Consulting Fees Paid to C Corporation Shareholders Were Disguised Dividends
The 7th Cir. affirmed Tax Court disallowance of a C corporation deduction of consulting fees paid to corporations entities owned by its shareholders. The Court agreed with the IRS that the fees were disguised dividends.
The Tax Court rejected the claim that the fees were deductible salary expenses.
The IRS argued if the fees were salary expenses there would be no return to equity. This is know as the “independent-investor” test.
Also hurting the taxpayer was the lack of evidence that payments were compensation for services. The Corporation did not withhold payroll taxes or report the payments as compensation on its Form 1120. The corporation also failed to keep time records matching the fees to the actual work performed by each shareholder.
Mulcahy, Pauritsch, Salvador & Co., Ltd., CA-7