North American Oil Consolidated v. Burnet
52 S. Ct. 613, 1932 U.S. LEXIS 856, 286 U.S. 417 (1932)
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Rule of Law:
If a taxpayer receives earnings under a claim of right and without restriction as to its disposition, the earnings are considered taxable income in the year of receipt, even if the taxpayer's right to retain the money is disputed and later overturned.
Facts:
- In 1916, North American Oil Consolidated (NAOC) was operating on a section of oil land to which the U.S. Government also claimed ownership.
- The U.S. Government initiated a lawsuit to oust NAOC, and in February 1916, a federal court appointed a receiver to operate the property and hold the net income it generated.
- During 1916, the property generated net profits, which were paid by NAOC to the court-appointed receiver.
- In 1917, the District Court issued a decree in favor of NAOC, dismissing the government's suit.
- Following the court's 1917 decree, the receiver paid the accumulated 1916 profits, totaling $171,979.22, to NAOC.
- NAOC had full and unrestricted use of the funds upon receiving them in 1917.
- The U.S. Government appealed the District Court's decision, and the litigation was not finally terminated in NAOC's favor until 1922.
Procedural Posture:
- The U.S. Government sued North American Oil Consolidated in U.S. District Court, which dismissed the government's bill in 1917.
- The Commissioner of Internal Revenue audited NAOC's 1917 tax return and determined a deficiency, which NAOC appealed to the Board of Tax Appeals.
- Before the Board, the Commissioner sought to increase the deficiency by including the disputed funds as 1917 income.
- The Board of Tax Appeals held that the profits were taxable to the receiver in 1916, ruling in favor of NAOC.
- The Commissioner, as petitioner, appealed the Board's decision to the U.S. Circuit Court of Appeals.
- The Circuit Court of Appeals reversed the Board, holding that the profits were taxable to NAOC, the respondent, as income of 1917.
- The U.S. Supreme Court granted a writ of certiorari to review the judgment of the Circuit Court of Appeals.
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Issue:
Is money that was earned in one year but received by a taxpayer in a later year under a claim of right, and without restriction on its use, taxable as income in the year it is received, even if the right to retain the money is still being contested in litigation?
Opinions:
Majority - Justice Brandeis
Yes. Money received by a taxpayer under a claim of right and without restriction as to its disposition is taxable income in the year it is received. The Court reasoned that the income was not taxable in 1916 because NAOC had no right to the money in that year; it was held by a receiver and NAOC's entitlement was uncertain. The income was also not taxable in 1922 when the litigation was finalized, because the crucial event for tax purposes is receipt. NAOC received the money in 1917, became entitled to it at that time, and had unrestricted use of it. The mere possibility that it might have to be returned later did not change its character as income for the year 1917. If NAOC had been forced to return the money in 1922, the proper remedy would have been to take a deduction in 1922, not to amend the 1917 return.
Analysis:
This decision establishes the influential 'claim of right doctrine' in U.S. tax law, providing a clear rule for the timing of income recognition. It solidifies the annual accounting principle, meaning that each tax year stands on its own. The doctrine prevents taxpayers from indefinitely deferring tax liability on received funds by citing pending litigation or contingent repayment obligations. It simplifies tax administration by focusing on the taxpayer's actual, unrestricted command over the funds in a given year, rather than on the final resolution of all potential claims against those funds.
