Paul L. Caron

Wednesday, February 22, 2012

8th Circuit Denies Accountant's Use of 'John Edwards Sub S Tax Shelter' -- Is Warren Buffett Next?

The Eighth Circuit yesterday affirmed the district court's denial of an accountant's attempted use of the 'John Edwards Sub S tax shelter' and required him to treat $91,044 per year as his compensation (and thus subject to the 15.3% Social Security and Medicare taxes), rather than the $24,000 he claimed as wages. (During the years in question, the accountant treated $175,470 and $203,651 as Sub S distributions.)  David E. Watson, P.C. v. United States, No. 11-1589 (8th Cir. Feb. 21, 2012):

(1) Watson was an exceedingly qualified accountant with an advanced degree and nearly 20 years experience in accounting and taxation; (2) he worked 35-45 hours per week as one of the primary earners in a reputable firm, which had earnings much greater than comparable firms; (3) LWBJ had gross earnings over $2 million in 2002 and nearly $3 million in 2003; (4) $24,000 is unreasonably low compared to other similarly situated accountants; (5) given the financial position of LWBJ, Watson's experience, and his contributions to LWBJ, a $24,000 salary was exceedingly low when compared to the roughly $200,000 LWBJ distributed to DEWPC in 2002 and 2003; and (6) the fair market value of Watson's services was $91,044. Based on the record, the district court did not clearly err.

Warren Buffett famously draws only a $100,000 salary from Berkshire Hathaway -- although he does not avoid the 12.4% Social Security tax because this is roughly the amount of the FICA wage base ($110,000 in 2012), Buffett is avoiding the 2.9% Medicare tax on the value of his services in excess of $100,000. (Hat Tip: Monty Meyer.) Prior TaxProf Blog coverage:

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Tracked on Feb 22, 2012 7:40:32 PM


Aren't there a couple big differences between Buffett and Edwards?

Edwards' tax avoidance benefitted only Edwards. The low salary was clearly tax motivated.

In Buffett's case, the low salary benefits every BRK shareholder. Buffett's personal tax savings are outweighed by sharing the value of the unpaid salary with every shareholder. It's hard to impute self-interest or tax motivation to his salary arrangement. Plus, b/c BRK is a C corp, wouldn't forgoing salary turn deductible compensation into non-deductible dividends?

Posted by: lv | Feb 22, 2012 12:40:12 PM

Doesn't also taking a low salary also enable him to keep a healthy amount out of ordinary income.

Posted by: Dave Munnell | Feb 23, 2012 6:12:51 AM


Doesn't it also prohibit BRK from taking a healthy deduction on which they would get a 35% benefit?

The income tax is a wash. The issue is the payroll taxes.

Posted by: the real anon | Feb 23, 2012 7:29:33 AM