Brian L. and Carole J. Nahey - Page 1

                                   111 T.C. No. 13                                    

                               UNITED STATES TAX COURT                                

                    BRIAN L. AND CAROLE J. NAHEY, Petitioners v.                      
                    COMMISSIONER OF INTERNAL REVENUE, Respondent                      

               Docket No. 8497-96.                  Filed October 21, 1998.           

                    W, a corporation, sued X for breach of contract and               
               misrepresentation for failing to complete the                          
               installation of a computer system and sought damages for               
               lost profits.  X counterclaimed for withheld payments by               
                    In 1986, P, through his two S corporations, acquired              
               all of the assets and assumed all of the liabilities of                
               W, including W's lawsuit against X and X's counterclaim                
               against W.  W was thereafter liquidated.  No part of the               
               purchase price for W's assets was allocated to the claim               
               against X.                                                             
                    In 1992, the lawsuit with X was settled for total                 
               consideration of $6,345,183.  The settlement proceeds                  
               were paid to the S corporations and reported as long-term              
               capital gain that passed through to P.  R determined that              
               the settlement proceeds constituted ordinary income.  P                
               asserts that the lawsuit constituted a capital asset and               

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