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1. * * * In exchange for the dismissal of *
* * [the] lawsuit, * * * Blount will pay to LeFleur the
sum of One Million Dollars ($1,000,000) * * *. This
$1,000,000 sum will be payable within five days after
the dismissal of that lawsuit. Blount agrees to pay
LeFleur such sum for the following claims asserted by
the plaintiff:
A. the sum of $0.00 for the amounts claimed
by LeFleur under the April 6, 1989 letter;
B. the sum of $200,000 for the commissions
due LeFleur under the April 27, 1989, letter plus any
future payments due LeFleur under said April 27, 1989,
letter * * *;
C. the sum of $800,000 for LeFleur's tort
claims on account of personal injuries and compensatory
damages, including mental pain and suffering;
D. the sum of $0.00 for punitive damages.
Petitioners filed their 1991 Form 1040, U.S. Individual
Income Tax Return, on October 14, 1992. Petitioners excluded
from gross income $800,000 of the $1 million lump-sum settlement
and reported on Form 8275, Disclosure Statement, attached to
their return that this amount was exempt income under section
104(a)(2). Petitioners included in gross income the $200,000
allocated to the contract claim on Schedule C attached to their
return. Petitioner's occupation was listed as "Commission
salesman" on Schedule C. On line 17 of Schedule C, petitioners
deducted $173,542, the entire amount of litigation fees and costs
incurred in bringing and settling the suit against the
defendants.
On October 12, 1995, respondent issued a statutory notice of
deficiency setting forth alternative positions. As relevant
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