## Facts

- Kopp’s Company, Inc., a closely held Maryland lumber and building-supply corporation, was owned and controlled by Earl and Jean Kopp.
- The company owned an automobile that the Kopps’ adult son, Wayne, was permitted to use while home on military leave.
- Wayne, using the company car for personal purposes, caused an accident that severely injured Warren T. Danner.
- Wayne had a poor driving record (multiple speeding convictions, prior accidents, and license suspension/revocation), and Earl Kopp knew of this history.
- Danner sued the company, Earl, Jean, and Wayne in state court, asserting damages exceeding $4 million and alleging, among other theories, negligent entrustment.
- The company’s counsel advised that the company likely faced liability for negligent entrustment due to Wayne’s record and Earl’s knowledge.
- The lawsuit disrupted business operations: the company’s bank froze its credit line, suppliers expressed concern, and financial statements reflected a contingent liability.
- The case settled with the company paying $50,000 and incurring more than $3,000 in legal fees.
- The company deducted the settlement and legal fees as ordinary and necessary business expenses under I.R.C. § 162(a); the IRS disallowed the deduction, assessed a deficiency and interest, and the company paid and sued for a refund.

## Issues

1. Whether the settlement payment and related attorneys’ fees were deductible under I.R.C. § 162(a) as ordinary and necessary expenses incurred in carrying on the corporation’s business.
2. Whether the “origin of the claim” doctrine required denial of the deduction because the precipitating conduct involved the son’s personal use of the vehicle rather than business activity.

## Decision

- The Fourth Circuit reversed the district court and held the settlement and legal fees were deductible under I.R.C. § 162(a).
- The court concluded the origin of the claim, as against the corporation, was a bona fide tort claim alleging negligent entrustment by the corporate owner of the vehicle.
- The court treated the payment and fees as business-motivated expenditures made in response to realistic corporate liability and significant threats to the company’s credit and operations.
- A dissent would have affirmed, viewing the claim’s origin as the son’s personal driving and the expenditures as essentially personal/family in nature.

## Legal Principles

- Deductibility of litigation-related expenses turns on the origin and character of the claim as to the taxpayer seeking the deduction, not merely on the claim’s potential economic consequences.
- A corporation’s settlement payments and legal fees may qualify as “ordinary and necessary” business expenses under I.R.C. § 162(a) when the corporation is sued for alleged negligent corporate conduct (including negligent entrustment of corporate property).
- Expenses are more likely deductible where the corporation faces substantial, independent exposure to liability and incurs costs in reasonable response to protect business operations and credit, even if the triggering events include personal conduct by an individual connected to the corporation.

## Conclusion

The Fourth Circuit held that a corporation may deduct, under I.R.C. § 162(a), settlement payments and related legal fees incurred to resolve negligent-entrustment claims arising from use of a company-owned vehicle, where the corporation faced realistic direct liability and the litigation materially threatened the business.


Kopp’s Co. v. United States, 636 F.2d 59 (4th Cir. 1980)