(This syllabus is not part of the opinion of the Court. It has been prepared by the Office of the Clerk for
the convenience of the reader. It has been neither reviewed nor approved by the Supreme Court. Please
note that, in the interests of brevity, portions of any opinion may not have been summarized).
Argued September 15, 1998 -- Decided January 14, 1999
GARIBALDI, J., writing for a unanimous Court.
This appeal involves the tax treatment under the New Jersey Gross Income Tax Act (the Act) of the
taxpayer's gain realized from the sale of his partnership interest. The question is whether the cost basis of
that interest should be the purchase price or the federal adjusted basis (purchase price less losses deducted
on federal income tax returns). The deducted losses provided the taxpayer with a federal income tax benefit.
However, because the losses were not deductible on the taxpayer's New Jersey gross income tax returns, they
provided no tax benefit under the Act.
Koch purchased a limited partnership interest in US Cable in 1988 for $75,000 in cash. He also
agreed to be personally liable for a portion of US Cable's indebtedness to a third party. Koch was allocated
$218,161 of US Cable's losses for 1983 through 1987. He deducted $211,895 of those losses on his federal
income tax returns (reducing his capital account from $75,000 to a negative $136,895). Thus, Koch's federal
income tax basis for his interest in US Cable was reduced to zero.
Koch sold his interest in 1988 for $125,000 in cash, an additional constructive payment to eliminate
the $143,161 deficit in his capital account, and a release from the creditors of US Cable for his personal
liability for partnership debt. On his federal income tax return, Koch reported the amount realized as
$268,161, computed by adding the cash received ($125,000) and the reversal of his negative capital account
($143,161). Due to the losses deducted for prior years, Koch had no basis in the partnership for federal
income tax purposes. Thus, the entire amount realized on the sale of the partnership was taxable income,
$217,785 of which was reported as capital gain and $50,376 as depreciation recapture income.
On his 1988 New Jersey gross income tax return, Koch reported $50,000 as net gain from the sale of
the partnership. This amount was the difference between the sale proceeds of $125,000 and the $75,000 price
paid. Koch did not reduce the initial cost basis of his partnership interest by the losses allocated to him
because they were not deductible under the Act.
The Director of the Division of Taxation redetermined Koch's tax liability, and concluded that
Koch's basis in the partnership was the same as his basis for federal income tax purposes. Thus, Koch was
required to report and pay State taxes on the same amount of gain he reported for federal income tax
purposes.
Koch filed a complaint with the Tax Court, asserting that the Act does not require a taxpayer to
reduce the basis of his partnership interest by losses that are not deductible under the Act. The Tax Court
disagreed and concluded that, in determining gain or loss under the Act, adjusted basis for federal income
tax purposes must be used and no exception is permitted even where the taxpayer was unable to deduct
partnership losses. Koch v. Director, Dir. of Taxation,
15 N.J. Tax 387, 395 (Tax Ct. 1995). The Appellate
Division affirmed in an unpublished, per curiam opinion substantially for the reasons stated by the Tax
Court.
The Supreme Court granted certification.
HELD: In calculating taxable income from the disposition of property under the Act, the basis cannot be the
federal adjusted basis where that basis has been reduced by losses that are not deductible under the Act.
Any income tax imposed on an amount greater than the taxpayer's economic gain (in this instance, sale price
less purchase price) represents a tax on a return of capital, a result not intended by the Legislature.
1. N.J.S.A. 54A:5-1c sets forth three federal income tax concepts to be applied in calculating net gain from
the disposition of property: (1) the method of accounting used for federal income tax purposes, (2) the use of
the federal adjusted basis, and (3) the exclusion of gains to the extent federal rules require nonrecognition.
