                          T.C. Memo. 1996-21



                        UNITED STATES TAX COURT



            HERITAGE AUTO CENTER, INC., Petitioner v.
           COMMISSIONER OF INTERNAL REVENUE, Respondent



     Docket No. 26362-92.                 Filed January 23, 1996.



     Patricia Tucker, for petitioner.

     Thomas F. Eagan, for respondent.



                MEMORANDUM FINDINGS OF FACT AND OPINION


     PARR, Judge:     Respondent determined deficiencies in

petitioner's Federal income tax for 1988 and 1989 of $482 and

$213,139, respectively.    By amended answer, respondent asserted

increased deficiencies for 1988 and 1989 of $78,277 and $31,929,

respectively.    Thus, the total deficiencies asserted by
                                    - 2 -

respondent for 1988 and 1989 are $78,759 and $245,068,

respectively.

     All section references are to the Internal Revenue Code in

effect for the taxable years in issue, and all Rule references

are to the Tax Court Rules of Practice and Procedure, unless

otherwise indicated.

     After an agreement between the parties,1 the issue for

decision is whether petitioner is entitled to deductions for

amortization of amounts paid to William Wright for a

noncompetition and consulting agreement.          We hold that it is to

the extent set out below.

                             FINDINGS OF FACT

     Some of the facts have been stipulated.           The stipulated

facts and the accompanying exhibits are incorporated into our

findings by this reference.       At the time of the filing of the

petition, petitioner, Heritage Auto Center, Inc., maintained its

principal place of business in Gladstone, Oregon.

     During the years at issue, petitioner had four shareholders:

E.W. Richardson, Bob Turner, Kenneth Blewett, and Wade Zellner

(Mr. Richardson, Mr. Turner, Mr. Blewett, and Mr. Zellner).              At

the date of trial, each one of these individuals had significant

experience in the automobile dealership business.            Mr. Richardson

had been in the automobile dealership business for approximately


1
      We leave it to the parties to include their agreed adjustments in their
Rule 155 computations.
                                - 3 -

27 years.   During this time, Mr. Richardson had owned and

operated dealerships which sold both domestic and imported

vehicles.   Mr. Turner had been in the automobile dealership

business for approximately 30 years.     During this time, Mr.

Turner had been involved in the ownership and operation of

several dealerships, and he had several positions with Ford Motor

Co.   Mr. Blewett had been in the automobile business for over 20

years.   Mr. Richardson, Mr. Turner, and Mr. Blewett, together,

had acquired and operated dealerships in Albuquerque, New Mexico;

Phoenix, Arizona; San Marcos, Texas; and San Antonio, Texas.      Mr.

Zellner had been in the automobile business for more than 25

years, participating in almost every aspect of running an

automobile dealership.

      Prior to the years at issue, William T. Wright (Mr. Wright)

solely owned two Washington corporations, W-T-W, Inc. and Totem

Lake Suzuki, Inc., which operated two automobile dealerships in

Kirkland, Washington.    The automobile dealerships did business

under the names Totem Lake Ford-Toyota and Totem Lake Suzuki

(sometimes Totem Lake dealerships).     Among other things, Mr.

Wright had engaged in sales promotion and advertising for the

Totem Lake dealerships, including the recording and broadcasting

of local television commercials.

      Prior to 1988, the Totem Lake dealerships and Mr. Wright had

suffered adverse publicity in the metropolitan Seattle,

Washington, area.   More specifically, in 1985, Mr. Wright,
                               - 4 -

individually, and W-T-W, Inc., were accused of consumer fraud by

the attorney general of the State of Washington (attorney

general).   On November 25, 1985, the attorney general, Mr.

Wright, and W-T-W, Inc., executed a consent decree which was

entered in the Superior Court for the State of Washington for

King County.   Under the terms of the consent decree, Mr. Wright

and W-T-W, Inc., were enjoined from participating in specific

fraudulent activities relating to the advertising, sale, repair,

or servicing of automobiles.   The lawsuit filed by the attorney

general and the controversial advertising practices of W-T-W,

Inc., were covered by the local press, with at least five

articles appearing in the Seattle Times newspaper during the

period from November 26, 1985, through January 8, 1986.

