than a corporation may, if he so desires, state separately in his return his net gain on sales or exchanges of capital assets, and pay on such capital net gain (as defined and limited in the section) a flat tax of 123 per cent in lieu of the tax he would otherwise pay on such income under sections 210 and 211. The tax upon his net income from other sources, termed "ordinary net income " in this section, is to be computed at the rates and in the manner provided in sections 210 and 211. The total tax will be the sum of the tax upon the ordinary net income plus 123 per cent of the capital net gain.

The term "capital assets" is defined to mean property held by the taxpayer for more than two years, whether or not connected with his trade or business, but not including stock in trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or property held by the taxpayer primarily for sale in the course of his trade or business. (See articles 1611-1618 with reference to inventories.) The specific property sold or exchanged must in general have been held for more than two years. However, if the taxpayer has held for more than two years stock upon which a stock dividend has been declared, both the original and the dividend shares are considered to be capital assets. Likewise, if property is exchanged for other property and no gain or loss is recognized under the provisions of section 203, and if the total period during which the original property and the property received in exchange have been held by the taxpayer is more than two years, the property received in exchange is considered to be capital assets.

66

"Capital gain" is taxable gain from the sale or exchange of capital assets. "Capital loss" is deductible loss resulting from the sale or exchange of capital assets. (See article 1591, for the basis for determining such gain or loss, and article 1561 as to adjustments for improvements and depreciation thereon.) Capital deductions" are deductions properly allocable to or chargeable against capital assets sold during the taxable year, including items of expense connected with the sale or exchange of a capital asset, such as commissions paid brokers or agents. 66 Capital net gain" is the excess of the total amount of capital gain over the sum of (1) capital deductions and capital losses, and (2) the amount, if any, by which the ordinary deductions exceed the gross income computed without including capital gain..

Residential property is included within the definition of capital assets; hence, a taxpayer (other than a corporation) selling such property at a profit may elect to be taxed under section 208. A loss from the sale of such property is not a " capital loss," however, unless

the property was purchased or constructed by the taxpayer with a view to its subsequent sale for pecuniary profit. See section 208(a) (2) and article 141.

Example.—A in 1924 sold (1) an office building for $1,000,000, which he had bought in 1915 for $500,000 and on which there was depreciation aggregating $100,000; and (2) stock in a mining company for $10,000 which he had purchased in 1919 for $20,000. Without regard to capital deductions (such as commissions paid on these sales) his capital gain would be $600,000, his capital loss $10,000, and his capital net gain $590,000. If his other net income (ordinary net income) in 1924 was $50,000, he may, instead of paying normal tax and surtax on his total net income of $640,000, segregate these capital transactions in his return and pay a tax on his capital net gain of $590,000 plus the normal tax and surtax upon his ordinary net income of $50,000. If, on the other hand, A sustained a net loss of $50,000 in his business, had a capital gain of $600,000, and a capital loss of $10,000, his capital net gain would be $540,000. In such a case, A may, instead of paying normal tax and surtax upon his total net income of $540,000, pay a tax of 12 per cent upon this

amount.

(b) The credit for taxes allowed by section 222 (see articles 381387) is a credit against the total tax, however computed, but the credits allowed by section 216 are allowed "for the purpose of the normal tax only " and may not be taken against capital net gain although they may be deducted from "ordinary net income" in computing the amount of the tax. The credit allowed by section 209 in respect of earned income may be taken against the tax computed under the capital gain section.

Example.-If B, a married person, had capital net gain of $60,000 and ordinary net income of $2,000, his $2,500 personal exemption would more than offset his ordinary net income, but he may not apply any part of it to reduce his capital net gain.

(c) A nonresident individual or a citizen entitled to the benefits of section 262 may elect to be taxed under section 208 with respect to sales or exchanges of property within the United States.

ART. 1652. Returns of capital net gain.-Segregation of capital transactions for the purposes of section 208 (b) is required only where the taxpayer elects to be taxed under that subdivision. Where his total income tax for any taxable year does not exceed 123 per cent of his net income he will not elect to be so taxed for that year. See article 1651. When a taxpayer elects to be taxed under this section for any taxable year, he must attach to his return of income for such year an accurate statement under oath showing all items of capital gain,

capital loss, and capital deductions in such manner as will clearly show the exact amount of his capital net gain for the taxable year. Each capital transaction must be separately shown and the capital items with respect thereto grouped together in order that the capital gain derived or the capital loss sustained from each capital transaction will readily appear. In the case of sales or exchanges of securities or any other property, the statement must show how long the property was held by the taxpayer immediately preceding the sale or exchange.

ART. 1653. Partnerships, estates and trusts.-Members of a partnership may, with respect to any capital net gain, elect to be taxed as provided in section 208. Similarly, estates or trusts or the beneficiaries thereof may elect to be taxed as provided in section 208 with respect to any capital net gain. Where the net income of a partnership, estate or trust consists in whole or in part of capital net gain, there shall be attached to the return (upon the request of any member or beneficiary, or without such request, at the election of the fiduciary of an estate) a statement showing (1) all items of capital gain, capital loss, and capital deductions, as provided in article 1652, and (2) the names of members or beneficiaries and the amounts of their respective shares in such capital net gain, or capital net loss.