Koch asserts that by limiting his focus to the adjusted basis provision, the Director fails to recognize and
apply the other provisions. When there is a conflict among different parts of a legislative provision, the
provision should be read in a manner which harmonizes those parts and does justice to the provision's
overall meaning. (pp. 6-9)
2. An examination of the statutory scheme discloses that with respect to section 5-1c income, the Legislature
intended to tax only income and not a return on capital. Koch purchased his partnership interest for $75,000
and sold it for $125,000, resulting in an economic gain of $50,000. Any tax on an amount greater than the
gain of $50,000 represents a tax on amounts that are neither economic gain nor recovery of a past tax
benefit. Instead, it represents a tax on a return of capital. (pp. 9-11)
3. The Director's position ignores the federal accounting and nonrecognition provisions of section 5-1c. By
including reference to federal methods of accounting or nonrecognition provisions of the Internal Revenue
Code, the Legislature explicitly intended to incorporate federal income tax concepts. Further, Koch's
calculation of gain conforms to section 5-1c's directive to use methods of accounting allowed for federal
income tax purposes to determine gain or loss for New Jersey gross income tax purposes. Under the federal
method of accounting, losses not passed through to a partner would not reduce the partner's basis, and gain
would be determined simply by computing the difference between a partner's cost basis (unreduced by
partnership losses) and proceeds received from the sale. Accordingly, the accounting method allowed for
federal income tax purposes does not require the use of Koch's federal adjusted basis to compute his gain.
(pp. 11-14)
4. The Court rejects the various other assertions of the Director. The Court does agree with the Director
that the Legislature did not intend to incorporate tax shelter provisions in the Act. However, there is no
evidence that the Legislature intended to penalize a New Jersey taxpayer for investing in a tax shelter for
federal income tax purposes. The Court believes that its interpretation harmonizes the three basic concepts
of section 5-1c and effectuates the Legislature's plan that the return of capital not be taxed. (pp. 14-19)
CHIEF JUSTICE PORITZ and JUSTICES HANDLER, POLLOCK, O'HERN, STEIN and
COLEMAN join in JUSTICE GARIBALDI'S opinion.
SUPREME COURT OF NEW JERSEY
A-
135 September Term 1997
SIDNEY KOCH and DOROTHY KOCH,
Plaintiffs-Appellants,
v.
DIRECTOR, DIVISION OF TAXATION,
Defendant-Respondent.
Argued September 15, 1998 -- Decided January 14, 1999
On certification to the Superior Court,
Appellate Division.
Howard M. Soloman and Harold Leib argued the
cause for appellants (Harold Leib &
Associates, attorneys; Mr. Leib, Mr. Soloman,
Elisa Leib and Robert C. Hess, on the
briefs).
Patrick DeAlmeida, Deputy Attorney General,
argued the cause for respondent (Peter
Verniero, Attorney General of New Jersey,
attorney; Joseph L. Yannotti, Assistant
Attorney General, of counsel; Joseph W.
Fogelson, Deputy Attorney General, on the
brief).
Robert J. Holtz, a member of the Pennsylvania
bar, argued the cause for amici curiae The
National Realty Committee, The New Jersey
Apartment Association and The New Jersey
Chapter of the National Association of
Industrial and Office Properties (Archer &
Greiner, attorneys; Mr. Holtz, John C.
Connell and Steven K. Mignogna, on the
brief).
The opinion of the Court was delivered by
GARIBALDI, J.
This appeal involves the tax treatment under the New Jersey
Gross Income Tax Act, N.J.S.A. 54A:1-1 to 10-12 (the "Act"), of a
taxpayer's gain realized from the sale of his partnership
interest. The primary issue concerns the proper method for
calculating a taxpayer's cost basis for a partnership interest
and, specifically, whether that cost basis should be the purchase
price or the taxpayer's federal adjusted basis (his purchase
price less the losses deducted on his federal income tax
returns). In addition to reducing taxpayer's federal adjusted
basis, those losses also provided the taxpayer with a federal
income tax benefit. However, because those losses were not
deductible on the taxpayer's New Jersey gross income tax returns,
they provided taxpayer with no tax benefit under the Act.
This appeal arises from a tax deficiency assessed against Sidney and Dorothy Koch.See footnote 1 The facts are stipulated.
In 1988, Koch purchased a limited partnership interest in US Cable of Tri-County, Ltd. ("US Cable") for $75,000 in cash. He also agreed to be personally liable for a portion of US Cable's indebtedness to a third party. Between December 31, 1987, and the sale of his interest in US Cable in 1988, the amount of such indebtedness for which Koch was personally liable was $136,895.
