In Uncategorized on 10/16/2019 at 17:19

“Why Don’t Everybody Smoke Their Own?”

The nasal drawl of the immortal Humphrey Bogart forms the background for my review of Judge Patrick J. (“Scholar Pat”) Urda’s unhorsing of Plano Holding LLC, 2019 T. C. 140, filed 10/16/19.

Plano Holding is the child of one of Canada’s largest pension funds, which bought the plastics manufacturer Plano Holding holds from a US hedge fund. The Canadians had been hunting for a US firm for its portfolio, and agreed to compensate  B (name omitted) for their previous efforts in locating the target, although the deal was brought off by an investment banker unrelated to B.

Plano Holding took the payment to the investment banker as a reduction in purchase price to the hedgies, and Judge Scholar Pat says OK. But when parent (Plano Holding) and child (the plastics manufacturer) filed their first consolidated return, child wrote off $1.5 million to B as a Section 162 business expense. IRS says no, and Judge Scholar Pat agrees.

“A taxpayer generally may not deduct the payment of another person’s expenses.  We have recognized a narrow exception to this rule where (1) the taxpayer’s primary motive for paying the other’s obligation is to protect or promote the taxpayer’s own business and (2) the expenditure is an ordinary and necessary expense of the taxpayer’s business.” 2019 T. C. Memo. 140, at pp. 8-9. (Citations omitted).

Child flunks both tests.

First, the deal between the Canadians and B was entered into a week after the deal was inked between Canadians and child. There was no adverse consequence to child if it did not pay B, as the deal between the Canadians and child (the plastics manufacturer) was not contingent upon child picking up B’s tab, nor an adjustment to the purchase price, unlike the payment to the investment banker. And the Canadians were the real beneficiaries of the deal. They wanted a US company, and child fit the bill.

Second, the payment to B was not for anything but finding child for the Canadians. “To the contrary, the parties agree that the B payment came about because [Canadians] felt obligated to B for its legwork… in identifying a potential acquisition for [Canadians].

“The B payment thus is in the nature of a finder’s fee that [Canadians] decided to bestow months after the fact.  Were we looking at the business of an institutional investor like [Canadians], we very well might conclude that a fee of this sort (if it were not a capital expenditure to acquire [child]) would be an ordinary and necessary expense that could be deducted.  But we are not.  [Child]’s business is manufacturing plastic goods, primarily storage items for outdoor sports. [Parent] fails to persuade us that such a payment qualifies as either ordinary or necessary in that line of business.” 2019 T. C. Memo. 140, at p. 13. (Footnote omitted, but it’s interesting.)

“Our holding today accordingly should not be seen to opine on whether a payment stemming from B’s [earlier] efforts on behalf of [child] would have been an ordinary and necessary expense of [child]’s business.” 2019 T. C. Memo. 140, at p. 13, footnote 4.

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