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Tax Memo #2-Executive Compensation - M E M O RA N D U M TO...

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MEMORANDUM TO: Mr. Kim DATE: December 6, 2009 RE: Tax Memo #2-Executive Compensation If audited by the IRS, Kim's compensation will not be deemed reasonable. The IRS will not deem Kim's compensation to be reasonable. The reason is that his bonus alone is 80% of the company's earning and in addition to his bonus; he is receiving a salary of $100,000. The IRS will perceive the high compensation as an attempt to avoid paying taxes. Section 162(a) (1) provides that a taxpayer may deduct "all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business," including "a reasonable allowance for salaries or other compensation for personal services actually rendered." 26 U.S.C. Sec. 162 (a) (1). The fact that Kim actually rendered services as an employee is not disputed. The issue is whether the payments made to Kim are attributable to that employment relationship or to his role as in the company. Making the determination on whether Kim's compensation will be deemed reasonable, in finding that a part of the payments made to Kim could not be attributed to his employment status, correctly defined and applied per the factors that determine what is "reasonable compensation" under section 162(a)(1), the conclusion is that no his compensation is not reasonable. The relevant case law is Elliott’s, Inc. v. Commissioner (1983) that is used to ascertain reasonable compensation under section 162(a) (1). The five factors are employee's role in the company, external comparisons, character and condition of the company, conflict of interest, and internal consistency. While evaluating the reasonableness of Kim's compensation package in light of the five factors enumerated in the Elliott’s case. If audited by the IRS, Kim’s compensation will not be deemed reasonable for the reasons listed above. KimTech could do the following in an attempt to show that
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