T.C. Memo. 2000-171
UNITED STATES TAX COURT
VAN ROEKEL FARMS, INC., Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 20290–98R. Filed May 24, 2000.
Paul F. Christoffers, for petitioner.
Lawrence H. Ackerman, for respondent.
MEMORANDUM OPINION
HAMBLEN, Judge: This is an action for declaratory judgment
under section 74761 regarding the qualification of petitioner’s
employee stock ownership plan and trust. Petitioner has
1
All section references are to the Internal Revenue Code,
all Rule references are to the Tax Court Rules of Practice and
Procedure, and dollar amounts are rounded to the nearest dollar,
unless otherwise noted.
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satisfied all the jurisdictional requirements. See sec. 7476(b);
Rule 210(c). On September 24, 1998, respondent sent petitioner a
final revocation letter stating that the Van Roekel Farms, Inc.
Employee Stock Ownership Plan (ESOP) does not qualify under
section 401(a) for plan year ending July 31, 1993, and subsequent
years,2 and that, accordingly, its trust is not tax exempt under
section 501(a). Under Rules 122 and 217, the parties submitted
this case without trial and on the basis of a jointly stipulated
administrative record, which we incorporate by this reference.
Hereinafter, we sometimes refer to the ESOP and trust as,
collectively, the plan.
The issues are: (1) Whether petitioner violated section
401(a)(16) for years beginning after July 31, 1993, by
contributing amounts to the plan that exceeded the allowable
limits of section 415(c); and (2) whether the plan is
disqualified for years ending July 31, 1995 and 1996, because it
was not timely amended to comply with section 401(a)(17) and
(31). Since we agree with respondent’s first contention and
decide the case on that ground, we do not reach the second issue.
2
Respondent argues on brief that petitioner’s employee stock
ownership plan (ESOP) is disqualified for plan years beginning
after July 31, 1993. Although fiscal 1993 is the first year for
which respondent issued the revocation letter, respondent does
not challenge, and we therefore treat as conceded, the ESOP’s
qualified status for that year.
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Background
Petitioner, an Iowa corporation since 1977 with its
principal place of business in Orange City, Iowa, engages in
farming operations. It uses the cash method of accounting with a
fiscal year ending July 31 to compute its income. Effective
August 1, 1990, petitioner adopted the ESOP (a defined
contribution plan) and a trust to hold and invest the ESOP’s
assets. The plan used a July 31 fiscal year end as its annual
accounting period. Before fiscal 1996, petitioner never
requested a determination letter from the Internal Revenue
Service regarding the ESOP’s status.3
Petitioner’s founder and president was Eugene Van Roekel.
He was also the only trustee and participant of the plan.
Petitioner twice purported to amend the ESOP--on December 29,
1994,4 effective for plan years beginning August 1, 1994, and
again on August 26, 1997.
Under the plan, petitioner’s board of directors had sole
discretion to decide the amount, if any, that petitioner would
contribute each year from its profits, except in cases where
payments became due on an ESOP loan. Moreover, petitioner was
3
The record is unclear as to whether petitioner has since
requested a determination letter from the Internal Revenue
Service.
4
Although the written amendment dated Dec. 29, 1994, is
unsigned, we do not address its validity, because the amendments
made therein do not affect the outcome of this case.
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responsible for allocating its contributions among the
participants’ accounts in proportion to their compensation.5
For years ending July 31, 1994, 1995, and 1996, the plan
filed Forms 5500–C/R, Return/Report of Employee Benefit Plan,
showing contributions of $2,250, $2,700, and $2,550,
respectively. Similarly, for each of those years, petitioner
deducted $2,250, $2,700, and $2,550, respectively, on Forms 1120,
U.S. Corporation Income Tax Return, as payments to the plan on
behalf of Mr. Van Roekel. As shown below, petitioner reported no
deduction for salaries, wages, or officers’ compensation but
deducted management fees paid to Mr. Van Roekel as an independent
contractor:
Pension, Other
Tax year Compensation of Salaries and profit sharing, deductions1
ending officers wages etc., plans (management fees)
1994 –0– –0– $2,250 $15,000
2
1995 –0– –0– 2,700 18,000
1996 –0– –0– 2,550 15,000
1
Petitioner claimed miscellaneous expenses as “Other deductions” on line 26 of Form
1120 and attached a schedule in which it separately stated each expense.
2
Petitioner included this amount on line 27 of Form 1120 titled “Total deductions”
and not on line 26.
For calendar years 1994, 1995, and 1996, Mr. Van Roekel and
his wife, Darlene, filed joint Federal income tax returns. He
worked as petitioner’s farm manager on an independent contractor
basis, and, as reflected below, reported the management fees that
5
The ESOP defined compensation as “compensation paid by the
Employer to the Participant during the taxable year ending with
or within the Plan Year which is required to be reported as wages
on the Participant’s Form W-2”.
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petitioner paid him on a Schedule C, Profit or Loss From
Business:
Wages, Business Type of
salaries1 income business
Year (Line 7, Form 1040) (Schedule C) (Schedule C)
1994 $12,776 $15,000 Farm management
1995 12,967 18,000 Farming
1996 13,356 15,000 Farm management
1
The wages are attributable solely to Darlene, a secretary at the Orange City
Municipal Hospital in Iowa.