From 1983 through 1987, Koch was allocated $218,161 of US Cable's losses. Koch deducted $211,895 of those losses on his federal income tax returns. Accordingly, as of December 31, 1987, Koch's federal income tax basis for his interest in US Cable was reduced to zero. His capital account in the partnership was reduced from $75,000 to negative $136,895, which equals the $75,000 initial cash purchase price, less the deductible losses of $211,895. The remaining $6,957 of the losses so allocated to Koch during those years could not be deducted by him for federal income tax purposes.
In 1988, pursuant to an Agreement for Sale, Koch sold his entire interest in US Cable for (i) $125,000 in cash, (ii) an additional constructive payment of $143,161See footnote 2 that eliminated the deficit in his capital account, and (iii) a release from the creditors of US Cable of his personal liability for the partnership's debt.
On his 1988 federal income tax return, Koch reported an "amount realized" of $268,161 in connection with the sale of his interest in US Cable, computed by adding the cash received ($125,000) and reversal of his negative capital account ($143,161). Due to the losses he deducted in prior years, Koch had no basis in the partnership for federal income tax purposes. Thus, the entire amount realized on the sale of his partnership interest was taxable income. He reported $217,785 as capital gain and $50,376 as depreciation recapture income.
On his 1988 New Jersey gross income tax return, Koch reported $50,000 as net gain from the sale of his partnership interest. That amount was the difference between the sale proceeds of $125,000 and the $75,000 price paid for his partnership interest. Koch did not reduce the initial cost basis of his partnership interest by US Cable's losses allocated to him because those losses are not deductible under the Act.
The Director, Division of Taxation ("Director") redetermined Koch's 1988 New Jersey gross income tax liability. The Director concluded that, with respect to the sale of his interest in US Cable, Koch's basis in that partnership interest was exactly the same as his basis for federal income tax purposes. Accordingly, Koch was required to report the same amount of gain for New Jersey gross income tax purposes as he reported for federal income tax purposes.
Koch filed a complaint with the Tax Court, asserting primarily that the Act does not require a taxpayer to reduce the basis of his partnership interest by partnership losses that are not deductible under the Act. Therefore, he did not have to use the federal adjusted basis of his partnership interest in calculating the gain from the sale of that interest.
The Tax Court disagreed and concluded that, in determining gain or loss under the Act, adjusted basis for federal income tax purposes must be used and no exception shall be made even where the taxpayer was unable to take advantage of the partnership losses under the Act. Koch v. Director, Div. of Taxation, 15 N.J. Tax 387, 394 (Tax Ct. 1995).
Koch appealed to the Appellate Division, who in an unpublished per curiam opinion affirmed the Tax Court for substantially the reasons stated by that court. We granted certification. 152 N.J. 12 (1997).
Koch asserts that the central issue is whether the Act requires him to reduce the basis of his partnership interest by the partnership losses for which he received no benefit under the Act. He claims that to do so results in a taxable capital gain greater than his economic gain. He contends that such a result violates the plain language of N.J.S.A. 54A:5-1c ("section 5-1c"), which provides for the adoption of federal methods of accounting and federal nonrecognition principles, and also contravenes the intent of the Legislature not to impose a tax on capital.
The Director asserts that section 5-1c plainly and unambiguously provides that "federal adjusted basis" must be used in determining gain on the sale, exchange or disposition of property. He notes that the Legislature did not adopt a tax scheme identical to the federal tax scheme, did not intend that taxpayers offset losses and gains from one category of income against another category, and did not provide for the carryforward of losses. Moreover, the Legislature intended that "federal adjusted basis" be used for administrative convenience and simplicity.
N.J.S.A. 54A:5-1 provides that New Jersey gross income shall consist of fourteen categories. One of those categories is the net gains or income that arise from the disposition of property. That category of income is addressed in section 5-1c which provides in pertinent part,
c. Net gains or income from disposition of property. Net gains or net income, less net losses, derived from the sale, exchange or other disposition of property, including real or personal, whether tangible or intangible as determined in accordance with the method of accounting used for federal income tax purposes. For the purpose of determining gain or loss, the basis of property shall be the adjusted basis used for federal income tax purposes.
