Wednesday, August 30, 2006

This could be big. Really big.

Last week, a federal appeals court ruled that certain types of court awards are NOT what? Well, the implications could be far reaching. The IRS has, like all bureaucracies with broad powers, assumed that they are pretty much in charge of determining what is "income." The IRS has always pretty much taken the stance that if it shows up in your bank account, they get a piece of it. The court said, in effect, back off.
Here is a brief summary by Bruce Bartlett in his most recent column:
"Murphy argued that just as compensation for physical injuries only makes one whole after a loss, the same is true of awards for emotional distress. In short, it is not income within the meaning of the 16th Amendment to the Constitution. The appeals court agreed, ruling that Murphy's award for emotional distress is not income and therefore not taxable."


Given the logic of the Murphy decision, it is quite possible that the risk-free, inflation-adjusted rate of interest could also be excluded from taxation on constitutional grounds. Following through on this logic consistently would revolutionize taxation and eventually lead to a pure consumption tax, which most modern economists favor.


I'm not predicting the Supreme Court will follow this logic. But for tax analysts, it does represent the opening of an interesting possibility."