## Facts

- George and Angeline Lattera won the Pennsylvania Lottery in 1991 and were entitled to 26 annual installment payments of $369,051 because no lump-sum option was available.
- By 1999, 17 installment payments remained.
- Pennsylvania law required court approval to assign future lottery payments; the Latteras obtained approval in August 1999.
- In September 1999, the Latteras sold their rights to the remaining 17 payments to Singer Asset Finance Co., LLC for $3,372,342.
- On their joint federal income tax return, they reported the transaction as the sale of a capital asset held more than one year, claimed zero basis, and treated the entire $3,372,342 as long-term capital gain.
- The IRS determined the proceeds were ordinary income and issued a notice of deficiency for $660,784.
- The parties agreed that the underlying annual lottery installment payments, if received as scheduled, would be ordinary income (gambling winnings).

## Issues

1. Whether the lump-sum consideration received for selling rights to future lottery installment payments is capital gain from the sale of a capital asset or ordinary income.
2. Whether the substitute-for-ordinary-income doctrine applies to a sale of a right consisting solely of future payments that would have been ordinary income.

## Decision

- The Third Circuit affirmed the Tax Court’s decision for the Commissioner.
- The court held the $3,372,342 lump-sum payment was ordinary income.
- The court reasoned the transaction functioned as an acceleration of ordinary-income lottery winnings, not the disposition of an underlying capital asset.

## Legal Principles

- Lump-sum consideration received as a substitute for amounts that would otherwise be received in the future as ordinary income is taxed as ordinary income (substitute-for-ordinary-income doctrine).
- A transfer that sells only a right to receive future ordinary income, without an underlying capital interest or investment producing a distinct capital asset, does not convert the character of that income into capital gain.
- Capital-gain treatment generally requires the sale of a capital asset with a character separate from a mere claim to ordinary income.

## Conclusion

The proceeds from selling the right to future lottery installments were taxed as ordinary income because the lump sum replaced a stream of conceded ordinary-income payments, and the transaction did not involve the sale of a distinct capital asset.


Lattera v. Comm’r, 437 F.3d 399 (3d Cir. 2006)