* * *
. . . The term "net gain or income" shall
not include gains or income from transactions
to the extent to which nonrecognition is
allowed for federal income tax purposes.
Thus, section 5-1c sets forth three federal income tax concepts
that are to be applied in calculating net gain: (1) the method
of accounting used for federal income tax purposes, (2) the use
of the federal adjusted basis, and (3) the exclusion of gains to
the extent federal rules require nonrecognition. Walsh v.
Director, Div. of Taxation,
10 N.J. Tax 447, 459 (Tax Ct. 1989),
aff'd per curiam,
240 N.J. Super. 42 (App. Div. 1990). Koch
asserts that by improperly limiting his focus to the adjusted
basis provision, the Director fails to recognize and apply the
other provisions, thereby failing to harmonize the three
provisions.
It is well-established that in construing a statute, one must first consider its plain language. Merin v. Maglaki, 126 N.J. 430, 434 (1992). As this Court recognized in Merin, supra, such language should be read according to its ordinary or general meaning, so long as that reading comports with the statute's legislative intent. 126 N.J. at 434-35. If the statute "is clear and unambiguous on its face and admits of only one interpretation, [courts should] delve no deeper than the act's literal terms to divine the Legislature's intent." State v. Butler, 89 N.J. 220, 226 (1982).
Section 5-1c does not "admit of only one interpretation." Walsh v. Director, supra, 10 N.J. Tax at 459-61. When there is a conflict in interpretation, it is a well-established canon of construction that
a legislative provision should not be read in isolation or in a way which sacrifices what appears to be the scheme of the statute as a whole. Rather a statute is to be interpreted in an integrated way without undue emphasis on any particular word or phrase and, if possible, in a manner which harmonizes all of its parts so as to do justice to its overall meaning.
[Zimmerman v. Municipal Clerk of Tp. of
Berkeley,
201 N.J. Super. 363, 368 (App. Div.
1985) (citing Alexander v. New Jersey Power &
Light Co.,
21 N.J. 373 (1956).]
Finally, "whatever be the rule of [statutory] construction, it is
subordinate to the goal of effectuating the legislative plan as
it may be gathered from the enactment read in full light of its
history, purpose and context." State v. Haliski,
140 N.J. 1, 9
(1995) (quoting State v. Gill,
47 N.J. 441, 444 (1966)).
New Jersey courts generally defer to the interpretation that an agency gives to a statute that agency is charged with enforcing. Smith v. Director, Div. of Taxation, 108 N.J. 19, 25 (1987). We have recognized the Director's expertise, particularly in specialized and complex areas of the Act. Metromedia, Inc. v. Director, Div. of Taxation, 97 N.J. 313, 327 (1984) (stating that Director's interpretation will prevail "as long as it is not plainly unreasonable"). However, this deference is "not total, as the courts remain the 'final authorities' on issues of statutory construction and are not obliged to 'stamp' their approval of the administrative interpretation." New Jersey Guild of Hearing Aid Dispensers v. Long, 75 N.J. 544, 575 (1978).
With these statutory construction tenets in mind, we consider the interpretation of section 5-1c. Specifically, how should two of the three concepts incorporated in that section, namely, the application of federal accounting methods and federal nonrecognition principles be reconciled with the federal adjusted basis provision.
Some of the fourteen categories of income set forth in the Act are taxed on a gross basis: salaries, N.J.S.A. 54A:5-1a, interest, N.J.S.A. 54A:5-1e, and dividends, N.J.S.A. 54A:5-1f. Others, however, are taxed on a net basis: net profits from business, N.J.S.A. 54A:5-1b, net gains or income from rents, royalties, patents and copyrights, N.J.S.A. 54A:5-1d, and the net gains and income from the disposition of property, section 5-1c. As explained by the Tax Court in Walsh, supra, 10 N.J. Tax at 460, an examination of the statutory scheme discloses that with respect to section 5-1c income, the Legislature intended to tax only income and not a return on capital.
