In arriving at the value of stock in a closely held business, the IRS frequently imputes goodwill. Comment on how the following independent factors would affect the determination of goodwill
a. Past profits include a large nonoperating gain.
b. Shareholder-employees have not been receiving adequate compensation for their services.
c. The shareholders have been financing corporate operations with interest-free loans.
a. Goodwill should be based on an average of operating profits. Thus, nonoperating gains and losses should not be taken into account.
b. Operating profits should be based on what should have been the salary expense—not what was paid. As a result, reported profits have been overstated.
c. Operating profits should reflect the market rate of interest that would be charged by third party lenders. To this extent, therefore, past profits are overstated.
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