A covenant not to compete or other agreement with a employer will mean the personal relationships with clients become property of the employer. In 1972 Dr. Howard began practicing dentistry, and by 1980 he incorporated his practice. In 1980, Dr. Howard, the sole shareholder, entered into an employment agreement and a covenant not to compete with his wholly owned corporation. The agreement stated that for three years after he holds any stock, he was not to engage in any way in any business that would compete within 50 miles of his city. The agreement did not state whether he or the corporation owned the goodwill.
The practice was sold in 2002. The sale agreement allocated $549,900 to the practice good-will and $16,000 for a covenant not to compete with the new owner. The IRS sent notice indicating the sale of goodwill as a corporate asset and the receipt of the money is a dividend to Dr. Howard. He paid the amount due on the notice and soon filed suit.
Dr. Howard presented Washington case law to support the idea that professional goodwill is a community property right in dissolution cases. This was a good argument had the doctor not signed a non-compete agreement, giving it personally created goodwill. The court ruled that Dr.Howard signed away any right to what he created over the years while he was under a non-compete agreement. As such, all goodwill belonged to the corporation. This means that the capital gains became subject to double taxation, taxed at both the corporate and shareholder levels.