Nash v. United States, 398 U.S. 1 (1970)

CERTIORARI TO THE UNITED STATES COURT OF APPEALS

FOR THE FIFTH CIRCUIT

Syllabus

Petitioners were members of a partnership that reported its income on the accrual method and used the reserve method of accounting for bad debts provided in § 166(c) of the Internal Revenue Code, permitting a taxpayer to take a current deduction for the amount of accounts receivable that it is estimated will become worthless in later years. Petitioners formed corporations and transferred partnership assets, including the net worth of the accounts receivable (the face value less the amount of the reserve), to the corporations in exchange for the corporations’ stock. The transfer was within the terms of § 351 of the Code, which provides that no gain or loss shall be recognized if property is transferred to a corporation in exchange for stock, if after the exchange the transferors are in control of the corporation. The Commissioner of Internal Revenue determined that the partnership should have included in income the amount of the bad debt reserve because the partnership no longer needed the reserve account. Petitioners paid the deficiencies assessed and sued for refunds. The District Court allowed recovery, but the Court of Appeals reversed.

Held: The so-called tax benefit rule, that recovery of an item that has produced an income tax benefit in a prior year is to be added to income in the year of recovery, is not applicable here, as the partnership, although its business terminated and it had no "need" for the reserve, received no gain as a result of the transaction, and there was thus no "recovery" of the benefit of the bad debt reserve. Pp. 3-5.

414 F.2d 627, reversed.