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I. Introduction ............................................................................... 538
A. Summary Conclusions .............................................................. 538
B. Nomenclature - Sales and Exchanges ......................................... 540
C. The Negative Connotations of Circularity ................................... 541
D. The Positive Roles of Circularity. ................................................ 543
E. Substitution of Setoffs for Circular Cash Flows ......................... 544
F Substitution of Circular Flows for Setoffs .................................... 546
G. The Natural Guardian Against Uneconomic Circular Flows ..... 547
II. The Right Way to Analyze Circular Cash Flows .......................... 548
A. Cluster Rules ............................................................................ 548
B. Degree of Integration ............................................................... 550
III. Federal Income Tax Treatment of Payments Generated by Different Relationships ............................................................... 551
A. Running Mutual Accounts ............................................................ 551
1. Income and Deductions ...................................................... 551
2. Related Party Mutual Accounts - Sweeps and the Group Banker. ................................................................... 554
B. Episodic Setoffs by Consent ...................................................... 557
C. Nonconsensual Setoffs .............................................................. 558
D. Separate Obligation Circular Flows of Cash .............................. 558
IV Rules and Facts that Commonly Appear in Circular Cash Flow Cases ........................................................................................... 559
A. The Normal Accounting Rules: Annual Accounting, Claim of Right, Tax Benefit, Arrowsmith ................................................. 559
1. General Rules .................................................................... 559
2. Same- Year Payments .......................................................... 559
B. TheTax Rescission Doctrine ..................................................... 562
1. Origin ............................................................................... 563
2. Revenue Ruling 1980-58 ................................................... 563
a. Mutuality or Compulsion .......................................... 565
b. Parties Must Be Returned to the Status Quo Ante ...... 566
c. Rescission Must Occur Within Same Taxable Year as Original Transaction ................................................ 567
C. Contract Interpretation ................................................................. 567
1. Lazarus: Facts and Ruling .................................................. 567
2. Analysis of the Court's Reasoning in Lazarus ..................... 568
3- Role of Parties' Intent in Contract Interpretation ............... 569
4. Code Interpretation ........................................................... 570
D. Fraud ........................................................................................ 571
E. Related Parties .......................................................................... 573
E Excess of Fair Value ..................................................................... 573
G. Failure to Document ................................................................ 573
H. Transitoriness .............................................................................. 574
I. Allowing Taxpayer to Ignore Circular Flow ............................... 576
J. The Economic Substance Doctrine Cases .................................... 577
V. The Single Taxpayer Cluster ........................................................ 577
A. Agents ....................................................................................................... 577
B. Conduits ......................................................................................... 579
C. Fiduciaries ................................................................................... 581
D. Disregarded Entities .............................................................................. 581
VI. The Reversed Payments Cluster ....................................................... 582
A. Borrowing ....................................................................................... 582
1. Mischaracterized Loans ....................................................... 582
2. Knetsch ................................................................................. 585
3- Mischaracterized Parties to Loans ...................................... 588
4. Novel Extensions of Loans .................................................. 589
5. Borrowing to Pay Interest .................................................. 590