Tax protester 861 argument

The 861 argument is a statutory argument used by tax protesters in the United States, which interprets a portion of the tax code as invalidating certain applications of income tax. The argument has uniformly been held by courts to be incorrect, and persons who have cited the argument as a basis for refusing to pay income taxes have been penalized, and in some cases jailed.

Basis of the argument

Internal Revenue Code section 861, entitled "Income from sources within the United States", is a provision of the Internal Revenue Code which delineates what kinds of income shall be treated as income from sources within the United States. The language of Section 861 is occasionally cited by tax protesters who claim that the statute excludes some portion of the income of U.S. citizens and resident aliens from taxation under the provisions of the Code. [See also [http://www.whatistaxed.com] .]

Under the tax protesters' section 861 argument, only income derived from "taxable activities" becomes "taxable income" (taxable "gross income" minus allowable deductions - usc|26|63). The list of taxable activities is located in Subchapter N and in Section 861 regulations. Proponents of this argument state that individuals with domestic income must go to the Section 861 regulations to determine if the "activities" that generate their income are taxable or not. Protesters state that regulation section 1.861-8T(d)(2)(iii) defines the taxable activities. The argument is that since the domestic activities of residents of the United States (Americans and resident aliens) are not shown to be taxable, the domestic income derived from such activities does not become taxable "gross income".cite web| last=| first=| title=The Federal Domestic Income Tax Deception| work=| publisher=861.info| date=| url=http://www.861.info/| accessdate=2006-08-15]

Tax protesters argue that the IRS is misapplying section 861 to them, citing the case of "Gould v. Gould". [245 U.S. 151 (1917).] The text of that case reads in part:

"In the interpretation of statutes levying taxes it is the established rule not to extend their provisions, by implication, beyond the clear import of the language used, or to enlarge their operations so as to embrace matters not specifically pointed out. In case of doubt they are construed most strongly against the government, and in favor of the citizen."

Tax protesters argue that "Gould v. Gould" nullifies what tax protesters view as an attempt by the IRS to tax beyond the explicit provisions of the law. Section 861 did not exist in the year 1917, when the "Gould" case was decided, and the Court was neither presented with nor decided the issue of whether domestic or foreign income is not taxable. The terms "domestic income" and "foreign income" do not appear in the case, and the court's main ruling in "Gould v. Gould" -- that alimony was not taxable to the recipient under the Revenue Act of 1913 -- was overturned by a subsequent Act of Congress, the current version of which is found in the Internal Revenue Code of 1986 at usc|26|71. [Compare "Neeman v. Commissioner", 26 T.C. 864, CCH Dec. 21,862 (1956), where the United States Tax Court ruled that alimony was taxable to the recipient under the Sixteenth Amendment and section 22(k) of the Internal Revenue Code of 1939.]

The income taxes imposed on U.S. citizens and resident aliens are generally imposed under Subchapter A (not Subchapter N) of Chapter 1 of the Code. The income tax is imposed on the "taxable income" of individuals. [See usc|26|1.]

The courts have consistently ruled that the argument that Section 861 excludes income of U.S. citizens and resident aliens from taxation is without legal merit. See "Aiello v. Commissioner"; [69 T.C.M. (CCH) 1765, T.C. Memo 1995-40 (1995).] "Williams v. Commissioner"; [114 T.C. 136 (2000).] and "United States v. Bell". [238 F. Supp. 2d 696, 2003-1 U.S. Tax Cas. (CCH) paragr. 50,501 (M.D. Pa. 2003), "aff'd", 2005-2 U.S. Tax Cas. (CCH) paragr. 50,661 (3d Cir. 2005).]