     In addition to the lawsuit brought by the attorney general,

Mr. Wright was also the subject of consumer lawsuits involving

allegedly fraudulent sales practices; these suits were still

pending in April of 1988.   Also in 1988, disgruntled customers

picketed the Totem Lake dealerships, and a picture of one of

these picketers and an article discussing the pickets appeared in

the Seattle Times on April 20, 1988.   Furthermore, on April 15,

1988, seven former employees of W-T-W, Inc., filed a complaint

against W-T-W, Inc., and Mr. Wright in the Superior Court of

Washington for King County, alleging, among other things, the

fraudulent endorsement of employee checks.
                               - 5 -

     Before the foregoing adverse publicity, the Totem Lake

dealerships had been very profitable.      However, due to this

adverse publicity, the dealerships sustained losses in 1986 and

1987.

     In late January or early February of 1988, Mr. Richardson,

Mr. Turner, and Mr. Blewett were in the market to acquire a

dealership in San Antonio, Texas.      While the group was in San

Antonio, Texas, investigating a possible purchase, Mr. Turner

received a call from Bobbie Koller (Ms. Koller), who was the

Western Regional Manager of Ford Motor Co.      Ms. Koller told Mr.

Turner that the Totem Lake Ford-Toyota dealership was in severe

financial trouble; furthermore, she wanted Mr. Richardson, Mr.

Turner, and Mr. Blewett to consider purchasing the dealership.

     Mr. Richardson, Mr. Turner, and Mr. Blewett flew directly

from San Antonio, Texas, to Seattle, Washington, to examine the

dealership.   After arriving in Seattle, Washington, Mr.

Richardson, Mr. Turner, and Mr. Blewett met directly with Mr.

Wright to discuss the possible acquisition of the assets of the

Totem Lake dealerships from Mr. Wright's corporations; they did

not want to purchase Mr. Wright's corporations because of the

potential liabilities against the corporations.

     At the time of this first meeting, Mr. Wright was offering

to sell the Totem Lake dealerships' assets for the same price he

had negotiated with another potential buyer, Douglas Spedding

(Mr. Spedding).   Although Mr. Wright had apparently reached a
                               - 6 -

deal with Mr. Spedding, the deal fell through, because Ford Motor

Co. had rejected Mr. Spedding as a potential franchisee.    Mr.

Richardson, Mr. Turner, and Mr. Blewett rejected Mr. Wright's

initial offer.

     After this first meeting, Mr. Richardson, Mr. Turner, and

Mr. Blewett decided that they would return to their hometown,

examine the financial statements of Mr. Wright's companies in

more depth, and schedule another appointment with Mr. Wright.

Mr. Richardson, Mr. Turner, and Mr. Blewett also had to decide

who would run the Totem Lake dealerships if they did consummate a

purchase from Mr. Wright.   Before going back to continue

negotiations with Mr. Wright, Mr. Richardson, Mr. Turner, and Mr.

Blewett asked Mr. Zellner if he would be interested in running

the Totem Lake dealerships.   Mr. Zellner indicated that he was

interested in running the dealerships.

     At the end of February or the beginning of March 1988, but

prior to March 4, 1988, Mr. Richardson, Mr. Turner, Mr. Blewett,

and Mr. Zellner (sometimes the buyers), along with William Hyde,

counsel for the buyers, went to Washington to negotiate with Mr.

Wright.   The negotiations were primarily between Mr. Wright and

Mr. Richardson.   The negotiations did not result in a purchase

agreement, because the purchase price requested by Mr. Wright was

too high for the buyers.

     Before leaving Washington, Mr. Richardson and Mr. Blewett

decided to make one more attempt to reach an agreement with Mr.
                                 - 7 -

Wright.   They held a meeting.   At that meeting, and pursuant to a

plan between Mr. Richardson and Mr. Blewett, Mr. Blewett stated

to Mr. Wright that he would not participate in any deal in which

the amount paid over the fair market value of the tangible assets

was more than $1,250,000.   After Mr. Wright refused that offer,

Mr. Blewett left the meeting.    Mr. Richardson and Mr. Wright

continued negotiating.   About 30 minutes after Mr. Blewett left

the meeting, Mr. Richardson emerged from the meeting stating that

he had made a deal with Mr. Wright for $1,350,000 over the amount

to be paid for tangible assets of the Totem Lake dealerships.