Walsh involved a taxpayer who held stock in four Subchapter S corporations that suffered losses in prior years. In accordance with federal income tax provisions, the taxpayer's federal income tax basis was reduced by the losses allocated to him in prior years. Id. at 448-55. For New Jersey income tax purposes, however, the losses were not deductible because New Jersey did not recognize Subchapter S corporations during those years. Ibid. Therefore, the taxpayer did not reduce his basis in computing his gain for New Jersey income tax purposes. Ibid. Nonetheless, the Director assessed a deficiency, asserting that, pursuant to section 5-1c, the taxpayer was required to use the federal adjusted basis in computing his gain for New Jersey income tax purposes. Id. at 455-56.
Considering the federal references contained in 5-1c together, the Tax Court concluded that "the statute expresses an intent to tax only those transactions from which an individual derives an economic gain”. Id. at 460. As the Tax Court observed:
With respect to the categories which are taxed by a net rather than a gross method, the statute expresses an intent to tax only those transactions from which an individual derives an economic gain. If that were not the intent, the statute would impose the tax on the total proceeds received from the disposition of property rather than the "net gains or net income, less net losses derived from the sale." N.J.S.A. 54A:5-1c. Thus, it is clear that with respect to gains on the disposition of property, the tax is a tax on net income, and return of capital is not income. The word "income" embodies the concept of accession to wealth. Commissioner v. Glenshaw Glass Co., 348 U.S. 426, 431, 75 S. Ct. 473, 99 L. Ed. 483, reh'g den. 349 U.S. 925, 75 S. Ct. 657, 99 L. Ed. 1256 (1955). Return of capital is not accession to wealth.
In this case, Koch purchased his partnership interest for
$75,000 and sold it for $125,000, resulting in an economic gain
of $50,000. Any income tax imposed on an amount greater than
Koch's economic gain of $50,000 constitutes a tax on amounts that
represent neither economic gain nor recovery of a past tax
benefit. Instead, it represents a tax on a return of capital.
Such a result was not intended by the Legislature.
The Director's position ignores the federal accounting and nonrecognition provisions of section 5-1c. Although federal tax accounting methods are incorporated in section 5-1c, the Director claims that N.J.S.A. 54A:5-2c ("section 5-2"), prohibiting a taxpayer from deducting losses in one of New Jersey's statutory categories of income against income in any other category, overrides that provision. We disagree.
In addition to the federal adjusted basis provision, section 5-1c also provides that net gains should be determined “in accordance with the method of acccounting allowed for federal tax purposes”. N.J.S.A. 54A.8-3c likewise provides that "[a] taxpayer's accounting method under this Act shall be the same as his accounting method for Federal income tax purposes." This Court has expressly stated that when the Legislature included references to federal methods of accounting or nonrecognition provisions of the Internal Revenue Code, "it [explicitly] intended to incorporate federal income tax concepts." Smith v. Director, Division of Taxation, 108 N.J. 19, 33 (1987).
Courts have interpreted section 5-1c expansively and have recognized that section 5-1c "is not limited to the recognized overall methods of accounting, such as the cash method or accrual method, but rather was intended to include any method or system as used for federal tax purposes 'by which taxpayers determine the amount of their income, gains, losses, deductions and credits, as well as the time when such items must be realized and recognized.'" Baldwin v. Director, Division of Taxation, 10 N.J. Tax 273, 284 (1988), aff'd, 237 N.J. Super. 327 (App. Div. 1990). Despite the lack of any express language to that effect in the New Jersey statute, the court held that IRC ¶ 165(c), which disallows losses from dispositions of personal property, constituted a federal method of accounting. Accordingly, pursuant to section 5-1c, the taxpayer's loss on the sale of his personal lawn tractor was denied.
