Income approach

What is Income approach?

The income approach applies an independent investor test: would an outside investor be satisfied with the return, given the financial performance of the business and what the employee was paid. It needs a fair market value for the business in each year examined.

Source: Methodology

How it shows up in a Study

A Study records which approaches carry weight in a file and why, based on the facts captured at intake. The income approach depends on a fair market value for the business in each year examined.

What a Reviewer checks

The first question is whether the approach fits the file at all, since it needs a business value for every year under review. If it is used, a Reviewer checks where each value came from, whether it covers the same years as the compensation being tested, and whether the written reasoning connects the investor-return test to what the employee was actually paid.

Public source

IRS, Reasonable Compensation Job Aid for IRS Valuation Professionals (2014), which describes the independent investor test. The document states on its own face that it is not an official IRS position. Source: https://www.irs.gov/pub/irs-lbi/Reasonable%20Compensation%20Job%20Aid%20for%20IRS%20Valuation%20Professionals.pdf

Not tax advice.

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Reasonable compensation for S corporation owners