     After reaching the aforementioned agreement, Mr. Wright and

his counsel, Jerome Carpenter (Mr. Carpenter), met with the

buyers, and their counsel, Mr. Hyde, to discuss the details of

the agreement.   At this meeting, the details of the agreement

between Mr. Richardson and Mr. Wright were made known to the

others, and the attorneys were instructed to draft the

appropriate agreements for signature.    Mr. Carpenter's notes from

the meeting contain the entry "$1,350,000 Blue or Covenant Not to

Compete".   The parties have stipulated that Mr. Carpenter was

using the term "Blue" as a short hand expression for "goodwill".

Mr. Hyde's notes contain the notation "$1,350 K blue sky covenant

and goodwill".

     On March 4, 1988, the buyers entered into an agreement to

purchase the enumerated assets of the two Washington corporations

owned by Mr. Wright.   The agreement was titled "Purchase
                               - 8 -

Agreement and Escrow Instructions" (purchase agreement).   The

purchase agreement provided that "Buyer shall purchase all of

Seller's goodwill as a going concern for the total price of Two

Hundred Thousand Dollars ($200,000)", and that "Seller will

preserve for Buyer the goodwill of the Dealerships, including the

goodwill of its suppliers, customers and others having business

relations with the Dealerships".   The noncompetition agreement

attached to the purchase agreement (noncompetition agreement)

provided that $1,150,000 would be paid to Mr. Wright at closing

for his agreement not to compete with the buyers for a period of

3 years.   The agreement to allocate $200,000 to goodwill and

$1,150,000 to the covenant not to compete was reached by Mr.

Richardson and Mr. Wright; Mr. Turner, Mr. Blewett, Mr. Zellner,

and Mr. Hyde all testified that they did not know the basis of

these allocations, since none of them were involved in this part

of the negotiations.

     Shortly after the execution of the purchase agreement, Mr.

Carpenter sent a letter, dated March 7, 1988, to Mr. Hyde.    In

regard to goodwill and the covenant not to compete, the letter

read as follows:

     The parties will readjust the good will/covenant not to
     compete if it is determined that the manner of the
allocation (i.e. $200,000 to good will and $1,150,000 to the
     covenant not to compete) is not in the best interest of Mr.
     Wright. I recognize, however, that, as far as this
allocation is concerned, your client desires to have at      least
$100,000 applied to good will and does not desire to    have a
great deal more applied to good will.
                               - 9 -

     Under a cover letter dated April 7, 1988, Mr. Carpenter sent

Mr. Hyde a draft addendum to the purchase agreement; the draft

addendum was titled "Noncompetition and Consulting Agreement"

(draft noncompetition and consulting Agreement).   The draft

noncompetition and consulting agreement enclosed in Mr.

Carpenter's April 7, 1988, letter to Mr. Hyde provided, in

pertinent part, that:   (1) The buyers would pay Mr. Wright

$675,000 on the closing date as consideration for his covenant

not to compete; (2) the buyers would employ Mr. Wright as a

consultant for a period of 3 years, paying Mr. Wright $675,000 in

cash, payable in three equal annual installments of $225,000; and

(3) the buyers would also pay Mr. Wright a per diem fee of $1,000

per day for each and every day, or part thereof, that Mr. Wright

expended any time consulting in any fashion with the buyers,

whether such consultation was by telephone or in person.

     Mr. Hyde went over Mr. Carpenter's letter and the

accompanying draft noncompetition and consulting agreement, and

he discussed the proposed agreement with the buyers.    After his

discussions with the buyers, Mr. Hyde prepared and faxed a letter

to Mr. Carpenter; the letter was received by Mr. Carpenter on

April 11, 1988.

     In regard to the consulting portion of the draft

noncompetition and consulting agreement, Mr. Hyde's letter

suggested adding the following sentence:   "Buyer may prepay these

payments at any time, without penalty or terminating the
                               - 10 -

agreement", commenting that this "will allow us to prepay the

agreement, without impairing our ability to deduct the payments."

Mr. Hyde also suggested, among other things, that the entire

paragraph on per diem payment for consulting services be deleted,

commenting that the "inclusion of additional consulting fees,

especially at this high rate, makes the $675,000 fee look like a

sham, and endangers its deductibility."

