As the head of Zendog Corporation's Tax Department, you faced an interesting dilemma. Due to substance abuse problems, an officer-shareholder of this closely held company had become disruptive and untrustworthy. To alleviate this problem, the company terminated this officer's employment contract and repurchased his shares at a premium price above market value.
When a company enters into a treasury stock buyback of its own shares, the amount disbursed to a shareholder is viewed as an ownership distribution, not as an expense. However, an argument can be made that at least a purchase of the buyback was a necessary expense because the buyback was a necessary cost of keeping the company running smoothly. You have to decide whether to deduct some or all of this payment as a deductible tax expense on the company's corporate tax return. You have had various thoughts, listed here. Using Kohlberg's model, identify the stage of moral development associated with each of the following viewpoints you have considered:
a. It is in inappropriate to deduct this payment because doing so would violate our tax laws.
b. It is appropriate to deduct this payment because the tax rules governing stock buybacks did not contemplate circumstances such as this one in which the purpose of the buyback was to get rid of an officer-shareholder whose corporate decisions were harming company profitability.
c. It is proper to claim this deduction because the risk of IRS detection is infinitely small.
d. Because the applicable tax rules are uncertain in this unique situation, a good faith argument can be made in favor of claiming the deduction, and the IRS is unlikely to ever impose severe penalties if the claimed deduction is detected and challenged.
e. I am uncertain about the right decision, and I have to respect the wishes of senior management, all of whom want me to claim this deduction.
f. I am going to claim this deduction, and if the IRS denies our right to this deduction, I am going to have our general counsel fight for it in federal tax court because the broad policies of the matching principle permit deduction of this payment as an ordinary and necessary expense?