Kimtech Tax Memo

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The first issue is that the reasonableness of Kim's compensation package is to be evaluated in the light of the five factors enumerated in the Elliot's case. The issue is will IRS evaluate Kim's compensation to be reasonable and if Kim's compensation package is reasonable under the test. The relevant case law is Elliotts, 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. IRS will not deem Kim's compensation to be reasonable. The reason is that his bonus alone is 80% of the company's earning. Moreover, he has an additional fixed salary of $100,000. This makes his compensation equal to 90% of the net pretax compensation. The IRS will perceive the high compensation as an attempt to avoid paying taxes. However, Kim can defend himself using the five factors established in Elliott's case. With respect to employees role in the company, Kim can claim that he is instrumental in getting all the business, he has established relationships with customers, and is the pivotal person in the company. He can make external comparison by showing that person in the industry in his position earn $500,000, however, since he has done the work of several persons by putting in extra effort, extra endeavors, and extra hours he should be suitably compensated for his toils. With regards to the "character and condition of the company", Kim needs to provide support about the financial and business strength of the company, and that the company is performing exceptionally well because of Kim. He needs to be rewarded for his efforts. With regards to 'conflict of interest', Kim needs to establish that the operating results of the company are at par with industry standards or are

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