- 6 -
Respondent issued the notice of deficiency on March 8, 2002.
Petitioner timely filed its petition on May 13, 2002, and filed
an amended petition on August 19, 2002.
OPINION
I. Reasonable Compensation
Petitioner contends the $509,000 paid to Mr. Reeves
constituted reasonable compensation under section 162(a)(1)
during its FYE May 31, 1996.
Respondent contends petitioner is entitled to deduct only
$100,000 as compensation under section 162(a)(1) with the
remaining $409,000 constituting a nondeductible dividend.
Section 162(a)(1) permits a taxpayer to deduct “a reasonable
allowance for salaries or other compensation for personal
services actually rendered”. A taxpayer is entitled to a
deduction for compensation only if the payments were reasonable
in amount and in fact paid purely for services. Sec. 1.162-7(a),
Income Tax Regs.10 Although framed as a two-prong test, the
inquiry under section 162(a)(1) generally turns on whether the
amounts of the purported compensation payments were reasonable.
Elliotts, Inc. v. Commissioner, 716 F.2d 1241, 1245 (9th Cir.
1983), revg. T.C. Memo. 1980-282.
10 Respondent argues only that the amount of compensation
was unreasonable.
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