organized by unique number (1-98) Some key chapters: 1: Normal taxes and surtaxes 2: Self-employment tax 6: Consolidated returns 11: Estate Taxes 12: Gift taxes 61: Administration/information 79: Definitions

Subchapters Identified by Capital Letter Subchapters in Chapter 1 (Normal Taxes) of Subtitle A (Income Taxes) commonly referred to by tax researchers Frequently used subchapters: C: Corporate Distributions and Adjustments K: Partnerships and Partners S: S Corporations & Shareholders

Parts & Subparts Parts Subparts Groupings addressing essentially the same issue Not all Subchapters are divided into parts Examples of Parts in Ch. 1 of Subtitle A Part 1: Tax on individuals Part II: Tax on corporations Part VI: Alternative minimum tax Subparts Large parts may be further divided

Sections and Subsections Primary (and often quoted) unit of the Code Section numbers used only once Sections may be further subdivided Subsection (lower case letter) Paragraph (Arabic number) Subparagraph (Capital letter) Clause (lower case Roman numeral) Some important Code sections are in Exhibit 3-11 The next slide shows how to interpret a Code Section Citation

Interpreting a Code Section Citation

Interpreting the Code When researching, be aware that there are: The general rules Exceptions to the general rules Exceptions to the exceptions Know the tax definitions of the terms you encounter; they may be different from the usual accounting definition Know the appropriate effective dates and transition rules affecting your client’s situation

General Rules These are the conditions that must be satisfied to apply the Code provisions to a taxpayer’s situation

Exceptions Situations under which taxpayer is excepted from general rule May be provided in another Code Section Possible “exceptions to the exceptions”

Terms §7701 defines many terms throughout Code May be superceded by specific Code section Definitions may vary from one Code section to another E.g., family attribution rules

Helpful Hints (1 of 2) Do not overlook words that connect phrases, such as “and” and “or” Connectors may be “hidden” at the end of the previous clause or subparagraph “And” means that all phrases connected by the “and” must be true for the provision to apply “Or” means that the provision will apply if any phrase connected by the “or” is true

Helpful Hints (2 of 2) Be careful with words that modify percentage or dollar amounts, such as “less than,” “more than,” and “not less than” Distinguish between terms such as “30 days” and “one month”

Effective Dates and Transition Rules Effective date of a provision Often different than the date the Tax Act was signed into law Transition rules Often associated with abrupt changes in the law (e.g., personal interest expense)