An Affair in Tax Court

The scene is the doctor’s office, where the doctor is romancing his patient. Just a little problem: the patient is married to a policeman. The policeman finds out and vows to sue the doctor, or get paid a large sum. The doctor doesn’t have it, so he makes a counteroffer. And then someone takes out a gun….Well, no, this is a tax blog. But this case does make its way into Tax Court, not a mystery novel.

The salient facts (above) are true (except for the gun). Throw in one more—the doctor eventually pays the policeman $25,000 as “free money” in the hopes that this affair blows over. As the Court noted,

“Petitioner then stated: “Now Doc, this isn’t blackmail money”, to which [the Doctor] replied: “No, I didn’t say it was blackmail money; I said I hope it helps you, both of you.” At the end of the meeting, petitioner warned [the doctor] that he should never again speak to or look at [his wife] or come to their home.”

The petitioner and the doctor contacted his state medical board and reported the affair. The doctor apologized. The doctor’s accountant then prepared a Form 1099-MISC reporting the $25,000 payment. The question before the court: is the payment a gift or income for the petitioner? The IRS held it was income; the petitioner believed it was a gift. (Gifts are tax-free to the recipient.)

Believe it or not, the Supreme Court has issued an opinion on point. In Commissioner v. Duberstein, 363 U.S. 278, 285-
286 (1960), the Court held, “And, importantly, if the payment proceeds primarily from “the constraining force of any moral or legal duty,” or from “the incentive of anticipated benefit” of an economic nature, Bogardus v. Commissioner, 302 U.S. 34, 41, it is not a gift.”

The Tax Court concluded,

“the $25,000 payment by [the doctor] was not the result of detached and disinterested generosity or paid out of affection, respect, admiration, or charity. Instead it was paid to avoid a lawsuit, to avoid public and professional embarrassment, and to assuage his own feelings of guilt or moral obligation. Therefore, the $25,000 payment in 1999 is not a gift and is includable in petitioners’ gross income for that year.”

Somehow, a moral for this story seems like an oxymoron.

Case: Peebles v. Commissioner, T.C. Summary 2006-61

Hat Tip: TaxProf Blog

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