Similarly, in Estate of Tina Guzzardi v. Director, Div. of Taxation, 15 N.J. Tax 395 (Tax Ct. 1995), aff'd per curiam, 298 N.J. Super. 568, 690 A.2d 137 (App. Div. 1996), the Tax Court held that section 5-1c incorporates by reference the installment sale reporting rules of IRC § 453. Even though the Act has no parallel provision, the court found the installment sale reporting rules constituted a federal accounting method. See also DuBois v. Director of Div. of Taxation, 4 N.J. Tax 11, 23 (1981), aff'd 6 N.J. Tax 249 (1982), aff'd 95 N.J. 234 (1983) (holding with respect to N.J.S.A. 54A:8-3(c) and section 5-1c that by "directing that federal income tax accounting methods be applied, the Legislature has accepted all accounting methods recognized by the Code"). Walsh, Baldwin, and Guzzardi all contradict the Director's approach and give meaning to the section 5-1c provision that requires that the federal method of accounting should be used to calculate section 5-1c gain. The Director's interpretion fails to give any meaning to either the federal accounting method provision or the nonrecognition provision.
Furthermore, Koch's calculation of gain conforms to section 5-1c's directive to use the method of accounting allowed for federal income tax purposes to determine gain or loss for New Jersey gross income tax purposes. The federal method of accounting would require subtraction of Koch's cost basis for his partnership interest from the sale price. Under the federal method, losses not passed through would not reduce a partner's basis, and gain would be determined by computing the difference between a partner's cost basis (unreduced by partnership losses) and the proceeds received from the sale of the partnership interest. Walsh, supra, 10 N.J. Tax at 461. Accordingly, use of the method of accounting allowed for federal income tax purposes as directed by section 5-1c does not require the use of Koch's federal adjusted basis to compute his gain on the disposition of his partnership interest.
We reject several of the Director's other assertions. We disagree that Walsh is limited to Subchapter S corporations and not applicable to partnerships. Although the issue in Walsh arose in the context of Subchapter S corporations, the essence of Walsh, supra, 10 N.J. Tax 447 was to recognize that a taxpayer cannot be taxed on a return of capital. Despite section 5-1c's federal basis provision, Walsh required a taxpayer to reduce his basis only for those losses deductible by him. The issues in Walsh are identical to the issues presented in this appeal. Indeed, the Director has presented no cogent reasoning why the Walsh reasoning should not apply to a sale of a partnership interest. See Bello v. Commissioner of Revenue Service, No. 361968, 1 994 WL 151285, at *1 (Conn. Super. Ct., Tax Session, April 20, 1994). In Bello, the court applied Walsh where taxpayers variously owned shares in S corporations and partnership interests. Id. at *4. The taxpayers suffered losses over the years and the losses were passed through to them and their federal tax bases were reduced accordingly. Id. at *2. Thereafter, the taxpayers sold their partnership interests and stock in the Subchapter S corporations. Ibid. Relying on a Connecticut statute similar to section 5-1c, the taxpayers argued that their state tax basis should not have been reduced because they enjoyed no tax benefit from the passed-through losses. Ibid.
Based on the economic distortions identified in Walsh, the court held:
To achieve the result intended by the legislature, while federal adjusted basis is to be used to calculate net gains under the capital gains tax, to the extent that federal adjusted basis is decreased by passed-through losses of S corporations and partnerships that are not, at the time, deductible under Connecticut law, such decrease must be excluded from federal adjusted basis. This approach must be used in order to adjust for the difference in federal and Connecticut treatment of such losses.
But see Vasudev v. Director, Div. of Taxation,
13 N.J. Tax 223 (Tax Ct. 1993); Spinella v. Director, Div. of Taxation,
13 N.J. Tax 305 (Tax Ct. 1993) (distinguishing Walsh by concluding
that adjustment to basis was made in Walsh because Subchapter S
corporations were not recognized as matter of New Jersey law but
acknowledging that their cases involved sales of partnership
property, rather than sale of partnership interests, did not
involve returns of capital).
Similarly, we do not find that the Legislature's 1993
Subchapter S corporation legislation, L. 1993, c. 173, codified
at N.J.S.A. 54:10A-4 (the "1993 Legislation"), indicated that the
Legislature did not believe a Walsh-type adjustment was required
in the case of partnerships. The 1993 Legislation recognized
Subchapter S corporations and provided for their tax treatment.
