Law Firm Owes Penalties for Deducting Partner Bonuses

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By Erin McManus

Feb. 10 — Brinks Gilson & Lione P.C., a Chicago intellectual property firm, owes accuracy-related penalties for deducting year-end partner bonuses that reduced its annual book income to zero.

U.S. Tax Court Judge James S. Halpern ruled Feb. 10 that Brinks failed to show it had substantial authority for deducting the bonuses or that it could claim reasonable cause and good faith in relying on the accounting firm of McGladrey & Pullen LLP to prepare its corporate tax returns.

The “independent investor test”—which provides that “owners of an enterprise with significant capital are entitled to a return on their investments”—weighed against Brinks' substantial authority argument, Halpern said.

Ostensible Compensation

“Ostensible compensation payments made to shareholder employees by a corporation with significant capital that zero out the corporation's income and leave no return on the shareholders' investments fail the independent investor test,” Halpern said.

Brinks argued that the shareholder attorneys lacked the normal rights of equity investors because they both acquired the stock and were required to sell upon termination their stock back to the firm at book value.

Halpern said the firm's argument proved too much. If the firm's “shareholder attorneys are not its owners, who are? If the shareholder attorneys do not bear the risk of loss from declines in the value of its assets, who does?” he said.

Unreasonable Reliance

The judge said Brinks' “argument that it reasonably relied on McGladrey fails for two reasons. First, the record provides no evidence that McGladrey advised petitioner regarding the deductibility of the yearend bonuses. Second, in characterizing as compensation for services amounts that have been determined to be dividends, petitioner failed to provide McGladrey with accurate information.”

“Silence cannot qualify as advice because there is no way to know whether an adviser, in failing to raise an issue, considered all of the relevant facts and circumstances, including the taxpayer's subjective motivation. Indeed, an adviser's failure to raise an issue does not prove that the adviser even considered the issue, much less engaged in any analysis, or reached a conclusion,” Halpern said.

Disregarded Value

Halpern said Brinks “consistently followed a system of computing yearend bonuses that disregarded the value of its shareholder attorneys' interests in the capital of the firm and inappropriately treated as compensation amounts that eliminated the firm's book income.”

There was no evidence that Brinks' accounting of the year-end bonuses was based on the advice of any qualified tax professional. Although Brinks “offered no evidence as to why it adopted its practice of paying yearend bonuses, it is difficult to imagine reasons that are not tax related,” Halpern said.

Brian T. Gale and Jay Howard Zimbler represented Brinks. James M. Cascino, Tracy M. Hogan and Elizabeth Y. Williams represented the commissioner.

To contact the reporter on this story: Erin McManus in Washington at

To contact the editor responsible for this story: Brett Ferguson at

For More Information

Text of the decision is in TaxCore.

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