T.C. Memo. 1995-575
UNITED STATES TAX COURT
WINTHROP B. AND SALLY L. ORGERA, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 17414-93. Filed December 4, 1995.
William D. Hartsock,1 for petitioners.
Sherri S. Wilder, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
GERBER, Judge: Respondent determined a $99,344 deficiency
in petitioners' 1990 income tax. Respondent also determined a
$19,869 penalty under section 6662(a).2 The deficiency includes
1
William D. Hartsock entered his appearance after trial for
involvement in posttrial briefing.
2
Section references are to the Internal Revenue Code in
(continued...)
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a 10-percent tax for premature distribution from a qualified
plan. After concessions by the parties, the issues remaining for
our consideration are: (1) Whether petitioners successfully
rolled over a 1990 plan distribution of $246,647 or whether it
was taxable; (2) if the distribution was taxable, whether it was
subject to the 10-percent additional tax for premature
distribution under section 72(t); (3) whether the distribution is
a lump-sum distribution that meets the requirements for income
averaging under section 402(e); and (4) whether petitioners are
liable for a $19,869 accuracy-related penalty for negligence or
disregard of rules and regulations for failing to report the
pension distribution and other income.
FINDINGS OF FACT
Petitioners resided in San Juan Capistrano, California, at
the time their petition was filed. As of July 18, 1990, each of
petitioners was less than 54 years of age. Winthrop Orgera
(petitioner) was employed as a pilot by Western Air Lines, Inc.
(Western), prior to July 18, 1990. Petitioner participated in
Western's Pilots' Variable Pension Plan (Plan), of which Sumitomo
Bank was the trustee. Petitioner made voluntary contributions to
the fund, and, on July 18, 1990, he received a $246,647.68 cash
distribution from the Plan. The Plan's assets were distributed
2
(...continued)
effect for the tax year under consideration. Rule references are
to this Court's Rules of Practice and Procedure.
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because Delta Airlines had bought out Western and did not wish to
continue Western's pilots' Plan.
Petitioner met with Thomas Supinski of the Western Federal
Credit Union (credit union) regarding the rollover of his Plan
distribution. Mr. Supinski and the credit union were attempting
to assist Western's employees to roll over their distributions
into individual retirement accounts (IRA). The credit union had
been connected with Western, petitioner's former employer. Mr.
Supinski recommended the use of the First National Bank of Onaga,
Kansas (Kansas bank), to open an IRA. As of August 17, 1990,
petitioner had completed an IRA application and a rollover
certification with the Kansas bank. Petitioner also executed a
trading authorization that appointed Thomas Supinski as the IRA
account representative of account No. 41003212, which was applied
for at the Kansas bank.
In addition to the cash distribution, petitioner expected
that he would receive a distribution, in kind, of illiquid assets
and that the Kansas Bank would be trustee for the assets that
might be received by the IRA account. The illiquid assets
represented about 9 or 10 percent of the total amount to be
distributed from the Plan to Western pilots, including
petitioner. It was Mr. Supinski's understanding that
petitioner's Kansas bank IRA was exclusively for the illiquid
assets. Petitioner did not understand that the Kansas bank IRA
did not cover the cash portion of the Plan distribution. Mr.
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Supinski tried to persuade petitioner to invest the $246,647.68
cash distribution in certain financial products and to include
them in the IRA. Petitioner advised Mr. Supinski that he was
going to handle the cash distribution himself and set up his own
IRA.
On August 17, 1990, petitioner deposited $239,641.91 in
money market account No. 9 at the credit union, and he retained
the $7,005.77 difference (between the distribution and the
deposit). On February 20, 1992, petitioners withdrew $139,126
from account No. 9 and deposited it into a qualified IRA with
Charles Schwab & Co., Inc. Prior to the February 20, 1992,
transaction, petitioners had withdrawn a total of $196,919.68
from account No. 9. Of the $196,919.68, $101,475.21 was
redeposited into petitioners' regular share account with the
credit union, account No. 1. In addition, $50,000 of the
$196,919.68 was withdrawn on August 21, 1990, and used by
petitioners in connection with the building of their home.
Petitioners did not report any portion of the Plan distribution
or credit union withdrawals as income on their 1990 Federal
income tax return. Petitioners, for 1990, also failed to report
$1,971 of income from Prudential Insurance Co. and $18 of
interest income from Great American Bank.
