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also alleges that the covenant has significant economic value, is
supported by consideration, and is enforceable under California
covenant law.
We conclude that a portion of the consideration paid can
properly be allocated to the promise made by petitioners. The
intentions of the parties involved in the transaction and the
economic reality of petitioners’ agreement support such an
allocation. Hence, petitioners must be deemed to have earned
income by agreeing not to compete and to have anticipatorily
assigned such income to the trust. They therefore are required
to recognize taxable income, to the extent of the value of the
covenant, in connection with the sale of Little Rascals.
Deficiency Issue
General Rules
As a general rule, section 61 defines gross income as “all
income from whatever source derived”. Case law then specifies
that consideration paid for a covenant not to compete is included
within this broad definition. See, e.g., Sonnleitner v.
Commissioner, 598 F.2d 464, 466 (5th Cir. 1979), affg. T.C. Memo.
1976-249; Montesi v. Commissioner, 340 F.2d 97, 100 (6th Cir.
1965), affg. 40 T.C. 511 (1963). A charitable remainder
unitrust, however, is not subject to income tax by reason of
section 664(c) unless it has unrelated business income, which is
not the case here.
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