- 33 -
petitioners were neither prejudiced nor surprised by respondent’s
argument.
B. Reasonableness of the Amount of Compensation
1. The Independent Investor Test
Under section 162(a)(1) the first prong of the test for the
deductibility of compensation requires that the amount of
compensation be reasonable. Petitioners and respondent agree
that the independent investor test of Exacto Spring Corp. v.
Commissioner, 196 F.3d 833 (7th Cir. 1999), revg. Heitz v.
Commissioner, T.C. Memo. 1998-220, applies to our analysis of
reasonableness. See Golsen v. Commissioner, 54 T.C. 742, 757
(1970) (holding that we must “follow a Court of Appeals decision
which is squarely in point where appeal from our decision lies to
that Court of Appeals and to that court alone”), affd. 445 F.2d
985 (10th Cir. 1971).
In Exacto Spring Corp. the Court of Appeals for the Seventh
Circuit rejected the multifactor test used by this Court and
several Courts of Appeals33 to decide whether compensation is
reasonable, and, in its place, adopted the independent investor
33See, e.g., RAPCO, Inc. v. Commissioner, 85 F.3d 950 (2d
Cir. 1996), affg. T.C. Memo. 1995-128; Owensby & Kritikos, Inc.
v. Commissioner, 819 F.2d 1315 (5th Cir. 1987), affg. T.C. Memo.
1985-267; Elliotts, Inc. v. Commissioner, 716 F.2d 1241 (9th Cir.
1983), revg. and remanding T.C. Memo. 1980-282; Pepsi-Cola
Bottling Co. v. Commissioner, 528 F.2d 176 (10th Cir. 1975),
affg. 61 T.C. 564 (1974); Mayson Manufacturing Co. v.
Commissioner, 178 F.2d 115 (6th Cir. 1949), affg. a Memorandum
Opinion of this Court.
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