CHAPTER 4 GROSS INCOME: CONCEPTS AND INCLUSIONS
The overcharge to the customer created a liability equal to the amount of the overcharge.
Therefore, the taxpayer did not experience an increase in wealth from an economic point
of view. For tax purposes, the taxpayer would report gross income in 2005 and a
deduction in 2006.
From an economist’s point of view, the taxpayer suffered a $1,000 loss from the decline
in value in the year of purchase, and then experienced a $3,500 ($6,500 _ $3,000) gain in
the year the stock was sold. For tax purposes, the taxpayer realized a $2,500 ($6,500 _
$4,000) gain in the year the stock was sold. The loss was not recognized in the year of
purchase for tax purposes because the loss was not realized in that year.
According to the economist, the carpenter should recognize income in the year the
improvements were made, based on the increase in value of the property improved. Thus,
the carpenter should recognize $26,000 ($140,000 _ $100,000 _ $14,000) when the
improvements were made and no income in the year of sale. The economist may reason
that the carpenter made $20,000 from the imputed value of his services and $6,000 from
the sale of the property. Which of these options the economist selects depends on the fair
market value of the property at the end of the tax year in which the improvements were
made. For tax purposes, no income was realized until the property was sold, and the
$26,000 was gain from the sale of the property.
The discount the shareholder received on the purchase of the property of $5,000 ($15,000
_ $10,000) is income (a constructive dividend) for tax purposes. From an economic
perspective, the shareholder and his corporation may not be treated as separate entities
and thus the shareholder was receiving what he already owned and was retaining his
$10,000 cash received by his corporation. So there is no income.
pp. 4-3 to 4-5
The employer is required to include the $3,000 in gross income in 2006, when the
employer’s agent receives the payment from the customer.
pp. 4-7 to 4-10 and 4-16
The income should be reported in 2007. In 2006, Jared has not received anything of
The significance of when the income is recognized by Jared relates to (1) the time value
of money—if the tax is deferred, the present value of the tax decreases; and (2) the
marginal tax rates—the taxpayer may be subject to different rates between years because
of changes in the tax law, changes in his or her taxable income, changes in the taxpayer’s
filing status, and changes in the entity status.
pp. 4-7 to 4-9
Allyson must report income under the original issue discount (OID) rules in each of the
four years, 2006, 2007, 2008, and 2009.