Employee Non-compete buyout

I've got a client that bought their way out of a non-compete clause while employed as a W-2 employee, the first half of 2015, and worked as a self-employed individual the second half of 2015, directly related to this buyout.

I'm unable to find any information on how to treat the buyout amount in the Master Tax Guide or elsewhere. Should it be expensed or amortized? ...against the employee (Schd-A) or the self-employed individual?

I've found how the employer is supposed to treat this, but I need to reference why I've treated this buyout payment the way that I've had.

Thank you, for your help or guidance.

- Robert

Can you clarify the facts a bit? Or confirm my understanding? He worked for a company under an employment agreement that included a non-compete agreement. While working there, he paid an amount to his employer so that he would not be restricted from competing. After that, he started (or did he buy) a business that he began to operate as a Schedule C proprietorship. Are those the facts? Or is it possible his new business is an entity? And is it possible that he (or the entity) paid the employer after he started to operate the business?

A very short cut in since I am almost buried in the last minutes tax return filing.

Did your client pay some "consideration" to the employer and bought their way out of non-compete clause? Can he amortize the expense as section 197 amortized over 15 years on schedule C if he file the self-employed income as a schedule C filer? The question is if he switch to a W-2 again in 2-3 years? How can he write off the unused section 197 intangibles?

Have similar situation for 2016.

The individual worked as an employee (at the first organization) and was hired as a contract-employee, by another organization, which required him to buyout his contract with the first employer. In order to take on the contract work, he was requires to pay the (first) employer in order to do so. Other than the normal wages (W-2), there was no other amounts related to this agreement that was exchanged until the buyout was paid.

I've only been able to find how the employer is to treat the situation, if the employer was paying the employee, which is to amortize it over 15 years.

In order for 197 to apply (that's the 15-year amortization), he needs to have acquired a covenant in connection with acquiring a business. I don't think he has done either.

It's probably a miscellaneous itemized deduction.if he's an employee in the new situation, which is unclear from your facts. If he is an independent contractor, it's probably a 162 business deduction on Schedule C. How much are we talking about here?

Was it:
a) I violated the noncompete so here is the $ due you under the agreement?
or b) I will pay you X if you cancel this noncompete?

I lean toward Nilodop's misc itemized deduction.

This article covers the treatment under various scenarios, but assumes the employee went from one employment as an employee to another also as an employee. I can easily extrapolate from that scenario to the one where he is self-employed as a contractor and say it is a Schedule C deduction. http://repository.law.umich.edu/cgi/vie ... t=articles

Any thoughts on reg 1.263(a)-4(d)(7)(I)(C)?

First thought would be that he is not terminating the agreement. Rather, he is paying liquidated damages for violating it.

That's a good thought, I don't really know the applicability of this reg and couldn't find anything on point. I didn't see that they tackled this reg in that Florida law review, I wish they did.

I apologize, I thought I made it clear that he was previously an employee (buying his way out of a non-compete agreement) in order to take on another opportunity that would be treating as an outside contractor.

Thanks, Nilodop, the link you posted was what I had been searching for (and the type of example that I most related to this individual's situation).

Terry and I both seem to have memory issues. I say seem, but as to me, there is little doubt.

The issue in this thread kept me up all night (no, not really), so I assigned my crack research department and, smirks barely concealed, they referred me to PLR 200127022, which is linked in this thread, viewtopic.php?f=8&t=1602, in which both Terry and I had posted! The facts are a little different, but the thread is informative and not inconsistent with the above discussion. Bottom line, the facts are very important, and it appears there are pretty good arguments and a degree of receptivity by IRS, to the notion that there may not have been a termination of the contract.