Amos, a shareholder-employee of Pigeon, Inc., receives a $400,000 salary.The IRS classifies $125,000 of this amount as unreasonable compensation.The effect of this reclassification is to decrease Amos' gross income by $125,000 and increase Pigeon's gross income by $125,000.

Question

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The reclassification of unreasonable compensation does not decrease Amos' gross income; instead, it is treated as a dividend. Pigeon, Inc.'s gross income is not affected, but its taxable income may increase due to the disallowed deduction for the unreasonable portion of the salary.

Amos, a Shareholder-Employee of Pigeon, Inc