Rev. Rul. 54-625

For some years prior to his death, the decedent received a salary and bonus approximating 720 x dollars. The corporation, of which the decedent was an officer, plans to pay his dependent widow an amount equal to his salary and bonus for the full year immediately prior to his death or a total not to exceed 720 x dollars. The authorization for such action is based upon a resolution of the board of directors. The corporation proposes to make payments to the widow at the rate of 5 x dollars per month until the full amount of 720 x dollars is paid or until the widow dies or remarries, whichever occurs first. The corporation employs the accrual method of accounting for the purpose of filing its Federal income tax returns.

The specific question presented is whether the amounts of periodic payments made to the widow constitute allowable deductions from gross income under section 23(a)(1)(A) of the Internal Revenue Code of 1939, as ordinary and necessary business expense, for the taxable year or years in which paid or whether the full amount of 720 x dollars is deductible in the year in which the liability was incurred by the authorization to make such payments in view of the corporation's use of the accrual method of accounting. A corollary question raised is what is meant by the term `for a limited period' as used in section 39.23(a)-9 of Regulations 118.

Section 23(a)(1)(A) of the Internal Revenue Code provides that `All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including a reasonable allowance for salaries or other compensation for personal services actually rendered; * * *' shall be allowed as deductions.

The first sentence of section 39.23(a)-9 of Regulations 118 provides that `Amounts paid by a taxpayer for pensions to retired employees or their families or others dependent upon them * * * are proper deductions as ordinary and necessary expenses.' No mention is made of the period of time for making such payments. The third sentence of Section 39.23(a)-9 of Regulations 118 provides:

When the amount of salary of an officer or employee is paid for a limited period after his death to his widow or heirs in recognition of the services rendered by the individual, such payments may be deducted. * * * .

Since section 23(a) of the Code merely requires that in order to be deductible payments of the kind involved must constitute `a reasonable allowance for salaries or other compensation for personal services actually rendered,' it is believed that the third sentence of section 39.23(a)-9 of Regulations 118, supra , should be liberally construed so as to reflect the true purpose of section 23(a)(1)(A), namely, that the words `for a limited period' should be regarded as relating to the rules of reasonableness employed by the statute, rather than the length of time during which payments may be made.

The cases involving this issue which have been decided by The Tax Court of the United States are not inconsistent with the above position. In McLaughlin Gormley King Company v. Commissioner , 11 T.C. 569, the Commissioner allowed the deduction of the amounts paid to the widow of the corporation's former president for 29 months but disallowed all additional payments. Although The Tax Court approved the determination of the Commissioner, the point is stressed that the deduction depends on the reasonableness of the amounts paid and that the determination of the Commissioner places on the petitioner the burden of establishing the reasonableness of the total compensation.

In I. Putnam v. Commissioner , 15 T.C. 86, in which a similar situation was involved the court relied on McLaughlin Gormley King Company, supra , and stated `what is a `limited period' within the meaning of the Regulations will depend on the facts of each particular case.' This would seem to indicate that the words `for a limited period' are to be construed as a measure in the reasonableness of the amounts to be paid rather than merely stating a time limitation for their payment.

In the instant case it would require 12 years to pay the entire amount provided none of the specified contingencies occur during such period. Inasmuch as the 720 x dollars constitutes reasonable compensation for past services rendered by the husband such amount is generally deductible by the corporation under section 23(a)(1)(A) of the Code in computing net income for the year in which such liability is incurred. However, since under the plan the corporation will have committed itself only to the payment of periodic installments which are contingent upon the widow remaining alive and unmarried, and since death or remarriage of the widow will relieve the corporation of paying installments subsequently coming due, the corporation may deduct only, for Federal income tax purposes, that amount which is actually paid to the widow under the plan. See Dixie Pine Products Company v. Commissioner , 320 U.S. 516, Ct. D., 1598, C.B. 1944, 509.

Accordingly, where a corporation on the accrual basis of accounting obliges itself to pay to the widow of a deceased employee, in periodic installments over a period of years, an amount representing reasonable compensation to the deceased employee in recognition of past services rendered by such employee, such amount is generally deductible under the provisions of section 23(a)(1)(A) of the Internal Revenue Code of 1939 as a business expense for the year in which such liability is incurred. However, where such payments are contingent upon the widow remaining alive and unmarried, the corporation may deduct in each year only those amounts which are actually paid during the year to the widow under the plan. In such case, the term `for a limited period' as used in section 39.23(a)-9 of Regulations 118 relates to the reasonableness of the total amount to be paid rather than the length of the period in which such amount is to be paid. Further, payments received by the widow subsequent to December 31, 1950, are includible in her gross income for Federal income tax purposes. See I.T. 4027, C.B. 1950-2, 9.

/*/ This Revenue Ruling was modified by Rev. Rul. 55-212, I.R.B. 1955-15, 11.