Last week, we blogged the Third Circuit’s decision in Lattera v. Commissioner, No. 04-4721 (3d Cir. 2/14/06), which affirmed the Tax Court’s [T.C. Memo. 2004-216] ruling that a lottery winner must report ordinary income, rather than capital gain, on the sale of the right to the future payments.  This morning’s law.com has an article about the case, Lottery Winners Lose Tax Appeal Before 3rd Circuit, by Shannon P. Duffy:

In Lattera v. Commissioner, the 3rd Circuit became the second federal appellate court to agree with the IRS’ application of the "substitute-for-ordinary-income doctrine" in such cases. But in doing so, the 3rd Circuit’s unanimous three-judge panel said it recognized that the 2004 decision by the 9th Circuit in United States v. Maginnis "has drawn significant criticism" from commentators.

"While we agree with Maginnis’ result, we do not simply adopt its reasoning," Judge Thomas L. Ambro wrote. Instead, the 3rd Circuit fashioned its own test for deciding whether the conversion of income rights into lump-sum payments reflects the sale of a capital asset that produces a capital gain, or whether it produces ordinary income. But in the end, the 3rd Circuit reached the same result — that a lottery winner’s acceptance of a lump sum in return for the rights to future payments cannot be deemed a capital gain. For George and Angeline Lattera, the ruling is a costly one because it upholds the IRS’ assessment of a tax deficiency of more than $660,000.