Aside from the Legislature's express endorsement of Walsh in the
legislative history, see Assembly Appropriations Committee
Statement accompanying L. 1993, c. 173, codified at N.J.S.A.
54:10A-4, the 1993 legislation is of little relevance to this
matter. Because the purpose of the 1993 legislation was to
recognize Subchapter S corporations and the issue of basis
adjustments for partnership interests was not before the
Legislature or the courts at the time, there was no reason for
the Legislature to consider an adjustment to the basis of a
interest in a partnership.
We understand that there is presently pending in the
Legislature Senate Bill 71, which proposes that a taxpayer's
basis in a partnership interest shall be computed in a manner
similar to the computation of a taxpayer's basis in shares of a
Subchapter S corporation. Pending legislation, however, is of
little value in determining legislative intent. In re Adoption
of N.J.A.C. 5:25A-1.1,
266 N.J. Super. 625, 633 n.1 (App. Div.
1993); Pickett v. Lloyds,
252 N.J. Super. 477, 489 (App. Div.
1991), aff'd
131 N.J. 457 (1993); cf. Hammock v. Hoffman-LaRoche,
142 N.J. 356, 378 (1995) (placing little value on standard
proposed by legislation "not enacted into law").
Nor do we find that applying different adjusted bases will add great complexity to the calculations made under the Act in contravention of the Legislature's call for "simplicity" in tax computations. On this point, we agree with the Walsh court:
[I]n weighing this administrative convenience against the resulting imposition of income tax on the return of capital, a result obviously not intended by the Legislature, the former must yield to the latter with respect to the shareholder's disposition of stock of S corporations which have sustained losses. Further, the cost basis concept is not so sophisticated a concept that it cannot be determined by the taxpayer or audited by the Director using federal adjusted basis but excluding those decreases or increases due to S corporation losses or undistributed income.
Finally, we disagree with the Director that section 5-1c's nonrecognition rules "reflect Congress's determination not to treat certain transactions as taxable events" rather than incorporating federal income tax nonrecognition rules into the New Jersey statute. We agree with the Director that the Legislature did not intend to incorporate tax shelter provisions in the Act. However, there is no evidence that the Legislature intended to penalize a New Jersey taxpayer for investing in a tax shelter for federal income tax purposes. Koch is not requesting any special New Jersey tax treatment. He has gained no tax benefit under the Act and is not seeking one. He is requesting only that he be taxed on his actual economic gain and not on fictitious income. He seeks to be treated as the Legislature intended. That is, he correctly asserts that his return of capital should not be taxed.
In accordance with well-established rules of statutory construction, our interpretation of section 5-1c harmonizes its three basic concepts and effectuates the Legislature's plan that the return of capital not be taxed. Because we find under section 5-1c that an adjustment must be made to taxpayer's federal adjusted basis for New Jersey income tax purposes, we need not reach the applicability of the federal tax benefit rule.
The judgment of the Appellate Division is reversed.
CHIEF JUSTICE PORITZ and JUSTICES HANDLER, POLLOCK, O'HERN, STEIN and COLEMAN join in JUSTICE GARIBALDI's opinion.
NO. A-135 SEPTEMBER TERM 1997
ON APPEAL FROM
ON CERTIFICATION TO Appellate Division, Superior Court
SIDNEY KOCH and DOROTHY KOCH,
Plaintiffs-Appellants,
v.
DIRECTOR, DIVISION OF TAXATION,
Defendant-Respondent.
DECIDED January 14, 1999
Chief Justice Poritz PRESIDING
OPINION BY Justice Garibaldi
CONCURRING OPINION BY
DISSENTING OPINION BY
Footnote: 1 Dorothy Koch is a party to this action solely because she filed joint returns with her spouse, Sidney Koch ("taxpayer" or "Koch"). Footnote: 2 The difference between the balance in Koch's capital account as of December 31, 1987 ($136,895) and the date of the sale ($143,161) is attributable to $6,957 of disallowed losses and $691 of income allocated to Koch for 1988 ($136,895 - $6,957 + 691 = $143,161.)