By a letter dated June 27, 1991, the Kansas bank
acknowledged receiving petitioner's documents with which to open
an IRA, but advised that "Liquidating Trust Certificates" had not
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been received from Western, and, accordingly, it became the
bank's understanding that the IRA accounts were not to have been
opened. By a letter dated July 19, 1991, the Kansas bank advised
petitioner of the return of a $27 custodial fee, which had been
paid by the credit union with respect to petitioner's IRA
account. The fee was returned because the IRA had not been
funded and the IRA accounts had been closed.
OPINION
Section 402(a)(1)3 provides the general rule that amounts
distributed by a qualified plan are taxable in the year of
distribution in accordance with the provisions of section 72.
Section 402(a)(5) provides that taxation of a current
distribution may be deferred if it is rolled over into an
eligible retirement plan within 60 days of the distribution.
Petitioners bear the burden of proving that respondent's
determination is in error. Rule 142(a); Welch v. Helvering, 290
U.S. 111 (1933). Accordingly, petitioners must show that the
cash distribution in question was rolled over into an eligible
retirement plan within 60 days.
Petitioner concedes that the $7,005.77 of the Plan
distribution that was not deposited and the $50,000 that was
3
Sec. 402 as used in this opinion refers to the section in
effect for distributions made prior to Dec. 31, 1992. The
Unemployment Compensation Amendments of 1992, Pub. L. 102-318,
sec. 521(a), 106 Stat. 290, 300, restructured and reconfigured
sec. 402 for years after the 1992 calendar year.
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withdrawn during 1990 are taxable in that year. With respect to
the balance, petitioner argues that his credit union deposit was
sufficient to meet the requirements of section 402(a)(5). It was
petitioner's understanding that an IRA account had been opened
with the Kansas bank and that he was covered for purposes of the
rollover. Petitioner also believed that the credit union and Mr.
Supinski were connected with petitioner's former employer,
Western, and that they were trying to assist in the rollover
process. Although Mr. Supinski attempted to make it clear to
petitioner that his IRA with the Kansas bank was only for
illiquid assets distributed in kind, petitioner believed that
somehow the credit union, the Kansas bank, and his IRA were
connected.
During the trial, petitioner demonstrated an unfamiliarity
with the role of the Kansas bank, the nature or mechanics of an
IRA account, and Mr. Supinski's role in the entire process.
Petitioner believed that maintaining the plan distributions in
his Western credit union accounts was part of his IRA. Mr.
Supinski was attempting to profit from selling investments to be
included in petitioner's IRA. Petitioner did not make a
distinction between depositing the distribution in the credit
union and the investments recommended by Mr. Supinski for
placement in the IRA.
Petitioner applied for an IRA, which was opened in his name,
albeit in a Kansas bank. Petitioner followed Mr. Supinski's
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instructions as to opening the IRA at the Kansas bank, but that
account was never funded. After petitioner learned his approach
was inadequate, he put the remaining funds into a valid IRA.
Even though a part of the plan distribution was ultimately placed
into a valid IRA, petitioners failed to roll over any part of the
$246,647.68 cash distribution within 60 days in a manner that
would meet the requirements for deferral under section 402(a)(5).
Petitioner contends that the holding in Wood v.
Commissioner, 93 T.C. 114 (1989), is applicable here. That case
involved a distribution of a profit-sharing plan followed by the
taxpayer's establishment of an IRA. Due to a bookkeeping error
by the IRA trustee, certain of the trustee's records indicated
that part of the distribution had not been transferred to the IRA
account within the required 60 days. In Wood, we held that the
trustee's bookkeeping error did not preclude the taxpayer's
rollover treatment because, in substance, the taxpayer had met
the statutory requirements.
Here, petitioner had established an IRA, yet, due to
petitioner's lack of understanding, he failed to make a timely
transfer of the distribution to an IRA that met the statutory
requirements. Hence, the distribution made in 1990 is taxable as
determined by respondent.
Respondent also determined that petitioners were liable for
the 10-percent additional tax for early distribution under
section 72(t). That section provides for an additional tax for
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any amount received from a qualified plan, unless it is: Made
after the employee becomes 59-1/2 years old; made to a
beneficiary after the employee's death; attributable to the
employee's being disabled; part of a series of substantially
equal payments made no less than annually for the life of
designated persons; made to an employee who is separated from
service after attaining age 55; a dividend paid with respect to a
stock described in section 404(k); made to an employee for
medical expenses in accordance with section 72(t)(2)(B); or a
payment in connection with a qualified domestic relations order
in accordance with section 72(t)(2)(C).
