Hamill: Tylenol, Conway Twitty and the cost of reputation

Tylenol is under attack again. Many of you may remember the 1982 Tylenol cyanide deaths in the Chicago area.

Those deaths led to a massive recall of Extra Strength Tylenol products in what has since been regarded as a model of corporate response to a crisis.

Tylenol helps relieve pain and fever. Cyanide is a deadly poison. Hitler issued his top aides cyanide tablets to encourage suicide should his regime fall.

When the Israeli Mossad captured Adolph Eichmann in Buenos Aires in 1960, a large agent was tasked with wrestling him to the ground.

The purpose was to prevent Eichmann from ingesting cyanide, thereby preventing him from being placed on trial before the world.

How Tylenol saved its reputation from an association with such a horrible poison is now taught in business schools.

When Reagan-era Labor Secretary Raymond Donovan was acquitted of bribery charges, he asked the court, “Which office do I go to to get my reputation back?”

Reputation matters in business dealings. It therefore has market value. Payments received for reputation and payments made to protect reputation create tax issues.

When a good reputation helps to ensure a steady stream of business, the holder of that reputation may be said to have “personal goodwill.”

Goodwill is generally thought of as the value associated with continued patronage of a business.

That patronage may well come from a consumer’s belief that the seller has a strong reputation.

Many tax cases then deal with the issue of whether a business sale could include a direct payment to an individual for the value of his or her personal “goodwill.”

Payments made to protect or to recover someone’s business reputation may also be tax-deductible.

Legal costs associated with personal-type actions are not deductible. The IRS might contend that there is nothing more personal than your reputation.

But legal costs incurred to protect reputation might cross over from the nondeductible personal expense to the deductible business if the facts are right.

Such was the case in the Harold Jenkins tax court decision. Harold Jenkins, who died early at age 59, was better known by his stage name, Conway Twitty.

At the height of his popularity, which was considerable, Twitty tried to launch a chain of restaurants called “Twitty Burger.”

Funding came primarily from others in the country music industry. Merle Haggard was one of the largest investors.

Conway was not familiar with securities laws and failed to follow the required procedures to secure investors for his securities.

The chain failed. Investors lost a lot of money. The business was organized as a corporation to separate it from Twitty.

Some investors, including Haggard, threatened lawsuits over the securities law violations.

The whole experience was devastating to Twitty. He felt awful about his investors’ losses and the risk to his personal reputation.

Twitty ended up reimbursing all the investor losses from his own pocket. He claimed a tax deduction for these payments.

The IRS challenged these deductions for a reason well supported by precedent. The claimed deductions were not an obligation of Twitty.

That is, a business can deduct ordinary and necessary expenses it incurs. But one business cannot deduct the expenses of another business.

Twitty was clearly in the music business. He claimed the Twitty Burger payments as deductions for the music business.

But the IRS said the burger business was not related to the music business. Twitty responded that his personal reputation was at stake.

What would country music fans think of Twitty if they thought he swindled Haggard and other investors?

Twitty said his record sales would decline. An expert from Nashville testified that country music was unique in its connection between the performer and the fan.

A rock star like Jim Morrison could do terrible things and remain popular. The expert from Nashville said it was not so with country music.

Twitty’s payments were held deductible because they were made to protect his music business reputation.

The case is the only one where the Tax Court, in a footnote, wrote lyrics to a song to support the court’s holding.

The IRS issued a “non-acquiesce.” This means they don’t agree with the decision. Their non-acquiesce was also the lyrics to a song.

Reputation matters in business. Tylenol knows it. Conway Twitty knew it. And that knowledge may affect how tax returns are filed.