What is the history behind “trade or business” definition?

[Katharine]

Hi all,

I’ve been reading various threads the past year and obtained valuable information. A sincere thank you to everyone who has taken the time and effort over the years to make a good explanation.

I plan to explain to someone why their tax protester idea is wrong. They adhere to a variation of CtC. I would like your help.

My question: What is the history behind the definition of the term “trade or business”? (The term “trade or business” includes the performance of the functions of public office.) The best I can tell it first appeared in the Revenue Act of 1934. What was the motivation to define the term at this time? I’m looking for historical context.

If this question has already been answered please post a link if you can.

Thanks,
Katharine

[arayder]

Try this, Kate:

http://evans-legal.com/dan/tpfaq.html#section861

[Jeffrey]

I'm going to assume the argument here is that the definition ONLY includes public office.

You can apply common sense and tell that the purpose was to broaden the term so that salaries from someone in public office were subject to income tax, otherwise someone could say "well I don't get my income from a trade or business since I'm in public office".

[Judge Roy Bean]

Katharine - first, welcome to Quatloos.

When it comes to legal grammar, there is a tendency among drafters to be vigilant and specific in purpose that is not always successful. Take for example the recent brouhaha over phraseology in the Affordable Care Act. Courts are often left to somehow discern legislative intent.

Part of the problem is simply routine acceptance. We rely on the authors. Unless or until some verbiage is found lacking by someone with a basis or reason on which to make a well-crafted challenge and drive it to a case in the courts, it may languish unopposed forever.

Too many protestor types come to their own misguided interpretations and with some kind of sudden insight no one else has ever gleaned, they embark on a self-styled, ego-driven campaign to tilt against the windmills of mainstream legal thought.

How is the history of the definition of the phrase relevant?

[LPC]

You can apply common sense and tell that the purpose was to broaden the term so that salaries from someone in public office were subject to income tax, otherwise someone could say "well I don't get my income from a trade or business since I'm in public office".

Probably the opposite.

If the goal was to make sure that the a salaries of public officers were subject to income tax, the better way to accomplish that goal would be to amend section 61 and define "gross income" to specifically include the compensation of a public official. (Not that Congress always does things the right way, but I think we should at least start with the premise that the text of legislation is reasonably suited to the goals of the legislation.)

I said "the opposite" because the more likely goal would be to allow public officials deductions that they might not otherwise be able to claim.

Persons in a "trade or business" are entitled to deduct "ordinary and necessary" expenses relating to the trade or business (see section 162), and employment is considered a "trade or business" for purposes of section 162. However, as we've seen in other contexts, it is not always clear that a public official is an "employee" under the tax laws. So, for example, section 3401(c) specifically includes elected officials in the definition of "employee" for purposes of income tax withholding.

So, I haven't researched the history of section 7701(a)(26), but I expect that the reason for the definition is to allow elected officials to deduct the same kind of employment-related expenses that private sector employees can deduct.

[LPC]

I've found language in a Supreme Court opinion and in a 2d Circuit Court opinion that are consistent with my suggestion that the purpose of the "trade or business" definition is to allow public officials to deduct expenses.

"All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business" are allowed by § 23 (a) (1) (A) [of the Internal Revenue Code of 1929] as deductions in computing net income. According to tax law terminology (§ 48 (d) of the Internal Revenue Code) the performance by petitioner of his judicial office constituted carrying on a "trade or business" within the terms of § 23 of the Internal Revenue Code. He was therefore entitled to deduct from his gross income all the "ordinary and necessary expenses" paid during 1939 in carrying on that "trade or business." He could, that is, deduct all expenses that related to the discharge of his functions as a judge.

McDonald v. Commissioner, 323 US 57, 59-60 (1944) (political contributions and campaign expenses are not expenses of carrying on a trade or business).

The legislative history of the definition is described in footnote 3 of the opinion:

[3] "Trade or business. — The term `trade or business' includes the performance of the functions of a public office." This amendment, added by the Revenue Act of 1934, 48 Stat. 680, 696, was merely "declaratory of existing law." S. Rep. No. 558, 73d Cong., 2d Sess., p. 29. It had "nothing to do" with campaign expenses, 1 Hearings before Committee on Finance on H.R. 8735, 73d Cong., 2d Sess. (March 6, 1934), p. 29, which continued to be outside deductions allowed by § 23 (a) (1).

The following footnote appears in a decision of the 2nd Circuit:

The Senate and Conference Committee Reports describe this addition [Sec. 48(d) of the Revenue Act of 1934, now I.R.C. Sec. 7701(a)(26)] as "clerical" and "declaratory of existing law," S.Rep. No. 558, 73d Cong., 2d Sess. at 29; H.R.Rep. No. 1385, 73d Cong., 2d Sess. at 17 (Conference Report) (1934). A discussion before the Senate Committee on Finance suggests that the primary reason for the provision was to overcome doubts whether Senators were engaged in a "trade or business" so as to permit deduction for extra staff and telephone expenses. 1 Hearings before Committee on Finance on H.R. 7835, 73d Cong., 2d Sess. (March 6, 1934), p. 29-30. The Ninth Circuit has said that Sec. 48(d) was adopted to modify the general rule that "in order for an activity to be considered a trade or business under Section 162 it must be engaged in for profit." Frank v. United States, 577 F.2d 93, 95 (9 Cir.1978). The court cited Jackling v. C.I.R., 9 B.T.A. 312, 320 (1927), as the "best statement of the [existing] law" with respect to public officers, which the amendment was said to have codified. In Jackling, the Board of Tax Appeals allowed business deductions by a war-time government employee whose salary was only one dollar a year and rejected the Commissioner's argument that the expenses were not deductible because the taxpayer's employment was not profit motivated. Further support for this reading of Sec. 48(d) can be found in Revenue Ruling 55-109, 1955-1 Cum.Bul. 262 (1955), in which the Commissioner interpreted the section as allowing a public office to be treated as a trade or business "even though the incumbent thereof may serve without compensation, a factor which is ordinarily regarded as a prerequisite to the pursuit of a trade or business."