     After the above correspondence and negotiation, the parties

entered into an "Addendum to Purchase Agreement and Escrow

Instructions" (addendum).   The addendum amended the purchase

agreement to provide that no portion of the purchase price would

relate to goodwill and that "All good will of the business of

Seller is not to be assigned any value."   The addendum also

provided for the execution of a noncompetition and consulting

agreement (final agreement) attached to the addendum.

     The final agreement provided that the buyers would pay Mr.

Wright $675,000 at closing in exchange for his covenant not to

compete for a period of 3 years.   More specifically, Mr. Wright

agreed not to compete with the buyers, directly or indirectly,

either as an employer, employee, consultant, agent, officer,

director, shareholder, or owner of any entity, for a period of 3

years, in the business of retail sale or repair of Toyota, Ford,
                                   - 11 -

or Suzuki automobiles.2      Mr. Wright further agreed not to solicit

or otherwise encourage any present or future employee of the

buyers to perform work in auto sales or repairs for him for a

period of 3 years.     The covenant not to compete covered a radius

of 50 miles around Kirkland, Washington.          The final agreement

further provided that the consideration of $675,000 paid for the

covenant not to compete was not reimbursable in the event of the

death or disability of Mr. Wright.

     The buyers believed that the noncompetition portion of the

final agreement was necessary for a number of reasons.             First,

the buyers were concerned that Mr. Wright would recruit employees

from the Totem Lake dealerships to work in his Chevrolet-Nissan

dealership.    Second, the buyers were concerned that Mr. Wright

would obtain employment from one of the 21 Ford dealerships or 19

Toyota dealerships in the Seattle, Washington, area, where he

could use his industry contacts and experience to the detriment

of the buyers.

     The consulting portion of the final agreement required the

buyers to pay Mr. Wright $675,000 in three equal annual

installments of $225,000 to secure his services as a consultant

for 3 years, or the buyers could prepay this amount at any time

without penalty.     Mr. Wright's obligation to consult was limited


2
      Mr. Wright also owned a low-volume Chevrolet-Nissan dealership in the
Seattle metropolitan area. The terms of the Noncompetition and Consulting
Agreement did not prevent Mr. Wright from continuing to operate the Chevrolet-
Nissan dealership.
                               - 12 -

to a maximum of 5 days a month, not to exceed 15 days a calendar

quarter.   Mr. Wright's right to receive $225,000 per year for the

consulting portion of the agreement was absolute and

unconditional.   The buyers could terminate the agreement after 1

year, but the right to terminate was conditioned upon the buyers'

full payment of the entire $675,000 to Mr. Wright.

     Petitioner contends that the consulting portion of the final

agreement was necessary, because it needed Mr. Wright's

assistance in dealing with Toyota.      In fact, following the

purchase of the assets of the Totem Lake dealerships, Mr. Wright

did provide consulting services to petitioner.      Mr. Zellner, who

was the general manager of petitioner after the asset

acquisition, talked with Mr. Wright a total of 12 times regarding

problems petitioner was having with Toyota, although each

conversation lasted less than 20 minutes.      In addition to his

assistance with Toyota, Mr. Wright also consulted with petitioner

regarding financial institutions in the Seattle, Washington,

area, but the evidence regarding these consultations is sparse.

     As discussed above, the purchase agreement had allocated

$200,000 of the buyers' purchase price to goodwill and going

concern value.   Furthermore, the noncompetition agreement

provided that $1,150,000 would be paid to Mr. Wright at closing

for his covenant not to compete with the buyers for a period of 3

years.   Thus, sometime between March 7, 1988, when Mr. Carpenter

sent a letter to Mr. Hyde discussing the purchase agreement, and
                                 - 13 -

the date the addendum and associated final agreement were

executed, the parties changed their purchase price allocations.

Mr. Blewett testified that he did not know how these changes came

about, stating that he "was not involved in that, at all."

Similarly, both Mr. Zellner and Mr. Hyde testified that they did

not know how the decision was made to make these changes.     When

asked if he remembered how the changes came about, Mr. Turner

testified:   "Well, I remember that we didn't understand why there

would be any good will.    I mean, there was just the opposite."

More directly, in regard to the allocation, Mr. Turner testified

that "there was no good will."

