Guzman Corporation has its expenditure of $700,000 for salary to its president and sole shareholder disallowed as a deduction by the IRS. Comparable salaries for presidents of similarly sized firms in the same industry average $300,000. The IRS reclassified $400,000 as a nondeductible cash dividend. Which of the following form the basis for the IRS disallowance?
I.Lack of Business Purpose.
II.Administrative Convenience Concept.
III.Capital Recovery Concept.
IV.Substance over Form Doctrine.

Question

Guzman Corporation has its expenditure of $700,000 for salary to its president and sole shareholder disallowed as a deduction by the IRS. Comparable salaries for presidents of similarly sized firms in the same industry average $300,000. The IRS reclassified $400,000 as a nondeductible cash dividend. Which of the following form the basis for the IRS disallowance?
I.Lack of Business Purpose.
II.Administrative Convenience Concept.
III.Capital Recovery Concept.
IV.Substance over Form Doctrine.
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Quizplus · Accepted Answer

Statement I is correct because the excessive salary paid to the president and sole shareholder without any valid business purpose is one of the common sources for the disallowance of deductions by the IRS. 
Statement IV is also correct because the Substance over Form Doctrine allows the IRS to reclassify a transaction according to its substance rather than its legal form, i.e., reclassify excessive salary paid to the president and sole shareholder as a nondeductible dividend. 
Statement II is not relevant to this situation because the disallowance of the deduction is not due to administrative convenience. 
Statement III is not relevant to this situation because the Capital Recovery Concept refers to the recovery of the cost of assets over their useful life, which is not relevant to the excessive salary payment.

Guzman Corporation Has Its Expenditure of $700,000 for Salary to Its