It is something to ponder during these dog days of August, why would a sole shareholder/dentist enter into an employment agreement containing a covenant not to compete with the PC? In essence, he agreed not to compete with himself. Howard v. U.S., (USDT, Eastern District of Washington, July 30, 2010).
That is exactly what Dr. Larry Howard did in 1980. In 2002, when he sold his practice to a competitor the Asset Purchase Agreement allocated $549,900 to Dr. Howard for his personal goodwill. On his tax return for 2002, Howard reported $320,358 as long-term capital gain resulting from the sale of the goodwill. As a result of an audit, the IRS recharacterized the sale of the goodwill as a corporate asset and treated the amount Howard received as a dividend. This resulted in a $60,129 tax deficiency plus $14,792 in interest.
As the court points out, the case law makes it quite clear that an employee working for a corporation without a covenant not to compete owns the goodwill. See Martin Ice Cream v. Commissioner, 110TC 189 (1998). But when an employee works for a corporation under an employment agreement with a covenant not to compete, it is the corporation and not the professional owns the goodwill generated by the professional. Norwalk v. Commissioner, TC Memo. 1998-279.
Now explain to me again, why did he agree not to compete with himself? I smell another victim to form practice.