IRS field advice memo - Sale of merchant contracts generates ordinary income, not capital gain 

May 14: The IRS has posted a “redacted” field advice memoranda* on the IRS website in which it was concluded that gain recognized by the taxpayer on the sale of merchants contracts constituted ordinary income, and not capital gain. 20131901F (release date May 10, 2013; dated April 5, 2013)

Read the field advice memo 20131901F [PDF 76 KB]

*Pursuant to section 6110(k)(3), written determinations such as field service advice represent the IRS’s analysis of the law as applied to a taxpayer’s specific facts, and they are not intended to be relied upon by third parties and may not be cited as precedent. They do, however, provide an indication of the IRS’s position on the issues addressed.


The taxpayer provided servicing and clearing operations to merchants. The taxpayer typically maintained a direct relationship with larger merchants.

The taxpayer sold part of its business relating to the direct relationship with merchants to third-party purchasers. The purchasers were in the business of consolidating servicing of transactions among multiple major providers.

The taxpayer’s sale of the merchant contracts resulted in significant taxable gains. The taxpayer originally reported these gains as ordinary income, but in amended returns, the taxpayer recharacterized the amounts as capital gain and cited the six factors in Foy v. Commissioner concerning the nature of the contract rights. The taxpayer asserted that any premium paid for the merchant contracts qualified as goodwill or going-concern value.

Field advice memo conclusions

The IRS field advice memo concludes that the gain on the sale of the merchant contracts constituted ordinary income—not capital gain. The memo notes that none of the section 1221 exclusions from the definition of a capital asset applied. Nevertheless, the author of the memo applied case law holding that claims or rights to ordinary income, although they may constitute “property,” are not capital assets.

With respect to the application of the Foy v. Commissioner six factors, the memo notes that:

  • The facts were unclear as to how the merchant contracts either originated or were acquired by the taxpayer.
  • The contract rights did not represent an equitable interest in property that itself is a capital asset; rather, the contract rights represented the right to receive ordinary income from the performance of the servicing and clearing operations.
  • No significant investment risks were identified with respect to the merchant contracts, and the contract rights in the merchant agreements represented compensation for personal services.

The IRS field advice memo concludes with an opinion that the factors listed in Foy support a conclusion that the gain on the sale of the merchant contracts constitutes ordinary income, not capital gain.

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