## Facts

- Sanford & Brooks Co., a dredging contractor, performed federal dredging work between 1913 and 1915 under a government contract.
- For tax years 1913–1916, it reported on the cash method, treating contract payments received each year as gross income and that year’s performance costs as deductions.
- Across the contract operations as previously reported, total expenses exceeded total receipts by $176,271.88; some years showed net losses and one year showed net income.
- After abandoning the work, the contractor sued the United States for breach of warranty regarding dredged material; it obtained a judgment characterized as compensating the cost of work the government benefited from.
- In 1920, the contractor received $192,577.59, consisting of $176,271.88 (matching the prior excess of expenses over receipts) plus $16,305.71 in interest.
- The contractor excluded both amounts from its 1920 return; the Commissioner included them in 1920 gross income and assessed a deficiency.
- The taxpayer had not elected accrual accounting and had not used regulatory long-term contract methods that could allocate profit or loss differently across years.

## Issues

1. Whether, under the Revenue Act of 1918, the 1920 receipt (reimbursing prior contract losses) and interest constituted gross income taxable in 1920.
2. Whether a court may avoid 1920 taxation by effectively reallocating the transaction across earlier years, including by requiring amended returns for prior years to remove previously claimed deductions.

## Decision

- The Supreme Court unanimously reversed the court of appeals and reinstated the deficiency.
- The Court held that the entire 1920 recovery, including the principal amount and interest, was includible in gross income for 1920.
- The Court rejected the approach that would exclude the principal from 1920 income conditioned on amended returns for 1913–1916 omitting related deductions.
- The Court reaffirmed that federal income taxation proceeds on annual accounting periods as a practical and constitutionally permissible method.

## Legal Principles

- Federal income tax is computed on an annual basis; net income for a taxable year generally equals that year’s gross income minus that year’s allowable deductions.
- Receipts from the conduct of a business are includible in gross income in the year received (or accrued under the taxpayer’s accounting method), even if the overall multi-year undertaking yields no net profit.
- Absent specific statutory authorization (e.g., loss carryover provisions or permitted accounting methods), losses from earlier years cannot be used to reduce taxable income in a later year by retroactively revising closed periods.
- A taxpayer cannot recharacterize a later recovery as non-income solely because it corresponds to amounts previously deducted as expenses under the taxpayer’s chosen annual reporting method.
- The annual net-income system is consistent with the Sixteenth Amendment.

## Conclusion

The Court held that a 1920 judgment recovery reimbursing prior contract losses, plus interest, was taxable in 1920 because the income tax system measures net income by annual accounting periods and does not permit retroactive recomputation of prior years to match the overall net outcome of a multi-year transaction.


Burnet v. Sanford & Brooks Co., 282 U.S. 359 (1931)