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$1 million compensation to a sole shareholder found reasonable.

The Tax Court allowed a corporate deduction for the entire compensation paid to the sole shareholder of a corporation - an annual amount exceeding $1.5 million.

The corporation owned and managed three automobile dealerships and compensated the shareholder-manager with a base salary plus bonus based on the dealerships' pretax profits.

In reaching its decision, the court noted that during the three years under audit, the dealerships' financial performance had improved dramatically - with sales up over 350% and net aftertax income up over 750%. Despite the lack of dividend payments, the court found the exceptional return on shareholder equity suggested the compensation arrangement would have satisfied a hypothetical unrelated investor (Automotive Investment Development, Inc. v. Commissioner, TC memo 1993-298).

Observation: The fact that other unrelated employees also were compensated using a profit-based formula was a factory in the court's decision. Moreover, the bonus formula the corporation used for its shareholder-manager was found to be consistent with compensatory arrangements in the auto dealership industry.
COPYRIGHT 1993 American Institute of CPA's
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Article Details
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Publication:Journal of Accountancy
Article Type:Brief Article
Date:Oct 1, 1993
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