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In contrast, an allocation of price to the covenant entered
by the trust would lack economic reality. As an officer of the
bank testified, the bank lacked the expertise and credentials to
open a competing child care center. Moreover, such a move would
likely be otherwise precluded by the bank’s fiduciary duties as
trustee, thus making the agreement superfluous. Finally, no
facts indicate that the Shahs placed significance on or
separately bargained for a promise from the trust.
Therefore, of the two potential covenants to which
consideration could be allocated, it appears that only an
apportionment to petitioners’ agreement would have a basis in
economic reality. It is also to be noted that whether an
agreement is enforceable under State law is not necessarily
determinative of tax consequences when the record shows that the
buyer in fact bargained and paid for a covenant. See Standard
Lumber & Hardware Co. v. Commissioner, T.C. Memo. 1958-159. When
faced with a situation where the Commissioner attempted to
disallow a buyer’s deductions taken for payments attributed to a
covenant not to compete, on grounds that the covenant would be
void under State law, this Court responded:
The Commissioner argues that an oral agreement not
to compete for 5 years would be void in Colorado. The
Commissioner cites no authority for his contention that
the deduction would not be allowable if the agreement
could not be enforced. * * * The fact is that a large
sum was actually paid on this arm’s-length agreement
and the evidence indicates that the agreement was
carried out. [Id.]
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