Opinion ID: 550913
Heading Depth: 3
Heading Rank: 1

Heading: stockholder exemption

Text: 10 Taxpayer first contends that Mr. Spicer was not an employee because the amounts it paid to Mr. Spicer were dividends, rather than wages. Taxpayer's principal assertion is that shareholder dividends are not treated as wages in subchapter S corporations. Taxpayer's burden of proof in characterizing these payments as dividends rather than compensation is heavy, as salary arrangements between closely held corporations and its shareholders warrant close scrutiny. Elliotts, Inc. v. C.I.R., 716 F.2d 1241, 1243 (9th Cir.1983). Also, courts reviewing tax questions must look at the substance of the transaction, not the form. Frank Lyon Co. v. United States, 435 U.S. 561, 573, 98 S.Ct. 1291, 1298, 55 L.Ed.2d 550 (1978). 11 Sections 3111 and 3301 of the Internal Revenue Code impose FICA (social security) and FUTA (unemployment) taxes on employers for wages paid to their employees. The Federal Insurance Contributions Act and Federal Unemployment Tax Act both define wages as all remuneration for employment. 1 26 U.S.C. Secs. 3121(a) & 3306(b) (1988). Treasury Regulations on Employment Taxes and Collection of Income at Tax Source, sections 31.3121(a)-1(b) and 31.3306(b)-1(b) provide that the form of payment is immaterial, the only relevant factor being whether the payments were actually received as compensation for employment. 12 For FICA and FUTA tax purposes, section 3121(d) of the Internal Revenue Code defines an employee in part as any officer of a corporation.... There is an exception to employee status for some officials, but it only applies to an officer who does not perform any services or performs only minor services and who neither receives nor is entitled to receive ... any remuneration. Treas.Reg. Sec. 31.3121(d)-(1)(b) (emphasis added). Therefore, an officer who performs substantial services for the corporation is considered an employee, whose wages are subject to FICA and FUTA. 13 In the present case, Mr. Spicer clearly performed substantial services for the taxpayer corporation. He was the only accountant working for Taxpayer, an accounting concern. During the years in question, he performed accounting services for the taxpayer approximately 36 hours a week. He was the only one who signed customers' returns as the preparer, performed financial planning for Taxpayer, audited clients' books, prepared opinion letters for clients, and represented clients before the Internal Revenue Service. He also reviewed and paid Taxpayer's bills, and set Taxpayer's billing rate. 14 In addition, Mr. Spicer testified that his services were integral to the operation of the firm. He also stated that in his opinion, Taxpayer would have to pay a replacement for him approximately $16,000 to $17,000 a year. Accordingly, we reject Taxpayer's contention that Mr. Spicer, who was Taxpayer accounting firm's president and only accountant, did not receive compensation for services. Mr. Spicer clearly performed substantial services for Taxpayer, and accordingly, these dividends were in reality remuneration for employment and therefore subject to FICA and FUTA. 15 Additionally, Mr. Spicer testified in the district court that he purposefully received his payments in the form of dividends, rather than as wages, to allow Taxpayer to avoid liability for FICA and FUTA. Recently, in a case nearly identical to the instant case, the Seventh Circuit held that an employer should not be permitted to evade FICA and FUTA by characterizing compensation paid to its sole director and shareholder as dividends, rather than wages. Joseph Radtke, S.C. v. United States, 895 F.2d 1196 (7th Cir.1990). The Seventh Circuit determined that regardless of how an employer chooses to characterize payments made to its employees, the true analysis is whether the payments are for remuneration for services rendered. Radtke, 895 F.2d at 1197. 2 We agree with the Seventh Circuit's holding and accordingly find that Mr. Spicer's intention of receiving the payments as dividends has no bearing on the tax treatment of these wages. 16 We hold that because Mr. Spicer performed substantial services that were essential to Taxpayer, Mr. Spicer should be deemed an employee, and payments to him should be deemed wages subject to FICA and FUTA.