ART. 1654. Capital net losses.-Subdivision (c) of section 208 provides for the determination of the tax in the case of any taxpayer (other than a corporation, but including the members of a partnership, an estate or trust, or the beneficiaries thereof) who in any taxable year sustains a capital net loss. A "capital net loss" is the excess of the sum of the capital losses plus the capital deductions as defined in article 1651, over the total amount of capital gain, as therein defined. It is to be noted that, although the tax provided in subdivision (b) of section 208 in the case of a capital net gain is to be imposed at the election of the taxpayer, the limitation upon the deduction of a capital net loss provided in subdivision (c) will be applied irrespective of the taxpayer's election.

In the case of any taxpayer, other than a corporation, who sustains a capital net loss for any taxable year, a tax determined as follows will be levied, collected and paid in lieu of the normal tax and the surtax provided in sections 210 and 211: A partial tax will first be computed upon the basis of the ordinary net income, as defined in article 1651, at the rates and in the manner provided in sections 210 and 211, and the total tax will be this amount minus 12 per cent of the capital net loss, but in no case shall the tax under this article be less than the taxes imposed by sections 210 and 211 computed without regard to the provisions of this article.

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EARNED INCOME

SEC. 209. (a) For the purposes of this section

(1) The term "earned income" means wages, salaries, professional fees, and other amounts received as compensation for personal services actually rendered, but does not include that part of the compensation derived by the taxpayer for personal services rendered by him to a corporation which represents a distribution of earnings or profits rather than a reasonable allowance as compensation for the personal services actually rendered. In the case of a taxpayer engaged in a trade or business in which both personal services and capital are material income producing factors, a reasonable allowance as conpensation for the personal services actually rendered by the taxpayer, not in excess of 20 per centum of his share of the net profits of such trade or business, shall be considered as earned income.

(2) The term “earned income deductions" means such deductions as are allowed by section 214 for the purpose of computing net income, and are properly allocable to or chargeable against earned income.

(3) The term "earned net income" means the excess of the amount of the earned income over the sum of the earned income deductions. If the taxpayer's net income is not more than $5,000, his entire net income shall be considered to be earned net income, and if his net income is more than $5,000, his earned net income shall not be considered to be less than $5,000. case shall the earned net income be considered to be more than $10,000.

In no

(b) In the case of an individual the tax shall, in addition to the credits provided in section 222, be credited with 25 per centum of the amount of tax which would be payable if his earned net income constituted his entire net income; but in no case shall the credit allowed under this subdivision exceed 25 per centum of his tax under section 210.

(e) In the case of the members of a partnership the proper part of each share of the net income which consists of earned income shall be determined under rules and regulations to be prescribed by the Commissioner with the approval of the Secretary and shall be separately shown in the return of the partnership and shall be taxed to the member as provided in section 218.

ART. 1661. Earned income.---Under the provisions of section 209 of the Act, provision is made for an additional credit based upon the amount of the taxpayer's earned net income, with certain limitations. It is provided that in the ease of an individual, the tax shall, in addition to the credits provided in section 222 (see articles 381-387) be credited with 25 per cent of the amount of the tax which would be payable if his earned net income constituted his entire net income. In no case, however, shall this credit exceed 25 per cent of his tax under section 210, as it might, for example, because of an excess of deductions and losses not related to earned income over gross income received from other sources. The earned income credit will be allowed to the members of a partnership with respect to the share of the net income belonging to each which consists of earned income. There must be included in the return of the partnership a statement showing (1) the amount of earned income as defined in article 1662, and (2) the names of the members and the amounts of their respective shares of earned income. See article 412.

ART. 1662. Definitions and limitations.-The term "earned income " means wages, salaries, professional fees, and other amounts received as compensation for personal services actually rendered. In the case of a taxpayer engaged in a trade or business in which both personal services and capital are material income-producing factors, a reasonable allowance in compensation for the personal services actually rendered by the taxpayer shall be considered as earned income, but the total amount which shall be treated as the earned income of the taxpayer from such a trade or business shall, in no case, exceed 20 per cent of his share of the net profits of such trade or business. See article 106, as to what constitutes compensation for personal services. The term does not include that part of any compensation received by the taxpayer for personal services rendered by him to a corporation, which represents a distribution of earnings or profits rather than a reasonable allowance as compensation for the personal services actually rendered. No general rule can be laid down defining the trades or businesses in which personal services and capital are material income-producing factors, but this question must be determined with respect to the facts of the individual cases.

The term "earned income deductions" means deductions which are properly allocable to or chargeable against earned income and which are allowed by section 214 for the purpose of computing net income. The term "earned net income" means the excess of the amount of the earned income over the sum of the earned income deductions. In no case will the earned net income be considered to be more than $10,000. If the taxpayer's net income is not more than $5,000, his entire net income shall be considered to be earned net income, and if his net income is more than $5,000, his earned net income shall not be considered to be less than $5,000.

RULES AND REGULATIONS

SEC. 1001. The Commissioner, with the approval of the Secretary, is authorized to prescribe all needful rules and regulations for the enforcement of this Act.

ART. 1700. Promulgation of regulations.—In pursuance of the statute the foregoing regulations are hereby made and promulgated. All rulings inconsistent herewith are hereby revoked.

Approved October 6, 1924.

A. W. MELLON,

D. H. BLAIR,

Commissioner of Internal Revenue.

Secretary of the Treasury.