In the past few months there has been much discussion in the valuation community about the March court case, Kress v. United States of America, Case No. 16-C-795, U.S. District Court, E.D. Wisconsin (March 25, 2019). This case has become significant because the government’s expert used a valuation methodology that differs from the IRS’ and the government’s traditional stance on the tax treatment of S-Corporations for valuation purposes. It should be noted that this was a district court decision; not a tax court decision.

In the Kress case, both the Kress’ experts and the government’s expert “tax-affected” when valuing the subject S-Corporation. S-Corporations are generally not subject to entity-level taxation like C-Corporations. Instead, S-Corporation shareholders are taxed on entity earnings at their personal tax rate rather than at the corporate or dividend tax rate. By “tax-affecting” the S-Corporation’s earnings, the valuation professional attempts to account for the S-Corporation shareholder’s tax burden in determining the value of the business, even though no entity level tax exists.