In Uncategorized on 03/26/2013 at 01:40

Just Not That Special

 That’s the story of the Lipsmeyers, John K., wife Melissa and brother David, and daughter Jennifer, told by Judge Cohen in K & K Veterinary Supply, Inc., 2013 T.C. Memo. 84, filed 3/25/13. K & K is a C corp.

The Lipsmeyers toiled in the family business, which K & K was, along with 85 or so employees; the family ran “…a wholesale distributor of animal health products for large animals, swine, sheep, goats, and horses; lawn and garden products; farm hardware; pet supplies; and products for farm stores and related dealers. Petitioner sold roughly 17,000 to 19,000 different products and had between 550 and 600 vendors.” 2013 T. C. Memo. 84, at p. 2.

John K. alone, as sole shareholder of K &K  decided everybody’s compensation, from the family down to the newest employee. John K. was generous; out of a gross profit of $9 million, taxable income about $100K. The expenses were the family’s salaries and rental of properties owned by John K. and brother David.

IRS claimed John K. overcompensated the family.

First comes the battle of the experts, and IRS’ expert wins because he used better data.

Judge Cohen: “Courts have considered various factors in assessing the reasonableness of compensation, such as: employee qualifications; the nature, extent, and scope of the employee’s work; the size and complexity of the business; prevailing general economic conditions; the employee’s compensation as a percentage of gross and net income; the employee shareholders’ compensation compared with distributions to shareholders; the employee-shareholders’ compensation compared with that paid to non-shareholder-employees; prevailing rates of compensation for comparable positions in comparable concerns; and comparison of compensation paid to a particular shareholder-employee in previous years where the corporation has a limited number of officers. No single factor is dispositive.” 2013 T. C. Memo. 84, at pp. 9-10. (Citations omitted).

But where the employee handing out the money is also the sole shareholder, the courts look more closely, because of the lack of bargaining.

Now John K. started the company and was essential, but not essential enough to be worth what he paid himself; and so was brother David. K & K was a big and profitable company, but it paid $30K in dividends when its gross profit was $9 million. Melissa K. was listed as vice president, secretary, and assistant chief financial officer, but she testified that “[i]t’s very hard for me to say what exactly I was doing other than the obvious, which was helping with, you know, like the financial decisions. * * * Well, just have conversations naturally with my husband about, you know, what was going on with the business as far as were there any–you know, where monies were going or anything that was upcoming as far as needs of the company, just in general finances.” 2013 T. C. Memo. 84, at pp. 13-14.

Not enough to justify an average salary of $200K per year, especially as Melissa only worked a thirty-hour week.

And the rest of the family team, though obviously competent, were just as obviously overpaid, when IRS’ expert trotted out the comparables.

So at the end of the day, notwithstanding all the factors (none of which is dispositive), the end result is that, though you supply health products for swine, you shouldn’t imitate them.


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