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This factor favors respondent.
2. Potential Conflicts of Interest: Ability To Disguise
Dividends as Salary, Particularly If the Employee Is
the Sole or Majority Shareholder, or If a Large
Percentage of the Compensation Is Paid as a Bonus
The ability to disguise dividends as salary, particularly if
the employee is the sole or majority shareholder, or if a large
percentage of the compensation is paid as a bonus, may suggest
that compensation is not reasonable. See Rapco, Inc. v.
Commissioner, 85 F.3d at 954. Payment of bonuses at the end of a
tax year when a corporation knows its revenue for the year may
enable it to disguise dividends as compensation. See Owensby &
Kritikos, Inc. v. Commissioner, 819 F.2d at 1329; Estate of
Wallace v. Commissioner, 95 T.C. 525, 555-556 (1990), affd. 965
F.2d 1038 (11th Cir. 1992).
a. Ability To Disguise Dividends Paid to Isidore
Klein as Compensation
Isidore Klein set his own salary in 1993 and 1994. Isidore
Klein and petitioner did not deal at arm's length in those years
because he was the controlling shareholder and chairman of the
board of directors. See Estate of Wallace v. Commissioner, supra
at 556; cf. Mayson Manufacturing Co. v. Commissioner, 178 F.2d
115, 121 (6th Cir. 1949) (bonus plan established by board of
directors for minority shareholders was an arm's-length
transaction).
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