Respondent disqualified the plan for years beginning after
July 31, 1993, because allocations to Mr. Van Roekel, an
independent contractor, in fiscal 1994, 1995, and 1996 exceeded
the limits of section 415(c).
Discussion
Section 401(a) lists the qualification requirements of a
pension, profit-sharing, and stock bonus plan. It provides in
part:
SEC. 401(a). Requirements for
Qualification.--A trust created or organized
in the United States and forming part of a
stock bonus, pension, or profit–sharing plan
of an employer for the exclusive benefit of
his employees or their beneficiaries shall
constitute a qualified trust under this
section--
* * * * * * *
(16) A trust shall not constitute a
qualified trust under this section if
the plan of which such trust is a part
provides for benefits or contributions
which exceed the limitations of section
415.
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Section 415(c) limits the annual addition to a participant’s
account to the lesser of a specific dollar amount or 25 percent
of the participant’s compensation. “Annual addition” is defined
as the sum for any year of employer contributions, employee
contributions, and forfeitures, sec. 415(c)(2), and
“participant’s compensation” is simply “the compensation of the
participant from the employer for the year,” sec. 415(c)(3)(A).
The parties disagree as to what is “participant’s
compensation” under section 415. Respondent contends that
petitioner’s allocations to Mr. Van Roekel’s account for fiscal
1994, 1995, and 1996 exceeded the section 415(c) limits because
Mr. Van Roekel received no compensation for those years.
Petitioner maintains that it did not violate section 415 because
“participant’s compensation” includes the management fees that it
paid Mr. Van Roekel as an independent contractor.
During fiscal 1994 through 1996, petitioner paid no
salaries, wages, or officers’ compensation. Consequently, Mr.
Van Roekel received no compensation for his services as either an
officer or an employee. Instead, petitioner and Mr. Van Roekel
arranged that the latter would be paid as an independent
contractor for his work in managing the farm.6 Consistent with
that arrangement, petitioner deducted the management fees as
6
Petitioner does not challenge Mr. Van Roekel’s status as an
independent contractor.
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“other deductions” on Forms 1120, while Mr. Van Roekel reported
the fees as business income on Schedules C.7 Accordingly, the
amounts petitioner paid to Mr. Van Roekel are irrelevant in
calculating the allowable limits of section 415, because Mr. Van
Roekel received no employee compensation--a situation fatal to
the trust’s qualified status.
Petitioner argues that Mr. Van Roekel’s compensation was his
earned income as a self–employed person. A sole proprietor,
however, is considered to be his own employer. See sec.
401(c)(4); sec. 1.401–10(e), Income Tax Regs. Therefore, during
fiscal 1994, 1995, and 1996, Mr. Van Roekel had one employer;
i.e., himself. Furthermore, only the income an employee earns
from the employer sponsoring the plan may be taken into account
for purposes of that employer’s plan. See sec. 415(c)(3)(A);
sec. 1.401–10(b), Income Tax Regs. If Mr. Van Roekel had
sponsored his own retirement plan as a self–employed individual,
then “participant’s compensation” would have been his earned
income. Sec. 415(c)(3)(B). Here, however, petitioner is Mr. Van
Roekel’s hirer, not his employer. Accordingly, Mr. Van Roekel’s
earnings as an independent contractor are not “participant’s
compensation” with respect to petitioner’s plan.
7
We note that, in doing so, Mr. Van Roekel enjoyed the
ability to deduct business expenses under sec. 62(a)(1), rather
than under sec. 67(a), which imposes a 2-percent adjusted gross
income limitation on Schedule A deductions.
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Indeed, the Court has addressed this issue before. See
Roblene, Inc. v. Commissioner, T.C. Memo. 1999–161. Most
recently, the Court of Appeals for the Eighth Circuit, to which
this case is appealable, see Golsen v. Commissioner, 54 T.C. 742,
756–757 (1970), affd. 445 F.2d 985 (10th Cir. 1971), upheld a
decision of this Court excluding from “participant’s
compensation” the earnings of an independent contractor working
for the taxpayer, Howard E. Clendenen, Inc. v. Commissioner, 207
F.3d 1071 (8th Cir. 2000), affg. T.C. Memo. 1998-318. We follow
that holding and conclude that the management fees paid to Mr.
Van Roekel as an independent contractor are not included in
“participant’s compensation”, and that, consequently, the annual
additions allocated to Mr. Van Roekel’s account for fiscal years
1994, 1995, and 1996 exceeded the section 415(c)(1) limits.
Petitioner failed to show that it took remedial action to correct
the excess allocations to Mr. Van Roekel’s account. See Martin
Fireproofing Profit Sharing Plan & Trust v. Commissioner, 92 T.C.
1173 (1989). Accordingly, we hold that the plan is disqualified
for fiscal years beginning after July 31, 1993. Therefore, the
trust is not tax exempt under section 501(a).
Decision will be entered
for respondent.