     Petitioner was incorporated on or about March 10, 1988, in

the State of Washington.    The buyers assigned to petitioner and

to Heritage Suzuki, Inc., another Washington corporation owned by

them, their interests in the purchase agreement.     In connection

with the purchase of the assets of the Totem Lake dealerships,

petitioner obtained new dealership franchises from Ford Motor

Co., Toyota Motor Sales, U.S.A., Inc., and Suzuki Co. of America,

and it operated the related dealerships under the names of

Heritage Auto Center (Ford-Toyota) and Heritage Suzuki.

Following the purchase of the assets of the Totem Lake

dealerships, petitioner and Heritage Suzuki, Inc., advertised the

fact of new ownership to the public.      Disgruntled customers who

were picketing the Totem Lake dealerships stopped picketing the

day that petitioner and Heritage Suzuki, Inc., took over.
                               - 14 -

     After operating the Suzuki dealership for a short time,

petitioner terminated the Suzuki franchise because of adverse

consumer reports concerning Suzuki automobiles.   Heritage Suzuki,

Inc., discontinued operations as an authorized Suzuki dealer

during January 1989, and it was merged into petitioner on March

22, 1989.   Thereafter, petitioner used the Heritage Suzuki

facilities for repair services and the sale of used vehicles and

parts.

     On the E.W. Richardson Dealerships' combined financial

statements dated December 31, 1988, and on petitioner's separate

financial statements dated December 31, 1989, and December 31,

1990, payment for the final agreement was treated as payment for

goodwill and was amortized on a straight-line basis over 40

years.   However, the financial statement treatment was not

consistent with petitioner's income tax treatment of the

transaction.

     The $675,000 allocated to the covenant not to compete was

prepaid at closing.   The $675,000 allocated to the consulting

agreement was also prepaid at closing.

     Petitioner attached Form 8594, Asset Acquisition Statement

Under Section 1060, to its Federal income tax return, Form 1120,

filed for the taxable year 1988.   On that form, petitioner

reported $675,000 for the covenant not to compete and $675,000

for the consulting agreement as the fair market value of

intangible, amortizable assets with useful lives of 3 years.     On
                               - 15 -

its 1988 Federal income tax return, petitioner deducted $187,500

for amortization of the covenant not to compete and $187,500 for

amortization of the consulting agreement for a total deduction of

$375,000.   In 1989 and 1990, petitioner deducted $225,000 for

amortization of both the covenant not to compete and the

consulting agreement for a total deduction of $450,000 each year.

     In the notice of deficiency, respondent disallowed

petitioner's 1988 and 1989 deductions.   Respondent tentatively

allowed petitioner's deductions of $383,165 and $151,023 for the

taxable years 1988 and 1989, respectively, for the carryback of a

net operating loss (NOL) from petitioner's 1990 Federal income

tax return.   The NOL reported on petitioner's 1990 Federal income

tax return resulted in part from deductions totaling $450,000 for

amortization of the amounts allocated to the covenant not to

compete and the consulting agreement.

     By amended answer, respondent disallowed the 1990 deductions

related to the covenant not to compete and the consulting

agreement, thereby reducing petitioner's NOL carrybacks to 1988

and 1989 by $450,000.   Thus, respondent limited petitioner's

claimed NOL for 1988 and 1989 to only $84,188 for 1988.

                              OPINION

Issue 1. Whether the Final Agreement Is Amortizable

     Respondent disallowed petitioner's deductions for the

amortization of the final agreement.    Respondent argues that the

payments were, in substance, payments for the sale of
                                   - 16 -

nonamortizable goodwill or going-concern value.           Petitioner

asserts that such deductions are allowable.

     In general, goodwill has been defined as the expectancy that

old customers will resort to the old place of business.             Newark

Morning Ledger Co. v. United States, 507 U.S. ___, ___, 113 S.

Ct. 1670, 1675-1676 (1993); Metallics Recycling Co. v.

Commissioner, 79 T.C. 730, 742 (1982), affd. 732 F.2d 523 (6th

Cir. 1984).    Going-concern value is similar to goodwill in that

it reflects "the additional element of value which attaches to

property by reason of its existence as an integral part of a

going concern."     VGS Corp. v. Commissioner, 68 T.C. 563, 591

(1977).

