Raytheon Productions v CIR (144 F2d 110)

Facts:

Raytheon Prod.  Came into existence as a result of a tax free reorganization. The original Raytheon was a manufacturer of tubes which made possible the operation of radio receiving set. Another company (R.C.A) developed a competitive tube which produced the same type of rectification as those of the Raytheon tube.

R.C.A  began to license the manufacturers of radio sets and incorporated a clause which provided that the licensee was required to buy tubes from R.C.A. As a consequence of this restriction, Raytheon found it impossible to market its tubes so Raytheon also obtained a license from R.C.A. to manufacture tubes on a royalty basis.

The license agreement between R.C.A and Raytheon contained a release of all claims of Raytheon against R.C.A. BUT such claims can be asserted if R.C.A paid similar claims to others. Raytheon was informed that R.C.A violated the agreement so a suit was filed to enforce Raytheon’s claims.

R.C.A also filed a suit against Raytheon for non-payment of royalties. There was a settlement agreement of the anti-trust action where R.C.A agreed to pay($410, 000). The officers of Raytheon testified that they returned to R.C.A $60,000 as income from patent licenses and treated the remaining $350,000 as a realization from a chose in action and not taxable income.

The Commissioner however, determined this $350,000 as income tax.

Issue:

Whether an amount received by a taxpayer in compromise settlement of as suit for damages is a non-taxable return of capital or income.

Held:

Amount is a TAXABLE INCOME. Damages recovered in an anti-trust action are not necessarily nontaxable. According to US jurisprudence, recoveries which represent a reimbursement for lost profits are income.

Accdg. to Commercial Electrical Supply v Commissioner, damages for violation of the anti-trust acts are treated as ordinary income where they represent compensation for lost profits.

The test is not whether the action was one in tort or contract but rather “In lieu of what were the damages awarded?” Where the suit is not to recover lost profits but is for injury to good will, the recovery represents a return of capital and is not taxable.

In the case, the Court held that there was nothing to indicate that the suit was for lost profits. It was not a kind of antitrust suit where the plaintiff’s business still exists and where the injury was merely for loss of profits.  

Since the suit was to recover damages to the destruction of the business and good will, the recovery represents a return of capital. Nor does the fact that the suit ended in a compromise agreement change the nature of the recovery, “ the determining factor is the nature of the basic claim from which the compromise amount was realized”.

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*Realization Test (accdg. to the case)

Although the injured party may not be deriving a profit as a result of the damage suit itself, the conversion thereby of his property into cash is a realization of any gain made over the cost or other basis of the good will prior to the illegal interference.

ILLUSTRATIVE EXAMPLE:  A buys Blackacre for $5,000. It appreciates in value to $50,000. B tortiously destroys it by fire. A sues and recovers $50,000 tort damages from B. Although no gain was derived by A from the suit, his prior gain due to the appreciation in value of Blackacre is realized when it is turned into cash by the money damages.