The argument that United States citizens and residents are not subject to tax on their wages, etc., derived from sources within the United States, and variations of this argument, have been officially identified as legally frivolous Federal tax return positions for purposes of the $5,000 frivolous tax return penalty imposed under Internal Revenue Code section 6702(a). [usc|26|6702, as amended by section 407 of the Tax Relief and Health Care Act of 2006, Pub. L. No. 109-432, 120 Stat. 2922 (Dec. 20, 2006). See Notice 2008-14, I.R.B. 2008-4 (Jan. 14, 2008), Internal Revenue Service, U.S. Department of the Treasury (superseding Notice 2007-30). [Note: As of late September 2007, the linked page at the Cornell University Law School web site for section 6702 does not yet reflect the increase in the penalty amount from $500 to $5,000.] ]

Individual cases

The earliest reported case in which section 861 is raised as a limitation on the income tax is the 1993 case of "Solomon v. Commissioner". ["Solomon v. Commissioner", T.C. Memo 1993-509; 1993 Tax Ct. Memo LEXIS 519; 66 T.C.M. (CCH) 1201 (T.C. 1993).] In that case, the protester's primary argument was that "the State of Illinois is not part of the United States", ["Solomon v. Commissioner", T.C. Memo 1993-509 at *4 (T.C. 1993)] and that he was therefore a resident alien, subject to taxation only under the provisions of §861. The court ruled:

[P] etitioner's position is not bolstered by the regulations under section 861. To the contrary, section 861(a)(1) and (3) provides that interest from the United States and compensation for labor or personal services performed in the United States (with exceptions not applicable here) are items of gross income which shall be treated as income from sources within the United States. ["Solomon v. Commissioner", T.C. Memo 1993-509 at *3 (T.C. 1993)]

In "Solomon", the court also stated:

The record in this case establishes that petitioner had no interest in disputing either the deficiencies or the additions to tax determined by respondent. Furthermore, it is clear that petitioner instituted this action to delay the assessment and collection of his Federal income taxes. Rather, petitioner has raised only the tired, discredited arguments which are characterized as tax protester rhetoric. A petition to the Tax Court is frivolous if it is contrary to established law and unsupported by a reasoned, colorable argument for change in the law. [ . . . ] Based upon the established law, petitioner's position is frivolous and groundless. Taxpayers with genuine controversies were delayed while we considered this case. Accordingly, we will require petitioner to pay a penalty to the United States in the amount of $5,000. ["Solomon v. Commissioner", T.C. Memo 1993-509.]

More recent attempts to avoid payment of taxes using the 861 argument have not contended that the protesters were non-citizens, but that the provision should be read as extending to all taxes. These efforts have resulted in a number of high-profile convictions of its proponents. Larken Rose, a noted advocate of the 861 argument, used the argument to challenge the IRS, and lost:

On November 22, 2005, in Philadelphia, PA, Larken Rose was sentenced to 15 months in prison, followed by one year supervised release and fined $10,000. Rose was convicted by jury in August 2005 to five counts of willful failure to file federal income tax returns. According to the evidence introduced at trial, Rose willfully failed to file personal federal income tax returns for calendar years 1998 through 2002, despite earning $500,000 during those years. On those amended returns, he reported no tax due and requested a refund for all income taxes paid in those years. At trial, Rose claimed that he failed to file returns and sought refund claims based on his determination that his income received inside the United States was not taxable under Internal Revenue Code Section 861 and regulations. The judge instructed the jury that this Section 861 argument is incorrect as a matter of law.cite web| last=| first=| title=Examples of General Tax Fraud Investigations| work=| publisher=Internal Revenue Service| date=2005-11-22| url=http://www.irs.gov/compliance/enforcement/article/0,,id=148265,00.html| accessdate=2006-08-15]

