Vanderbilt Law Review


John G. Corlew

First Page



The Internal Revenue Code is premised on an annual accounting concept which requires the taxpayer to count up his transactions at the end of the year and remit to the Government taxes based on the occurrences of that particular year. In theory this requires disregarding the factors of prior or subsequent taxable years, despite the irrelation to events of the tax year in question. In most instances, annual accounting poses no special problem. When applied to certain items whose tax impact transcends more than a single taxable year,however, inconsistencies and inequities may result. Two instances in which inconsistent tax treatment is occasioned by annual accounting are: (1) the restoration to another of items previously included in the taxpayer's gross income because he had held them under a claim of right; and (2) the recovery of items by the taxpayer which he had deducted from his income in a prior tax year. To require annual accounting with respect to these items makes the timing of the restoration or recovery determinative of the tax consequences. Variable factors such as fluctuation in the taxpayer's income and changes in tax rates determine whether the taxpayer ultimately pays more or less tax than if the original tax accounting were not erroneous in light of subsequent events. For example, if recovery of a previously deducted item occurs in a high income year for the taxpayer, the progressive rate structure is likely to exact a higher toll than if the taxpayer had foregone the original deduction so that the later recovery would be a return of capital, and therefore not taxable. It is the thesis of this note that the inconsistency is unnecessary and that the timing of a recovery or restoration need not deter-mine the tax consequences. It is submitted that a transactional approach that would provide tax accounting for an item in light of events of prior years, as well as consideration of facts of the year of restoration or recovery, should be used.