PUBLISHED

UNITED STATES COURT OF APPEALS FOR THE FOURTH CIRCUIT

No. 22-1573

CLARY HOOD, INC.,

Petitioner - Appellant,

v.

COMMISSIONER OF INTERNAL REVENUE,

Respondent - Appellee.

Appeal from the United States Tax Court. (Tax Ct. No. 3362-19)

Argued: March 7, 2023 Decided: May 31, 2023

Before WILKINSON, NIEMEYER, and KING, Circuit Judges.

Affirmed in part, vacated in part, and remanded by published opinion. Judge Niemeyer wrote the opinion, in which Judge Wilkinson and Judge King joined.

ARGUED: Raboteau Terrell Wilder, II, WILDER PANTAZIS LAW GROUP, Charlotte, North Carolina, for Appellant. Robert Joel Branman, Tax Division, UNITED STATES DEPARTMENT OF JUSTICE, Washington, D.C., for Appellee. ON BRIEF: William Curtis Elliott, Jr., Stanton Paul Geller, CULP ELLIOTT & CARPENTER, P.L.L.C., Charlotte, North Carolina, for Appellant. David A. Hubbert, Deputy Assistant Attorney General, Bruce R. Ellisen, Tax Division, UNITED STATES DEPARTMENT OF JUSTICE, Washington, D.C., for Appellee. USCA4 Appeal: 22-1573 Doc: 38 Filed: 05/31/2023 Pg: 2 of 18

NIEMEYER, Circuit Judge:

In this appeal, we review the U.S. Tax Court’s disallowance of a portion of a

corporation’s business deduction for bonuses paid to the corporation’s CEO, as well as the

court’s imposition of a penalty.

Clary Hood, Inc. (“Hood, Inc.”), a South Carolina corporation engaged in land

excavation and grading, with revenue of $44 million in 2015 and $69 million in 2016, paid

its CEO a $5 million bonus in both of those years, deducting the payments on its income

tax returns as reasonable business expenses under 26 U.S.C. § 162(a)(1). Following an

audit, the Internal Revenue Service (“IRS”) contended that the bonuses were excessive,

with the excess amount actually representing a disguised payment of dividends from

profits, which could not be deducted. The Tax Court mostly agreed with the IRS and

determined that Hood, Inc. could only deduct roughly $3.7 million for 2015 and $1.4

million for 2016 as reasonable amounts for total compensation to its CEO. Accordingly,

it assessed tax deficiencies for both years in the total amount of roughly $1.96 million, as

well as a penalty for 2016 in the amount of $282,398.

On appeal, we affirm the Tax Court’s findings with respect to the amount of

reasonable deductions and consequent tax deficiency but vacate the imposition of the

penalty.

I

Hood, Inc. was founded in 1980 as a subchapter C corporation, and during the period

relevant to this appeal, Clary Hood and his wife, Gail Hood, each owned 50% of the

2 USCA4 Appeal: 22-1573 Doc: 38 Filed: 05/31/2023 Pg: 3 of 18

company’s stock. They were also the only members of its board of directors, and Mr. Hood

served as the company’s CEO. From 2000 to 2010, the company averaged approximately

$21 million in revenue, earning an average of less than $1 million each year in net income

before taxes. Seeking to increase revenue, Mr. Hood decided in 2011 to pivot the company

away from retail-related projects to other commercial and industrial projects, and this

decision proved to be especially astute. Revenues immediately increased, and by 2015, the

company’s revenue had grown to $44 million and by 2016, to $69 million. Net income

bef

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