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The IRS believes that contingent fees paid to lawyers as the result of a settlement or judgment should be included in the litigant's gross income. However, US Circuit Courts have not been consistent on this issue, with some circuits allowing exclusion of the fees from taxable income.

This article reviews the US Court of Appeals for the 6th Circuit case of United Dairy Farmers, Inc. and the US Court of Appeals for the 4th Circuit case of Dominion Resources, Inc. Both decisions stated that expenses for remediation of soil contaminated by the taxpayer could not be deducted.

The authors discuss differences between the IRS field service advice and the US Court of Appeals for the 7th Circuit's decision in A.E. Staley Manufacuring Co. regarding the capitalization of takeover expenses.

The IRS has provided supplemental guidance regarding the environmental cleanup costs of removing and replacing underground storage tanks in Revenue Ruling 98-25 issued in Apr 1998. The ruling supplements ruling 94-38 which concerns soil remediation and groundwater treatments. Current deductions are allowed under specified circumstances. The limited scope of both rulings requires further guidance in areas such as asbestos abatement.

The Tax Court provided the taxpayer and the IRS with little insight in finding in Norwest Corp. v. Commissioner that both asbestos removal expenses and remodeling expenses had to be capitalized because they were part of a single remodeling effort. The taxpayer argued that the asbestos removal project was separate from the remodeling and should have resulted in a current deduction. The IRS argued that the asbestos removal increased the value of the property. The Tax Court did not rule on most of the points raised on both sides and has provided little guidance.

The Small Business Job Protection Act of 1996 includes provisions that codify that punitive damages are not excludible from income, unless they are awarded in wrongful death suits in which punitive damages are the only allowable remedies. These changes to IRC section 104(a) also limit excludability to physical injuries and diseases, making libel and privacy awards taxable. Emotional distress awards will only be excludible if linked to a physical injury or limited to medical expenses actually incurred.

Revenue Ruling 94-38 states that the costs incurred for soil remediation and groundwater treatment on land that was once uncontaminated and under the same ownership are not deductible as expenses or capital improvements. However, the scope of the Rev Ruling is too limited to offer insight into other situations. What is clear is that, in cases where the owners are cleaning up their own mess, the deduction will probably not be allowed.

This article focuses on the March 1999 decision by the U.S. Eastern Virginia District Court in Dominion Resources, Inc. which concerned the capitalization or deduction treatment of environmental remediation costs. The court correctly denied deduction treatment due to facts showing that the costs were incurred to adapt the property to a new use and the property's value increased. IRS Revenue Ruling 94-38 was clearly not applicable.

The US Court of Appeals for the Ninth Circuit ruled in Banks v. United States that payments received for settling a duty of fair representation and wrongful discharge suit are excluded from income tax under IRC section 104(a)(2). The Court ruled that the US Supreme Court's decision in Commissioner v. Schleier was limited to Age Discrimination in Employment Act claims because that statute provided limited remedies. The breach of duty of fair representation settlement was not for lost wages, so it was a personal injury award eligible for exclusion.

Discusses the Ninth Circuit's ruling in the tax case `Banks v. United States.' Background information on the lawsuit filed by John Banks; Restrictions of the decision of the case `Commissioner of Internal Revenue v. Schleier' to Age Discrimination in Employment Act cases; Implications of the ruling.