## Facts

- Raytheon’s predecessor manufactured a rectifying tube used in radios and had substantial profits in the mid-1920s.
- RCA developed a competing tube and used licensing restrictions requiring manufacturers operating under RCA licenses to purchase tubes from RCA, leaving Raytheon with dwindling replacement sales.
- Raytheon sued RCA under federal antitrust laws, alleging RCA’s conduct destroyed Raytheon’s business and goodwill and seeking more than $3,000,000 in damages.
- While the antitrust case was pending, RCA obtained a $410,000 judgment against Raytheon for unpaid royalties under prior licensing arrangements.
- The parties executed a global settlement in which RCA paid Raytheon $410,000 and received patent and sublicensing rights covering approximately thirty patents.
- The written settlement did not allocate the $410,000 between (i) settlement of the antitrust claim and (ii) consideration for the patent and sublicensing rights.
- Raytheon reported $60,000 as income from patent licenses and treated the remaining $350,000 as a nontaxable return of capital for destruction of business and goodwill.
- The Commissioner determined the $350,000 was taxable because there was insufficient evidence to allocate the payment and to establish any basis in the allegedly destroyed goodwill.

## Issues

1. Whether the settlement amount received on compromise of an antitrust claim was taxable income or a nontaxable return of capital, depending on what the payment was received “in lieu of.”
2. If the recovery was for destruction of goodwill (a capital asset), whether Raytheon proved (a) an allocation between payment for the antitrust claim and payment for patent rights and (b) the cost basis of the destroyed goodwill to determine the nontaxable portion.

## Decision

- The First Circuit affirmed the Tax Court’s decision sustaining the deficiency.
- The court treated Raytheon’s antitrust recovery, in substance, as compensation for destruction of business goodwill rather than as replacement of lost profits.
- Even when damages compensate for destruction of a capital asset, only the portion up to the taxpayer’s basis is a tax-free return of capital; any excess is taxable.
- Raytheon failed to prove any ascertainable basis in the destroyed goodwill, so the basis was treated as zero for purposes of computing the taxable amount.
- Raytheon also failed to provide a reliable basis to allocate the lump-sum settlement between damages and consideration for patent and sublicensing rights; given Raytheon’s own reporting of $60,000 as license income, the remaining $350,000 was includible in gross income.

## Legal Principles

- The tax character of litigation recoveries turns on the question: “In lieu of what were the damages awarded?”
- Recoveries substituting for lost profits are taxable as income.
- Goodwill is a capital asset; damages for its destruction are a return of capital only to the extent of the taxpayer’s unrecovered basis in that goodwill.
- Amounts received in excess of basis represent realized gain and are includible in gross income.
- The taxpayer bears the burden to prove (i) allocation of an unallocated lump-sum settlement among multiple components and (ii) the cost or other basis of goodwill; failure of proof can result in taxation of the full amount (or the unproven portion) as income.

## Conclusion

The court held that although the settlement was best viewed as compensation for destruction of goodwill, Raytheon could exclude none of the disputed amount because it failed to establish any basis in the goodwill and failed to substantiate an allocation of the lump-sum payment; accordingly, the $350,000 was taxable income.


Raytheon Prod. Corp. v. Comm’r, 144 F.2d 110 (1st Cir. 1944)