Hort v. Commissioner
313 U.S. 28 (1941)

  • Hort owned an office building that was being leased by Irving Trust. They had a fifteen-year lease, but decided to close that office. By mutual agreement, they paid Hort $140k to break the lease.
    • Hort calculated the difference between the present value of the future unpaid rent and the $140k, and figured that he had lost $21.4k.
  • When he filed his taxes, Hort claimed a loss of $21.4k. The IRS disagreed.
    • The IRS argued that the $140k must be included in Hort's adjusted gross income. The IRS argued that this was effectively a rental payment, and rental payments are ordinary income.
    • Hort argued that he could offset the lost value of the canceled lease against the consideration received by him for the cancellation.
      • Hort argued that he was not in the trade or business of making money by breaking leases.
  • The Tax Court found for the IRS. Hort appealed.
  • The Appellate Court affirmed. Hort appealed.
  • The US Supreme Court affirmed.
    • The US Supreme Court looked to the relevant part of the tax code (then 26 U.S.C. 22(a), now 61(a)), and found that rent was explicitly included in the things that are gross income.
    • The Court found that the $140k was just a substitute for the rent Hort would have received. Therefore it too should be considered gross income.
    • The Court found that the failure to realize income does not amount to a loss.
      • For example, if you are trying to rent a building and you can't find a renter, you can't deduct the rent payments you didn't get as a loss.
        • If you could, then you could just buy an apartment, advertise it for a million dollars a month, find no renters, and then claim a million dollar loss!
  • One could have also argued that there was no asset that survived the sale, therefore Hort had not exchanged an asset and therefore could not claim a capital gain on the sale.
    • See Pounds v. United States (372 F.2d 342 (1967)).
  • Basically, this case said that future rental income is not a capital asset, and when you give it up (by breaking a lease), you have not sold a capital asset.
    • For comparison see, Metropolitan Bldg. Co. v. Commissioner (282 F.2d 592 (1960). In that case Metropolitan was a tenant who sold their lease to a third party. Since Metropolitan had a property interest in the lease, and sold that interest, they had indeed sold a capital asset and could count the sale as a capital gain.