In August 2006, Charles Thomas (Tom) Clayton, M.D., was found guilty by a jury in Federal court in Texas of two counts of willfully making false statements on tax returns and six counts of willfully failing to file tax returns. According to "The Courier of Montgomery County", "Clayton's defense at the trial centered on the '861 argument' -- a defense used numerous times in previous years, but never successfully [ . . . . ] " [ [http://www.hcnonline.com/site/news.cfm?newsid=17161773&BRD=1574&PAG=461&dept_id=532215&rfi=6 Page cannot be displayed] ] According to a Justice Department news release, Clayton failed to file income tax returns for years 1999 through 2004 while receiving over $1.5 million in gross income. The government also charged that for years 1997 and 1998 Clayton filed false amended returns, claiming refunds of over $160,000. [ [http://www.quatloos.com/861_Goes_Down.htm Dr. Tom Clayton - 861 Goes Down In Flames Again] ] Criminal investigators of the Internal Revenue Service had gathered information on Clayton during the IRS investigation of Larken Rose (see above). According to the prosecutor's office, Clayton "disregarded multiple written notices from the Internal Revenue Service informing him that his 861 argument was without merit", and Clayton "had also been told the same thing by two Certified Public Accountants". [News release, Dec. 15, 2006, Office of Johnny Sutton, United States Attorney for the Western District of Texas, U.S. Department of Justice, San Antonio, Texas. Retrieved from http://www.usdoj.gov/usao/txw/press_releases/2006/clayton.sen.pdf.] On December 15 2006, Clayton was sentenced to five years in prison and a fine of $50,000, plus a requirement that he pay over $7,400 in prosecution costs. [Id.] He appealed, but his conviction was upheld on appeal. ["United States v. Clayton", 506 F.3d 405, 2007-2 U.S. Tax Cas. (CCH) paragr. 50,775 (5th Cir. 2007) ("per curiam"), "cert. denied", case no. 07-904 (April 14, 2008).]

In 2006, the government alleged that actor Wesley Snipes fraudulently attempted to obtain tax refunds using the 861 argument. On February 1 2008, Snipes was found guilty on three misdemeanor counts of failing to file Federal income tax returns. He was acquitted on one felony count of conspiracy to defraud the government and one felony count of filing a false claim with the government. ["Wesley Snipes acquitted of federal tax fraud," MSNBC, Feb. 1, 2008, at [http://www.msnbc.msn.com/id/22955757/] .] [ [http://www.cnn.com/2008/CRIME/02/01/snipes.court.ap/index.html Snipes acquitted of tax-fraud, conspiracy] , CNN, February 1, 2006.] Following the acquittal, Snipes faced up to three years in prison, rather than the sixteen years the felony charges could have brought. [ [http://www.cnn.com/2008/CRIME/02/01/snipes.court.ap/index.html Snipes acquitted of tax-fraud, conspiracy] , CNN, February 1, 2006.] On April 24, 2008, Snipes was sentenced to three years in prison. [cite news
title = Snipes Sentenced To 36 Months
url = http://www.wesh.com/news/15979487/detail.html
publisher = WESH
location = Orlando
date = 2008-04-24
accessdate = 2008-04-24 ] [See ABC Action News, 24 April 2008, at [http://www.abcactionnews.com/content/news/breakingnews/story.aspx?content_id=9f6b6b10-a2cb-451d-95ef-4749301acc8f] .] [See the "Orlando Sentinel", 24 April 2008, at [http://www.orlandosentinel.com/news/local/state/orl-bk-wesley-snipes-sentencing-042408,0,1299381.story] .] Co-defendant Eddie Ray Kahn was sentenced to ten years in prison, and another defendant, Douglas Rosile, was sentenced to four and half years in prison. [Stephen Hudak, April 24, 2008, "Wesley Snipes sentenced to three years in federal tax case," "Orlando Sentinel", at [http://www.orlandosentinel.com/news/local/state/orl-bk-wesley-snipes-sentencing-042408,0,1299381.story] .]

In another, less widely reported 2008 case, Clifford B. Marston was convicted of tax evasion and related claims despite his argument that his non-filing was based on a good faith belief that his income was not taxable. [Compare "Cheek v. United States".] Marston's conviction was upheld in part because he failed to file even after he became aware that Thurston Bell and Larken Rose, the proponents of the argument from whom Marston first heard of it, had both been convicted of tax evasion. ["United States v. Marston", 517 F.3d 996, 1003, 2008-1 U.S. Tax Cas. (CCH) paragr. 50,221 (8th Cir. 2008).]

References