     Amounts paid by a buyer for goodwill or going-concern value

yield capital gain to the seller with the buyer acquiring an

intangible asset that may not be amortized.          Throndson v.

Commissioner, 457 F.2d 1022, 1024 (9th Cir. 1972), affg. Schmitz

v. Commissioner, 51 T.C. 306 (1968); Computing & Software, Inc.

v. Commissioner, 64 T.C. 223, 232 (1975); sec. 1.167(a)-3, Income

Tax Regs.3    On the other hand, amounts paid by a corporation for

services, including consulting fees, are includable as ordinary

income by the service provider and deductible by the corporation.

Secs. 162(a)(1), 61; Ruge v. Commissioner, 26 T.C. 138, 143

3
      Compare sec. 197, enacted as part of the Omnibus Budget Reconciliation
Act of 1993, Pub. L. 103-66, sec. 13261(a), 107 Stat. 312, 553, which allows
for 15-year amortization of acquired intangible assets, including, inter alia,
goodwill and going-concern value. Sec. 197. This provision generally applies
to intangibles acquired after Aug. 10, 1993.
                                   - 17 -

(1956).   Similarly, amounts paid by a buyer for a covenant not to

compete result in ordinary income to the covenantor, since they

represent a substitute for ordinary income and may be amortized

by the buyer over the covenant's useful life.           Throndson v.

Commissioner, supra at 1024; Ullman v. Commissioner, 264 F.2d

305, 307 (2d Cir. 1959), affg. 29 T.C. 129 (1957); sec. 1.167(a)-

3, Income Tax Regs.

     The economic substance of a transaction, rather than the

form in which it is cast, is controlling for Federal income tax

purposes; thus, courts may pierce the form of a transaction and

tax the substance.     Griffiths v. Commissioner, 308 U.S. 355, 356-

357 (1939); Gregory v. Helvering, 293 U.S. 465, 469 (1935).              The

underlying philosophy of the "substance over form" doctrine is to

prevent taxpayers from attempting to subvert the taxing statutes

by relying upon mere legal formality.         Major v. Commissioner, 76

T.C. 239, 246 (1981).      This doctrine is applicable in cases such

as the one at bar, where the Commissioner is challenging an

express contractual allocation.        See Schulz v. Commissioner, 294

F.2d 52, 56 (9th Cir. 1961), affg. 34 T.C. 235 (1960); O'Dell &

Co. v. Commissioner, 61 T.C. 461, 467 (1974).4           The burden of



4
      This is not a case where the taxpayer is asserting that the substance of
the agreement it entered is at variance with its form. In such a case, courts
have either required strong proof that the substance of the agreement was
different than its form, or they have limited the type of evidence that a
taxpayer may offer when attacking the contractual allocation. E.g.,
Commissioner v. Danielson, 378 F.2d 771, 775 (3d Cir. 1967), vacating and
remanding 44 T.C. 549 (1965); Ullman v. Commissioner, 264 F.2d 305, 308 (2d
Cir. 1959), affg. 29 T.C. 129 (1957).
                                   - 18 -

proving that the form of a transaction should be respected is on

the taxpayer.    Rule 142(a); INDOPCO, Inc. v. Commissioner, 503

U.S. 79, 84 (1992).5

     Generally, a contractual allocation will be upheld if it has

"economic reality", i.e., some independent basis in fact or some

arguable relationship with business reality so that reasonable

persons might bargain for such an agreement.           Schulz v.

Commissioner, supra at 55.       To determine whether a contractual

allocation has economic reality, we examine the facts and

circumstances of the particular case.         See id. at 54; Major v.

Commissioner, supra at 250.       If the parties to a contract have

adverse tax interests, we give more deference to the form of

their agreement.     The rationale for this rule was articulated by

one court as follows:

     The tax avoidance desires of the buyer and seller in such a
     situation are ordinarily antithetical, forcing them, in most
     cases, to agree upon a treatment which reflects the parties'
     true intent with reference to the covenants, and the true
     value of them in money. [Ullman v. Commissioner, supra at
     308.]

However, if the parties to a contract do not have adverse tax

interests, we carefully scrutinize their contractual allocations.

