Masonry Magazine January 1971 Page.33
TAXES
By MIRIAM McD. MILLER
TAX RETURNS
Well, it will soon be that time of year when the mailman brings our 1971 tax return forms. According to the IRS, Form 1040 will be substantially the same as last year.
Be sure to note the address of the IRS office to which your return is to be sent. Individual and business returns from some 15 states and from New York City will have to be filed at different service centers.
In 1962, when the IRS converted to automatic data processing (ADP) it established some seven regional service centers to receive the 94 million returns that were filed. However, today 113 million returns are being filed. As a result, the IRS found it needed additional service centers.
GROUP-TERM INSURANCE
Section 79(a) of the Internal Revenue Code excludes (up to a certain amount) the cost of premiums paid by an employer on the life of his employee from the gross income of that employee. In other words, in an effort to get employers to take out this sort of coverage on their employees, the Congress added the attraction that the cost of the premiums (again with a limitation) would run tax-free to the employee-sweetening a fringe benefit.
The Tax Court was recently called upon to interpret this section of the Code. A taxpayer was both an officer and a director of a corporation which carried group-term life insurance on him in both capacities. His tax problem arose when he did not include in his gross income the cost of the premiums paid for insurance on him in his capacity as a director.
The Court ruled that the taxpayer had to include the cost of the premiums paid on his behalf in his capacity as a director. The Court explained that this exclusion of premiums on insurance up to a certain amount applies only to insurance on an employee. As a director is not, in that capacity, an employee this taxpayer was out of luck. Enright v. Commissioner, 56 TC No. 98.
REVENUE BILL
Should Congress enact the Revenue Bill that it is presently working on, the standard deduction would be increased to 13% of adjusted gross income with a maximum of $1,500 for 1971. IRS believes that this would induce about 11 million taxpayers to skip itemizing their deductions and simply use the standard deduction. If this estimate is correct, then about 73% of all taxpayers will be using the standard deduction.
REASONABLE COMPENSATION
Commerce Clearing House has prepared a summary of the cases that have come up during the past ten years in which the question of the reasonableness of the salary paid by a corporation to its employees-shareholders and their relatives has been answered by the courts. It seems that this question just never comes up where the pay of a nonshareholder or nonrelative is concerned.
Most often when a court finds that the compensation paid was not reasonable, it regards the unreasonable compensation as a distribution of profits by the corporation. Such a distribution cannot, of course, be deducted by the corporation and is taxed both at the corporate level and again in the hands of the individual recipients.
During the past ten years the courts have reiterated that there is no single factor that determines whether compensation paid is reasonable; that the burden is on the taxpayer (and not on the IRS) to prove the reasonableness of the compensation; that salaries duly voted by the board of directors are presummed to be reasonable; but that compensation arrangements with controlling stockholders-because they may not be at arm's length-must be closely scrutinized.
The following is a list compiled by CCH as the most-often mentioned factors that may be regarded as "guidelines" to be considered in determining the reasonableness of compensation:
1) The nature and size of the business. Is the company one that requires an active director or is it merely a holding company?
2) The qualifications of the employee. How qualified (either academically or from experience) is the employee for the position he holds?
3) What are the extent and scope of the duties he is performing? Long hours, week-end work and few vacations have sometimes been found by the courts to justify a very high salary.
4) What is the ratio of the salaries being paid to the gross and also to the net income from the business?
5) One of the strongest factors that the courts seem to take note of is how the employee's salary compares with the salary paid to non-owner executives who hold similar jobs with comparable companies? However, taxpayers have found it difficult to produce evidence that the courts have accepted which showed both a comparable executive and a comparable company.
6) Another item that is often checked by the courts is the compensation being paid by the company in question to its nonstockholder-employees.
7) Any sharp increase in salary not accompanied by an equally sharp increase in profits or in responsibilities of the employee has been noted by the courts. Has business soared due to the efforts of the employee or due to the general economic conditions?
8) Was the salary set for the year or was it arrived at after getting a picture of what the year's profits would be?
9) Is the corporation paying dividends on a regular basis? It has been often fatal to a taxpayer's case where it was shown that the corporation had a pattern of not paying any dividends and yet paid a high salary to its employee-stockholder.
(10) Another tip-off to the courts that the compensation is being used to disguise a distribution of profits is where the compensation paid to each executive of the company is in direct proportion to his percentage of holdings of stock.
Finally, remember, the question of reasonableness of compensation must always be regarded as a factual question. There can be no set formula. But, the foregoing questions have been found by CCH to have been the ones