Reference no: EM132176367

Tax Research Memo

Fact Patterns

1. Bob Carburetor is the new owner of Carburetor Cars, an accrual-based corporate taxpayer. At Carburetor Cares, when a vehicle is sold, the dealership tries to sell an auto service contract. The amounts received for these contracts are placed into an escrow account. The agreements grant the buyers the right to have parts or components covered by the contract repaired or replaced whenever the covered parts experience a mechanical difficulty. The dealer will either provide the services or reimburse the car buyer for the reasonable cost of repair or replacement. Normally, the buyer returns the vehicle to the dealer for repair, but this is not required. In either case, the repairs or replacements must be authorized in advance by an administrator hired by Carburetor Cars. Fees to the administrator of the contracts are paid out of the escrow account. What is the proper tax treatment for the income from the service contracts? When are the payments to the administrator deductible?

2. Ramon, Clarita, and Juan are shareholders in the computer consulting firm 3Geeks. Because the business has had serval years of success, Juan is ready to leave the business and requests to be bought out. After negotiations among the owners, it is agreed that Juan will receive $300,000 for his stock and $500,000 for agreeing not to provide any computer consulting services for one year starting October 1 of the current year. This $500,000 is the same amount the Juan was guaranteed to receive in salary each year. How should 3Geeks treat the $500,000 payment to Juan?

3. Cambro Construction Company hires union carpenters for home building. Cambro requires, as a condition of employment, that the carpenters provide and maintain various tools of the trade. Cambro pays each carpenter a set amount per hour as a "tool allowance" to cover the costs of carpenters' tolls. How should this employee reimbursement be treated for tax purposes?

4. Zarco, a very profitable corporation, was owned by Julio, Tilly, and Martinez. Julio and Martinez purchased all of Tilly's Zarco Corporation stock for $50,000 and a $100,000 promissory demand note guaranteed by Zarco. Tilly demanded payment on the note, and Zarco, rather than Julio and Martinez, paid the note. What are the tax consequences of this transaction?

5. Prudence was named as a shareholder in her law firm, which operates as an S Corporation. Her payments into the firm's capital were to start in approximately nine months, when an audit would determine the full value of the firm and a new corporate year would commence. Paperwork with the pertinent state offices were completed, naming Prudence as a shareholder and director and adding her name to that of the firm. However, Prudence left the firm eight months after the announcement, that is, before she paid any money for her shares. Is Prudence liable for tax on her share of the entity's earnings for the eight months?

6. Jekyll and Hyde formed a corporation (Halloween Inc.) on October 31 to develop a drug to address split personalities. Jekyll will contribute a patented formula valued at $200,000 in return for 50 percent of the stock in the corporation. Hyde will contribute an experimental formula worth $120,000 and medical services in exchange for the remaining stock. Jekyll's tax basis in the patented formula is $125,000, whereas Hyde has a basis of $15,000 in his experimental formula. Describe the tax consequences of the transaction.

7. Richard Meyer and two friends from law school recently formed Meyer and Associates as a limited liability partnership (LLP). Income from the partnership will be split equally among the partners. The partnership will generate fee income primarily from representing clients in bankruptcy and foreclosure matters. While some attorney friends have suggested that partners' earnings will be self-employment income, other attorneys they know from their local bar association meetings claim just the opposite. After examining relevant authority, explain how you would advise Meyer and Associates on this matter. [Hint: See §1402(a)(13) and Renkemeyer, Campbell & Weaver LLP v. Commissioner, 136 T.C. 137 (2011).]