Because petitioner was 54 years of age as of 1990 and none
of the other exceptions set forth in the provisions of section
72(t)(2) is satisfied, petitioners are liable for an additional
10-percent tax on the early distribution.
Under section 402(e), a lump-sum distribution made after the
employee attained the age of 59-1/2 was, in certain
circumstances, eligible for income-averaging treatment.
Petitioner was just 54 years old at the time of the distribution,
which renders him ineligible for income averaging under the
express terms of section 402(e)(4)(B)(i). See Cebula v.
Commissioner, 101 T.C. 70 (1993). Moreover, as explained infra,
the distribution was not a lump sum because less than the full
balance of the account was distributed during the year.
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Moreover, the record reflects that petitioner received cash
amounts representing about 90 percent of his Plan interest and
that about 10 percent of his Plan account was tied up in illiquid
assets that were supposedly to be placed in the Kansas bank IRA.
For reasons that are not explained in our record, as of 1991, the
illiquid assets had not been trusteed or placed in petitioner's
IRA account, and the $27 custodial fee was returned to
petitioner. These illiquid assets were not distributed during
1990. Consequently, the distribution of cash to petitioner in
that year did not represent the full balance standing to his
account in the Plan and failed to qualify as a lump-sum
distribution.
Petitioner also argues that Congress did not intend that
taxpayers be subject to the full impact of the tax in these
situations. It is true that petitioner's distribution was made
due to circumstances beyond his control. The statute, however,
requires that the distribution of a taxpayer's entire account
during the year be made in specific circumstances, which did not
occur here. In addition, Congress provided a method for
deferral, yet petitioner failed to comply with the statutory
requirements to obtain such deferral. Accordingly, petitioners
are not entitled to section 402 relief, in the form of a tax-free
rollover or income averaging, for 1990, the year of the
distribution.
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Finally, we consider whether petitioners are liable for an
accuracy-related penalty for negligence under section 6662(a) and
(b)(1). Section 6662(a) provides for a 20-percent penalty for
the portion of the underpayment of tax attributable to one of the
categories listed in section 6662(b). Section 6662(b)(1)
provides that negligence or disregard of rules or regulations is
a reason for imposition of the 20-percent addition.
Negligence includes a lack of due care or a failure to do
what a reasonable and ordinarily prudent person would do under
the circumstances. Neely v. Commissioner, 85 T.C. 934, 947
(1985). Petitioners bear the burden of proving that respondent's
determination of negligence is erroneous. Rule 142(a); Bixby v.
Commissioner, 58 T.C. 757, 791-792 (1972).
Petitioner, at least with respect to 1990, was erroneously
under the impression that his credit union accounts were covered
under the IRA account that he opened. During the confusion of
the takeover by Delta Airlines and the closing of the pilots'
pension Plan that had operated while petitioner worked for
Western, petitioner executed IRA papers, and, for the most part,
deposited his funds in the credit union that was affiliated with
the organization and the individual (Mr. Supinski) who assisted
petitioner in the opening of petitioner's IRA account. Taking
into consideration petitioner's lack of specialized knowledge
about IRA's and tax law involving pension plans, and, considering
the circumstances in this case, it was reasonable for petitioner
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to believe that he had rolled over his pension distribution into
an IRA. Mr. Supinski had attempted to direct petitioner to
financial products on which Mr. Supinski would have earned
commissions. Petitioner believed that he could individually
place his funds in an investment of his choice because he had
already opened an IRA account. While this did not win the day as
to petitioners' tax liability argument, we hold that petitioners
are not liable for the negligence addition for the portion of the
funds that remained deposited in petitioner's credit union
accounts as of the end of 1990.
With respect to the $7,005.77 initially withheld from
deposit, the $50,000 withdrawn by petitioners to build a home,
and the unreported income in the amounts of $1,971 and $18,
petitioners did not provide any explanation that would mitigate
respondent's determination of negligence under section 6662(a).
Accordingly, we hold that petitioners are liable for the 20-
percent penalty as to that part of the underpayment which is
attributable to the $50,000, $7,005.77, $1,971, and $18 omitted
amounts.
To reflect the foregoing,
Decision will be entered under
Rule 155.