Argument of Speaker
Mr. Speaker: The opinion of the Court in No. 99-1295, Gitlitz against the Commissioner of Internal Revenue will be announced by Justice Thomas.
Argument of Justice Thomas
Mr. Thomas: This case comes to us on the a writ of certiorari to the United States of Court of Appeals for the Tenth Circuit.
Petitioners are shareholders in an insolvent Subchapter S corporation that excluded discharge of indebtedness from its gross income.
Petitioners pass through this their pro rata shares of the discharge of indebtedness as income to their individual tax returns.
Accordingly, increased their basis in corporate stock and deducted their losses.
The commissioner denied the deductions and the Tax Court affirmed that denial.
The Court of Appeals affirm the Tax Court holding that before petitioners could pass through the discharge of indebtedness income to increase their basis, they had to reduce the S Corporation’s tax attributes by the amount of discharge of indebtedness.
By doing that it would have absorbed all of the losses at the corporate level and there would have been nothing to pass through to the taxpayers.
In an opinion filed with the Clerk today, we reverse.
Section 61(a)(12) of the Internal Revenue Code states that discharge of indebtedness is generally included in gross income.
Section 108 merely permits insolvent S corporations to exclude discharge of indebtedness from gross income, and Section 108(e)(1) specifically presumes that discharge of indebtedness remains an item of income.
Discharge of indebtedness income of an insolvent S corporation is therefore subject to pass through as an item of income to shareholders.
Section 108(b)(4)(A) directs that tax attribute deductions shall be made after the determination of the tax imposed for the taxable year of the discharge.
To compute the tax imposed the shareholders must pass through the S corporation’s items of income, increase their basis in corporate stock and take deductions.
Therefore the pass through must occur before the S corporation’s tax attributes are reduced.
In that way it is not absorbed at the corporate level and remains available to the taxpayer.
In this case petitioners did pass through the S corporation’s discharge of indebtedness income, increased their basis, and take their deductions without having already reduced the S corporation’s tax attributes.
They therefore were entitled to the claim deductions.
Justice Breyer has filed a dissenting opinion.
