The Tax Court has allowed the entire amounts of $4 million and $7.3 million paid to sons of the founders of a concrete contracting business deductible as reasonable compensation.

In the case of H.W. Johnson, Inc., T.C. Memo 2016-95, the court also ruled a payment of $500,000 to a company controlled by the brothers was ordinary and necessary to compensate their company for securing a concrete supply at preferential prices.

Compensation must be reasonable to be deductible under section 162 of the Tax Code. The Ninth Circuit, which would hear an appeal on this case, applies five factors to determine the reasonableness of compensation: (1) the employee’s role in the company; (2) a comparison of compensation paid by similar companies for similar services; (3) the character and condition of the company; (4) potential conflicts of interest; and (5) the internal consistency of compensation arrangements. Read More