Rev. Rul. 70-86

Advice has been requested concerning the treatment to be accorded, for Federal income tax purposes, to rebates of California real property taxes under the situations described below.

The November 5, 1968, amendment, Section 1(d), Article XIII, to the California Constitution provides, in pertinent part, that for the 1968-1969 fiscal year only, $750 of the assessed value of a dwelling will be exempt from real property taxes and this exemption will be effected by a relief payment of $70 in June of 1969 to eligible taxpayers who file claims for the real property tax relief payment in 1969.

The relief payment is payable on property used as a personal residence by a taxpayer. Accordingly, practically all taxpayers affected will file their income tax returns on the cash receipts and disbursements method of accounting and on a calendar year basis. In the State of California, real property taxes become a lien on the first Monday in March preceding the beginning of the fiscal year (July 1-June 30) and are payable during the fiscal year in two installments due on November 1 and February 1 following the lien date. The entire tax may be paid at the due date of the first installment. It is not necessary to pay the tax in order to receive the relief payment since any unpaid tax is a lien on the real property.

Section 111(a) of the Internal Revenue Code of 1954 provides the general rule that gross income does not include income attributable to the recovery during the taxable year of a bad debt, prior tax, or delinquency amount, to the extent of the amount of the recovery exclusion with respect to such debt, tax, or amount.

Section 1.111-1 of the Income Tax Regulations provides, in part, that the term "recovery exclusion" means an amount equal to the portion of prior taxes which, when deducted or credited for a prior taxable year, did not result in a reduction of any tax of the taxpayer.

Section 111(b)(2) of the Code defines the term "prior tax" as a tax on account of which a deduction or credit was allowed for a prior taxable year.

Section 164(a) of the Code provides, in part, the general rule that, except as otherwise provided, State and local, and foreign, real property taxes are allowable as a deduction for the taxable year within which paid or accrued.

Revenue Ruling 56-447, C.B. 1956-2, 102, holds, in part, that recovery during the taxable year, by a cash method taxpayer, of previously deducted State income tax is excludable from gross income to the extent that the prior deduction did not result in a tax benefit for the year of deduction. Furthermore, where the tax table or standard deduction is used in lieu of itemized deductions in the computation of a taxpayer's Federal income tax liability for a taxable year in which he had paid State income tax, the refund of all or any part thereof is not includible in his gross income in the year received.

It is held that, for purposes of a taxpayer who uses the cash receipts and disbursements method of accounting, who has paid the tax and who files his Federal income tax return on a calendar year basis, the $70 relief payment in 1969 is a recovery of the tax previously paid that is excludable to the extent that the underlying real property tax deduction did not result in a tax benefit for the year 1968. It is further held that where the real property tax is paid in two installments, one in each of the years 1968 and 1969, the $70 relief payment is attributable to each such year in a manner proportionate with the installments made during such years. In the case of a taxpayer similarly situated except that the tax has not been paid, the relief payment is in the nature of a reduction of the amount of tax to be paid.

Application of the foregoing holdings is illustrated in the situations, and solutions thereto, that follow:

Situation 1.--Deductions are itemized in 1968 and 1969, and

(a) The entire real property tax is paid in 1968.

(b) The real property tax is paid 1/2 in 1968 and 1/2 in 1969.

(c) The real property tax is unpaid.

Situation 2.--The standard deduction is used in 1968 and 1969 under conditions (a), (b), and (c) of Situation 1.

Situation 3.--The standard deduction is used in 1968 and deductions are itemized in 1969 under conditions (a), (b), and (c) of Situation 1.

Situation 4.--Deductions are itemized in 1968 and the standard deduction is used in 1969 under conditions (a), (b), and (c) of Situation 1.

With respect to Situation 1.--

(a) Since the entire real property tax for the fiscal year 1968-1969 was paid in 1968, the entire $70 relief payment relates to the calendar year 1968 and the taxability of the entire amount is determined under the provisions of section 111 of the Code and the principle set forth in Revenue Ruling 56-447 with respect to itemized deductions. Therefore, such relief payment is includible in the taxpayer's gross income for 1969 to the extent of the 1968 tax benefit resulting from the deduction of the real property tax payment made in that year.

(b) Since one-half of the entire real property tax for the fiscal year 1968-1969 was paid in 1968 and one-half in 1969, one-half of the $70 relief payment is attributable to the calendar year 1968 and the balance to 1969. The one-half portion attributable to calendar year 1968 is subject to the same tax treatment as Situation 1(a). The remaining one-half portion attributable to the calendar year 1969 is not includible in the taxpayer's gross income for 1969 but, rather, serves to reduce the 1969 allowable tax deduction provided by section 164 of the Code for real property taxes paid in 1969 on real property qualifying for the relief payment.

(c) No part of the $70 relief payment is includible in the taxpayer's gross income since the relief payment is in the nature of a reduction of the real property tax imposed for the fiscal year 1968-1969 on the property qualifying for the relief payment. Thus, when the 1968-1969 fiscal year real property tax is paid, the maximum amount deductible pursuant to section 164 of the Code in any year subsequent to 1969 is the amount of real property tax paid reduced by the $70 relief payment.

With respect to Situation 2.--

(a) Pursuant to the principle set forth in Revenue Ruling 56-447 with respect to the use of the standard deduction, no part of the $70 relief payment is includible in the taxpayer's gross income since there was no tax benefit for 1968.

(b) The portion of the $70 relief payment attributable to the one-half portion of the real estate tax payment made in 1968 is not includible in gross income since the tax payment in that year did not result in a Federal income tax benefit. The portion of the $70 relief payment attributable to the one-half portion of the real estate tax payment made in 1969 is also not includible in gross income. See holding in Situation 1(b) above.

(c) The $70 relief payment is not includible in the taxpayer's gross income since it is an offset to the tax to be paid as set forth in Situation 1(c) above.

With respect to Situation 3.--

(a) The $70 relief payment is not includible in taxpayer's gross income for the reasons set forth in Situation 2(a) above.

(b) The one-half portion of the $70 relief payment attributable to the calendar year 1968 is not includible in gross income as in Situation 2(a) above, and the remaining one-half portion attributable to the calendar year 1969 is not includible in gross income as in Situation 1(b) above. (c) The $70 relief payment is not includible in gross income and limits the otherwise deductible tax as in Situation 1(c) above.

With respect to Situation 4.--

(a) The $70 relief payment is includible in gross income to the extent of the 1968 tax benefit as in Situation 1(a) above.

(b) The one-half portion of the $70 relief payment attributable to the calendar year 1968 is includible in gross income to the extent of the 1968 tax benefit as in Situation 1(a) above, and the remaining one-half portion attributable to the calendar year 1969 is not includible in gross income as in Situation 1(b) above.

(c) The $70 relief payment is not includible in gross income and limits the otherwise deductible tax as in Situation 1(c) above.