Schulz v. Commissioner, supra; Buffalo Tool & Die Manufacturing

Co. v. Commissioner, 74 T.C. 441, 447-448 (1980); Lemery v.



5
      Respondent has the burden of proof regarding the increased deficiencies
asserted in her amended answer, and we have jurisdiction to consider such
increased deficiencies. Sec. 6214(a); Rule 142(a); Rudie v. Commissioner, 49
T.C. 131, 138 (1967).
                                   - 19 -

Commissioner, 52 T.C. 367, 376 (1969), affd. per curiam 451 F.2d

173 (9th Cir. 1971).

     When there is a difference between the tax rates applied to

ordinary income and capital gains, the tax interests of buyers

and sellers in the allocations between goodwill and covenants not

to compete or consulting agreements are antithetical.              In such

instances:

     Sellers [prefer] allocations to goodwill because gain on a
     sale of goodwill is capital gain, while amounts received for
     a covenant not to compete are ordinary income. Buyers, in
     contrast, prefer allocations to covenants not to compete
     because amounts so allocated can be written off over the
     period covered by the covenant, whereas the cost of goodwill
     is not depreciable and produces no tax benefit until the
     goodwill is sold or lost. * * * [Bittker & Lokken, Federal
     Taxation of Income, Estates and Gifts, par. 4.4.6, at 4-74
     to 4-75 (2d ed. 1993).]

     For years in which capital gain and ordinary income are

taxed at the same rate, sellers and buyers will generally lack

such tax adversity.      Sellers will be indifferent as to whether

they will be required to recognize capital gain or ordinary

income, and hence may have no tax stake in the allocation between

goodwill and covenants not to compete or consulting agreements.6

Buyers, however, will still desire allocations to covenants not

to compete or consulting agreements, because such agreements

generate tax deductions.




6
      A well-noted exception is a seller who has capital losses.   See sec.
165(f).
                                   - 20 -

       The Tax Reform Act of 1986, Pub. L. 99-514, sec. 101(a), 100

Stat. 2085, 2096, eliminated the tax rate differential between

ordinary income and capital gains.          Staff of Joint Comm. on

Taxation, General Explanation of the Tax Reform Act of 1986, at

178, 181 (J. Comm. Print 1987).       This lack of a tax rate

differential continued through the years at issue.          Sec. 1(a),

(j).

       In the case at bar, respondent has noted this lack of a tax

rate differential, and she argues that the buyers and Mr. Wright

did not have adverse tax interests when negotiating the

allocations which are the subject of this case.         We agree.

Accordingly, we strictly scrutinize these allocations.          Schulz v.

Commissioner, supra; Buffalo Tool & Die Manufacturing Co. v.

Commissioner, supra at 447-448; Lemery v. Commissioner, supra at

376.

       In this case, the consulting agreement and the covenant not

to compete were integrated into a single agreement.          We will

consider the consulting agreement and the covenant not to compete

separately to determine whether the payments were for the

purposes designated by the parties.

       a.   Consulting Agreement

       Petitioner asserts that it should be entitled to claim

deductions for the amortization of the purchase price of the

consulting portion of the final agreement (consulting agreement).

Respondent determined that the allocation to the consulting
                                 - 21 -

agreement lacked economic significance and was in substance a

disguised payment for goodwill or going-concern value.

     Petitioner argues that the consulting agreement has economic

significance, because it needed Mr. Wright's assistance in

dealing with Toyota.   We recognize that Mr. Wright had extensive

knowledge and experience in dealing with Toyota, and that this

knowledge and experience would be helpful to petitioner.

Furthermore, Mr. Wright did consult with petitioner's

shareholders regarding Toyota.

     Respondent argues that petitioner's shareholders would have

little, if any, need to consult with Mr. Wright.    Petitioner's

shareholders had extensive experience in the domestic and

imported automobile dealership business, including experience

with a Japanese manufacturer.     However, petitioner's shareholders

had no experience dealing with Toyota.

     The negotiations which culminated in the creation of the

consulting agreement were conducted between Mr. Richardson and

Mr. Wright, neither of whom testified.    There was evidence that

the buyers rejected the per diem portion of the proposed

consulting agreement, because, according to their counsel, it

made the consulting agreement look like a "sham".

