Court Opinion

ID: 9467338
Source: CourtListenerOpinion
Date Created: 2023-08-05 01:45:43.084931+00
Date Added: 2024-06-11T17:40:17.613304
License: Public Domain

ERVIN, Circuit Judge,
dissenting:
Because I am convinced that the amounts paid in settlement of the tort action against Kopp’s Company, Inc. (hereafter “the corporation”) and for legal fees incurred in connection with that litigation can in no way be characterized as business expenses within the meaning of § 162(a) of the Internal Revenue Code, I respectfully dissent.
There are two distinct inquiries to address in determining the deductibility of an expense under § 162(a). First, it must be' ascertained whether the expense is personal or business related. If it is determined that the expense is business related, then the second inquiry is whether the expenditure is ordinary and necessary to the carrying on of a trade or business. Because I believe that the expenses were personal in nature, I find no need to address the second inquiry of whether the expenses were ordinary and necessary to carrying on the Kopp business.1
The test for determining whether an expense qualifies as a business expenditure, as compared to a personal expense, was set forth by the Supreme Court in United States v. Gilmore, 372 U.S. 39, 83 S.Ct. 623, 9 L.Ed.2d 570 (1963). The test enunciated in Gilmore looks to the “origin and character of the claim with respect to which an expense was incurred,” and not to the consequences that may result to a taxpayer’s income producing property if the claim is not defeated. 372 U.S. at 49, 83 S.Ct. at 629. In order for litigation or settlement expenses to be deductible under the Gilmore test, they must have accrued in the defense of a suit that is connected directly with or that resulted proximately from the taxpayer’s trade or business. See Kornhauser v. *62United States, 276 U.S. 145, 48 S.Ct. 219, 72 L.Ed. 505 (1928). Thus, for a deduction to be allowed under § 162(a) the transaction out of which the claim arose must have resulted from the carrying out of company business.
I am not convinced that the settlement and litigation expenses in this case constitute business expenses. The transaction out of which the claim arose was that of Mr. Kopp (hereafter “Earl”) lending a car to his son for the son’s personal use. The troublesome factor in this case is that Earl, who was also president and principal shareholder of a closely held corporation, Kopp’s Co., Inc., lent his son a company car. If Earl had owned no corporation and had lent his own automobile to his son for the son’s personal use, no litigation costs or settlement expenses would have been deductible by him, by his wife, or by his son. I cannot see how Earl’s status as president of the closely held corporation transforms the entrustment of the car to the son into a corporate act. Clearly, if Earl, as president, is viewed as an agent of the corporation, he was acting outside the scope of his agency in making a personal loan of the car for purposes totally unrelated to the business. A corporation is not liable for the unauthorized acts of its agents. In conjunction with his effort to impute his own tort liability to the corporation, Earl seeks tax benefits for his wholly owned corporation which are incompatible with the purposes of § 162(a) of the Code.
The majority proceeds on the theory that, because the corporation as a party defendant incurred the litigation and settlement expenses to avert “direct liability,” it met Gilmore’s guidelines. This reliance on Gilmore is misplaced because Gilmore requires that the origin of the claim giving rise to the threat of liability must be connected with the taxpayer’s profit-seeking activities. 372 U.S. at 48, 83 S.Ct. at 622. Thus, a threat to corporate assets even if real and direct, is deductible only if the origin of the threat is business related. In this case, Danner’s claim against the corporation stemmed entirely from the familial relation between father and son, and not from any income producing activity of the corporation. The expenses under review were incurred as a result of Earl’s personal activities rather than as a result of his business pursuits as an officer of the corporation.
The corporation seeks to distinguish Gilmore and to stress Dolese v. United States, 605 F.2d 1146 (10th Cir. 1979) as controlling. It should be noted, however, that in Dolese the deductions were limited to legal fees expended in freeing the corporations from the restrictions of a restraining order. As the court points out:
Once the corporation was inhibited from the conduct of profit-making activities by fear of violating the court order the costs of obtaining clarification and relief would seem to originate in its business activities. Therefore, to the extent a corporation incurred legal expenses in preparing pleadings required to be filed in this litigation, in obtaining permission to settle a lawsuit previously filed against it in another state or to make an investment in a rock quarry, or the like, the origin of those claims is in the profit-making activities of the corporation and the expenses are deductible. 605 F.2d at 1151-52 (emphasis added).
While an argument could be made that the legal expenses for preparing pleadings required to be filed in this case on behalf of the corporation are deductible, I reject the idea that the total amount of the settlement and all of the legal costs incurred in defending Earl, his wife Jean, and their son Wayne, and the corporation are deductible as expenses incurred in carrying on any trade or business of the corporation.2
I would affirm the district court’s denial of the refund.

. The leading case on whether an expenditure qualifies as “ordinary and necessary” to the business is Welch v. Helvering, 290 U.S. 111, 54 S.Ct. 8, 78 L.Ed. 212 (1933). Although some cases seemingly merge the “personal versus business expense” inquiry with the issue of whether an expense is “ordinary and necessary” to the business, see, e. g., Dolese v. United States, 605 F.2d 1146 (10th Cir. 1979), I think the distinction is necessary to clarify the issue in a case brought under § 162(a). If the expenditure is not a business expense in the first instance, it is fruitless to inquire into whether it is ordinary and necessary to the business.

. It should be noted that Earl had personal assets with a value of less than $75,000.00. In addition, he owned 7,599 of the 7,600 outstanding shares of stock in the corporation which had a book value of $250,000.00. Not one penny was contributed by Earl, Wayne, or Jean to the settlement or to the payment of legal fees.