What Is Gross Income: Section 61 and the Sixteenth Amendment

AuthorWilliam Kratzke
Chapter 2: What Is Gross Income: Section 61 and the Sixteenth
We now take up various elements of the tax formula. You should place whatever
we are studying at the moment (the “trees”) within that formula (the “forest”). This
chapter introduces you to the concept of “gross income,” the very first item in the
tax formula. We also consider the constitutional underpinning of the federal income
tax. The constitutional basis of the income tax has been intertwined with the
concept of gross income itself.
You will notice that after adding up
all of the items encompassed by the
phrase “gross income,” every
succeeding arithmetical operation is a
subtraction. If an item is not
encompassed by the phrase “gross
income,” it will not be subject to
federal income tax. The materials that
follow consider various aspects of
gross income: its definition, whether
certain items that taxpayer has
received constitute “gross income,”
the timing of “gross income,” and
Do the CALI lesson, Basic Income Taxation: Gross Income: Realization Concepts
in Gross Income.
Do the CALI lesson, Basic Income Taxation: Gross Income: Indirect Transfers for
I. The Constitutional and Statutory Definitions of “Gross Income
Article I of the Constitution, which grants legislative powers to the Congress,
The Tax Formula:
(g ro ss inco m e )
MINUS deductions named in § 62
EQUALS (adjusted gross income (AGI))
MINUS (standard deduction or itemized
MINUS (personal exemptions)
EQUALS (taxable income)
Compute income tax liability from tables
in § 1 (indexed for inflation)
MINUS (credits against tax)
contains several provisions concerning federal taxes.
Article I, § 2, clause 3: Representatives and direct Taxes shall be
apportioned among the several States which may be included within this
Union, according to their respective Numbers, which shall be determined
by adding to the whole Number of free Persons, including those bound to
Service for a Term of Years, and excluding Indians not taxed, three fifths
of all other Persons. The actual Enumeration shall be made within three
Years after the first Meeting of the Congress of the United States, and within
every subsequent Term of ten Years, in such Manner as they shall by Law
direct. ...
Article I, § 7, clause 1: All Bills for raising Revenue shall originate in the
House of Representatives; but the Senate may propose or concur with
Amendments as on other Bills.
Article I, § 8, clause 1: The Congress shall have Power To lay and collect
Taxes, Duties, Imposts and Excises, to pay the Debts and provide for the
common Defence and general Welfare of the United States; but all Duties,
Imposts and Excises shall be uniform throughout the United States[.]
Article I, § 9, clause 4: No Capitation, or other direct, Tax shall be laid,
unless in Proportion to the Census or Enumeration herein before directed to
be taken.
The Constitution does not delegate to any other branch of the government any
authority to impose taxes. In Article I, § 9, cl. 4, the Constitution refers to “direct”
taxes, and restricts them to impositions upon states according to their population.
The founding fathers regarded consumption taxes as “indirect taxes” and regarded
them as superior to “direct taxes” in terms of fairness and for purposes of raising
revenue. See Alexander Hamilton, FEDERALIST NO. 21.
An income tax is a “direct tax.” Pollock v. Farmers’ Loan & Trust Co., 158 U.S.
601, 630 (1895) (tax on income from property). Congress has never tried to assess
an income tax state by state in proportion to their respective populations. Hence,
imposition of an income tax required an amendment to the Constitution. That came
in 1913:
Amendment 16: 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.
Read § 61(a) of the Code. Notice that “gross income” encompasses “all” income
“from whatever source derived.” The language of the Code tracks that of the
Sixteenth Amendment, and it has been noted many times that in taxing income,
Congress exercised all of the constitutional power that it has to do so. However,
that point left open the question of what exactly is “income[], from whatever source
derived.” Taxpayers have argued many times that the “income” that Congress
wants to tax is beyond the scope of “income” as the term is used in the Sixteenth
Amendment. See Ann K. Wooster, Annot., Application of 16th Amendment to U.S.
Constitution – Taxation of Specific Types of Income, 40 A.L.R. FED.2d 301 (2010).
We consider here two cases in which the Supreme Court undertook to provide a
definition of “gross income,” the phrase that Congress used in § 61(a). We then
consider a case in which the United States Court of Appeals for the Seventh Circuit
more recently considered the scope of congressional authority to impose an income
tax. In Macomber, notice the justices’ differing views on the internal accounting
of a corporation.
•What does the Court mean by “capitalization?”
•What does the Court mean by “surplus?”
•By way of review: a demurrer is a creature of code pleading and is the
equivalent of a motion to dismiss for failure to state a claim. In Macomber,
taxpayer sued for a refund. The Commissioner (Eisner) demurred. The
federal district court overruled the demurrer, so taxpayer-plaintiff prevailed.
The Supreme Court affirmed.
Eisner v. Macomber, 252 U.S. 189 (1920).
MR. JUSTICE PITNEY delivered the opinion of the Court.
This case presents the question whether, by virtue of the Sixteenth Amendment,
Congress has the power to tax, as income of the stockholder and without
apportionment, a stock dividend made lawfully and in good faith against profits
accumulated by the corporation since March 1, 1913.
It arises under the Revenue Act of September 8, 1916, 39 Stat. 756 et seq., which,
in our opinion (notwithstanding a contention of the government that will be

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