This sparse evidence regarding the negotiation of the consulting

agreement does not indicate that the agreement had economic

substance.   Schulz v. Commissioner, 294 F.2d at 54-55; Buffalo

Tool & Die Manufacturing Co. v. Commissioner, supra; Major v.
                               - 22 -

Commissioner, 76 T.C. 239 (1981).   Furthermore, the fact that the

Mr. Wright's right to receive $225,000 per year for consulting

was absolute and unconditional indicates that the payment was

not, in substance, for consulting services.   See Coven v.

Commissioner, 66 T.C. 295, 304 (1976).

     There was no meaningful evidence of the negotiations which

resulted in the allocation of the amounts set forth in the

consulting agreement.   Thus, we examine events subsequent to the

execution of the agreement to determine whether the allocation

had independent economic significance.   The minimal number of

consultations subsequently provided by Mr. Wright, coupled with

the paucity of evidence regarding the nature, scope, and value of

such services, indicates that the allocation of $675,000 did not

have an arguable relationship with business reality.   However, we

recognize that a reasonable person in the position of the buyers

would pay some consideration for a consulting agreement with Mr.

Wright.

     On this record, we find that the consulting agreement had a

value of $1,200.   Consequently, only $1,200 of the amount

allocated to the consulting agreement is properly allocable

thereto.   Seaboard Fin. Co. v. Commissioner, 367 F.2d 646, 652

(9th Cir. 1966); Peterson Machine Tool, Inc. v. Commissioner, 79

T.C. 72, 86 (1982), affd. 54 AFTR 2d 84-5407, 84-2 USTC par. 9885

(10th Cir. 1984); cf. Concord Control, Inc. v. Commissioner, 78

T.C. 742 (1982).   Accordingly, petitioner may claim deductions
                                - 23 -

for the amortization of $1,200 over the term of the consulting

agreement.   With respect to the remaining portion of the amount

allocated to the consulting agreement, we affirm respondent's

determination.

     b.   Covenant Not To Compete

     Turning to the covenant not to compete contained in the

final agreement (covenant), petitioner argues that it is entitled

to claim deductions for the amortization of the amounts paid for

the covenant.    Respondent argues that such deductions are not

allowable.

     We believe that the buyers were genuinely concerned that Mr.

Wright would recruit employees from the Totem Lake dealerships to

work in his Chevrolet-Nissan dealership.    Furthermore, we believe

that the buyers were concerned that Mr. Wright would obtain

employment from one of the 21 Ford or 19 Toyota dealerships in

the Seattle, Washington, area, where he could use his industry

contacts and experience to the detriment of the buyers.      These

two findings are probative of the economic substance of the

covenant.    O'Dell & Co. v. Commissioner, 61 T.C. at 469.    In

addition, the fact that the covenant appears to be genuinely but

realistically restrictive, extending over a 50-mile area for a

period of 3 years, indicates that the covenant had independent

economic significance.    Schulz v. Commissioner, supra at 54;

O'Dell & Co. v. Commissioner, supra at 469.
                                - 24 -

      Respondent argues that the allocation of $675,000 of the

purchase price to the covenant lacked economic significance,

noting that Mr. Wright's reputation was so tarnished as to

effectively eliminate him as a competitive threat.   Although we

agree that Mr. Wright's reputation was tarnished, we nonetheless

believe that the buyers were genuinely concerned that he could be

a competitive threat.   We believe that a reasonable person in the

position of the buyers would bargain for a noncompetition

agreement from Mr. Wright.   See Schulz v. Commissioner, supra at

55.   However, taking into account that Mr. Wright suffered such

extensive adverse publicity, we do not believe that an allocation

of $675,000 is supportable on this record.

      We find that the noncompetition covenant had a value of

$337,500.   Therefore, $337,500 of the amount allocated to the

covenant is properly allocable thereto.    Seaboard Fin. Co. v.

Commissioner, supra at 652; Peterson Machine Tool, Inc. v.

Commissioner, supra at 86; cf. Concord Control, Inc. v.

Commissioner, supra.    Accordingly, petitioner may claim

deductions for the amortization of $337,500 over the term of the
                                 - 25 -

covenant.   In regard to the remaining portion of the amount

allocated to the covenant, we affirm respondent's determination.

     To reflect the foregoing,



                                      Decision will be entered

                                 under Rule 155.
