Norwalk v. Commissioner
| Decision Date | 30 July 1998 |
| Docket Number | Docket No. 20686-96.,Docket No. 20772-96.,Docket No. 20767-96.,Docket No. 20773-96.,Docket No. 20685-96. |
| Citation | 76 T.C.M. 208 |
| Parties | William Norwalk, Transferee, et al.<SMALL><SUP>1</SUP></SMALL> v. Commissioner. |
| Court | U.S. Tax Court |
Harry J. Kaplan and John F. Hopkins, for the petitioners. LaVonne D. Lawson, for the respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
These consolidated cases involve transferee liability, deficiencies, penalties, and an addition to tax determined by respondent as follows:
After concessions by the parties, the issues for decision are: (1) Whether DeMarta & Norwalk, CPA's, Inc. (the corporation), realized a gain of $588,297 on the distribution of its intangible assets to its shareholders in a liquidation; (2) whether the corporation is liable for depreciation recapture in the amount of $15,643 on the distribution of its tangible assets to its shareholders in a liquidating distribution in 1992; (3) whether Robert and Patricia DeMarta realized a capital gain of $505,935 on the receipt of property from the corporation in a liquidating distribution in 1992; (4) whether William R. Norwalk realized a capital gain of $165,940 on the receipt of property from the corporation in a liquidating distribution in 1992; (5) whether the corporation is entitled to a deduction, reported as consulting fees, of $40,000 for payments to the shareholders in 1992; (6) whether Robert DeMarta and William R. Norwalk are required to report such payments, in the amounts of $23,320 and $16,680, respectively, as dividend income; (7) whether Robert and Patricia DeMarta are liable for an addition to tax under section 6651(a)(1)2 and an accuracy-related penalty under section 6662; (8) whether the corporation is liable for an accuracy-related penalty under section 6662; (9) whether William Norwalk is liable for an accuracy-related penalty under section 6662; and (10) whether Messrs. DeMarta and Norwalk are liable as transferees for the corporation's 1992 Federal income tax liability.
Some of the facts are stipulated and are incorporated herein by this reference.
At the time of the filing of the petitions in these consolidated cases, each of the individual petitioners resided in Fremont, California, and the corporate petitioner, DeMarta & Norwalk, CPA's, Inc., maintained its principal office in Fremont, California. Robert DeMarta and William Norwalk (sometimes referred to as the shareholders) are certified public accountants (C.P.A.'s) and provide accounting services on a full-time basis. Mr. DeMarta became a C.P.A. in approximately 1970, while Mr. Norwalk became a C.P.A. in 1980.
In 1985, Messrs. DeMarta and Norwalk organized DeMarta & Norwalk, CPA's, Inc., which was incorporated in California on August 14, 1985. The business of the corporation was the practice of public accounting. At all times during the corporation's existence, Messrs. DeMarta and Norwalk have been its only shareholders.
On September 3, 1985, Messrs. DeMarta and Norwalk signed separate agreements with the corporation regarding their respective ownership interests in, and rights and duties regarding, the corporation. Each agreement is entitled "Employment Agreement". The effective date set forth on these agreements was October 1, 1985, and each provides, among other things, the following:
TERM
5. The term of employment shall be five years from the date specified in Schedule A attached to this Agreement, subject to the following conditions:
(a) This Agreement may be terminated at any time by mutual agreement in writing of the Corporation and Employee.
(b) Employee shall have the absolute right to unilaterally terminate this Agreement by providing the Board of Directors with written notice of termination and, in that case, termination shall occur upon the expiration of ninety (90) days after the date of the notice.
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(h) Either party may terminate this Agreement after the expiration of 15 months by giving the other 30 days written notice.
6. Employee agrees that during the term of this Agreement he will not engage in any other business duties or pursuits whatsoever, directly or indirectly, except activities approved in writing by the Board of Directors directorships in companies not in competition with the Corporation, and passive personal investments. Furthermore, Employee will not, directly or indirectly, acquire, hold, or retain any interest in any business competing with or similar in nature to the business of the Corporation, and will not own or hold to any substantial degree any securities in any company competing with the Corporation.
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8. Employee recognizes and acknowledges that the list of the Corporation's clients, as it may exist from time to time, is a unique asset of the Corporation's business. Employee will not, during or after the term of employment, disclose the list of the Corporation's clients or any part of it to any person, firm, corporation, association, or other entity for any reason or purpose whatsoever. In the event of a breach or threatened breach by Employee of the provisions of this Paragraph, the Corporation shall be entitled to an injunction restraining Employee from disclosing, in whole or in part, the list of the Corporation's clients, or from rendering any services to any person, firm, corporation, association, or other entity to whom the list, in whole or in part, has been disclosed or is threatened to be disclosed. Nothing in this Agreement shall be construed as prohibiting the Corporation from pursuing any other remedies available to the Corporation for disclosure, including the recovery of damages from Employee.
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11. On the termination of this Agreement, Employee shall not be entitled to keep or preserve records or charts of the Corporation as to any client unless a client specifically requests a different disposition of those records, and in no event shall Employee be entitled to the records of clients not served by him.
Subsequent to the term of the shareholders' respective agreements with the corporation, no other agreements between the shareholders and the corporation were entered into. Accordingly, Messrs. DeMarta and Norwalk were not bound by any covenant not to compete on June 30, 1992.
As of June 30, 1992, in addition to the shareholders, the corporation had eight employees, four of whom were accountants. No other employee of the corporation signed any employment agreement with the corporation.
On June 30, 1992, the corporation's assets were distributed to its shareholders. On that date, Mr. DeMarta held 75 percent of the corporation's stock, while Mr. Norwalk held the remaining 25 percent. Only a nominal amount of assets was left in the corporation after this distribution. This distribution constituted a complete liquidation of the corporation in 1992. The corporation did not continue to provide accounting services after June 30, 1992, and the business of the corporation did not continue. The corporation has never been dissolved.
The corporation reported the following revenues and expenditures on its Federal income tax returns for the years 1988 through 1992:
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