Estate of Nelson A. Rockefeller v. Commissioner, 762 F.2d 264, note 2 (2d Cir. 1985).

[Jeffrey]

This is why I defer to the experts when it comes to Tax Law, Medicine, Dentistry, etc.

[LPC]

Finally, the opinions of courts which have been forced to address the "public office" nonsense:

Petitioner supports his position by contending, among other things, that he was not involved in a trade or business as defined by the Code. Petitioner defines a trade or business to include only the performance of the function of a public office, and not his private sector activities for which he received only private sector money. Petitioner therefore asserts that the amounts he received from all third-party payors are not gain or profit from a trade or business as defined in section 7701(a)(26), taxable income, or gross income. ... Without exception, petitioner has raised only frivolous and groundless arguments.

John Lewis Hill v. Commissioner, T.C. Memo. 2013-265 (deficiency and additions to tax upheld; penalty of $10,000 imposed under section 6673(a)(1)).

Before this Court, Slingsby continues to argue that the Forms W-2 were invalid. Slingsby reasons that the companies that issued the Forms W-2 were not required to do so because they are "private enterprises incorporated under the laws of the several states party to the U.S. Constitution". The idea that private enterprises are exempt from wage reporting is based upon Slingsby's misconstruction of sections 6051(a), 3401(d), 7701(a)(26), and 3121(e) and (h). For example, section 7701(a)(26) provides: "The term 'trade or business' includes the performance of the functions of a public office." [Footnote omitted] Slingsby argues that this provision means that a "trade or business" includes only a public office. This argument is baseless. Slingsby's other arguments regarding these Code provisions make so little sense that we find it difficult even to explain them.

Edward E. Slingsby v. Commissioner, T.C. Memo. 2011-3 (determination to file federal tax lien upheld).

Even if we were to look to the amended returns in evaluating Mr. Salmonson's tax liabilities, he maintains the same argument in the affidavit attached to his Form 1040X as he does in the stipulation: that the income is not taxable to him under section 7701(a)(26) because he did not hold a public office. Section 7701 provides various definitions, and section 7701(a)(26), specifically, provides that "[t]he term `trade or business' includes the performance of the functions of a public office." However, section 7701(c) provides that the term "includes" is not to be interpreted to "exclude other things otherwise within the meaning of the term defined." We have previously held arguments seeking to convert "includes" to "includes only" to be frivolous.

Salmonson v. Commissioner, T.C. Memo. 2014-244 (deficiency, addition to tax, and accuracy-related penalty upheld).

With respect to their liability for self-employment taxes, petitioners' brief asserts the following frivolous position:

Self-employment tax

In the notice of deficiency respondent seeks to assert self-employment tax. Self-employment taxes are imposed only upon the operations of a "trade or business". "Trade or business" is defined in the Internal Revenue Code as "...the performance of the functions of a public office." See IRC 7701(a)(26). Self-employment tax also depends upon the definition of "trade or business" as in IRC 162. IRC section 162 makes no changes to the code wide definition in section 7701 as applies to petitioner.

Section 7701(a)(26) provides that, for purposes of the Internal Revenue Code, "The term `trade or business' includes the performance of the functions of a public office." Frivolous arguments based on converting the term "includes" in a section of title 26 to "includes only" have been soundly rejected. [Citations omitted] Petitioners' argument is patently fallacious and deserves no further consideration.

Pate v. Commissioner, T.C. Memo. 2008-272 (imposition of self-employment tax upheld).

The author's [Peter Hendrickson's] misinterpretation of the word "includes" continues to lead him to erroneous conclusions. For people involved in a trade or business, he concludes [in Cracking the Code] "that unless one's works involves the performance of the functions of a public office one has no `net earnings from self-employment' and need file no return regarding the proceeds of self-employment; and no private-sector person or company should ever issue a 1099 MISC." We see this view mirrored in Mr. Waltner's repeated reference to himself as a "private-sector worker" as a reason he should not be taxed. As we have already noted, private sector workers are indeed included among the class of people who are subject to tax. And this very argument has previously led to sanctions.

Waltner v. Commissioner, T.C. Memo. 2014-35 (footnotes omitted; penalty of $2,500 imposed for frivolous challenge to frivolous filing penalty).

See also, Gene E. Meuli v. Commissioner of IRS, 2013 TNT 239-20, No. 6:13-cv-01114 (U.S.D.C. Kan. 12/9/2013) (claim for refund of frivolous filing penalty dismissed when tax return that was filed included an affidavit that claimed--among other things--that the taxpayer "has never been engaged in a 'trade or business,' as defined in U.S.C. § 7701(a)(26)")

[Katharine]

Thank you everyone for your input.

I've found language in a Supreme Court opinion and in a 2d Circuit Court opinion that are consistent with my suggestion that the purpose of the "trade or business" definition is to allow public officials to deduct expenses.

This is exactly the type of information I was looking for.

Finally, the opinions of courts which have been forced to address the "public office" nonsense:

These are also very useful.

Katharine