You Can't Turn Water Into Wine

A Tax Court decision handed down yesterday proves that it's not easy to turn the water of ordinary income into the wine of capital gain.

In Parker v. Commissioner, the taxpayer was self-employed and worked under contract as a district manager for a group of insurance companies. The insurance companies canceled his contract and paid him an amount designated “Contract Value”, based on the quantity (length of service) and quality (final 6 months’ earnings) of the services rendered by him to the insurance companies. The taxpayer failed to pay self-employment tax with respect to the Contract Value, claiming that it constituted a capital gain.

The Tax Court held that the contract value is subject to the tax on self-employment income and is not capital gain. The taxpayer was hit with a tax assessment of over $90,000, plus interest and penalties.