Federal Tax Research 10th Edition by Roby Sawyers,William Raabe,Gerald Whittenburg,Steven Gill

Exercise 28

Phil recently received a permit to open a medical-waste incineration center in Newark, New Jersey. He has been working on the project for some time with his colleague Karen. Now that they have received a permit, they are going to establish an S corporation to handle operating the new business, with Phil as the CEO and Karen as the COO. They feel comfortable that the new business venture is going to make large profits, because other similar businesses have done well (the key, as it turns out, is working with federal, state, and local agencies to obtain the permit). Phil wants to limit the amount of employment taxes he pays on his compensation from the S corporation and is thus considering paying himself a very low salary and taking the bulk of his profits from the business as a distribution from the S corporation. Prepare a memo that explains how reasonable compensation can be established for Phil; include techniques from both the circuit in which he resides and any other circuit for addressing the issue of reasonable compensation.