Sears v. Comm'r

T.C. Memo. 2010-146

UNITED STATES TAX COURT

PEGGY ANN SEARS, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 12454-08. Filed July 6, 2010.

Peggy Ann Sears, pro se.

John W. Strate, for respondent.

MEMORANDUM FINDINGS OF FACT AND OPINION

MARVEL, Judge: Respondent determined a $6,093.70 deficiency

in petitioner’s 2006 Federal income tax. Petitioner filed a

timely petition contesting respondent’s determination. The sole

issue for decision is whether distributions from petitioner’s

individual retirement accounts (IRAs) qualify for the exception

from the 10-percent additional tax on early distributions under
 - 2 -

section 72(t)(2)(A)(ii)1 as distributions to a beneficiary after

the death of an employee. We hold that the distributions are

subject to the additional tax.

FINDINGS OF FACT

Some of the facts have been stipulated and are so found.

The stipulations are incorporated herein by this reference.

Petitioner resided in California when she filed her petition.

Petitioner’s husband, John H. Sears (Mr. Sears), died on

August 28, 1998. Before his death he maintained an IRA at Morgan

Stanley. Mr. Sears’ IRA account number ended in 7189 (account

No. 7189). Petitioner was the primary beneficiary of account No.

7189.

For at least part of 1999 petitioner had an IRA rollover

account at Morgan Stanley with an account number ending in 9853

(account No. 9853). As of the end of February 1999, account No.

9853 had a zero balance. On March 2, 1999, $30 was deposited in

account No. 9853, and Morgan Stanley applied it as a custody fee.

On March 24, 1999, Morgan Stanley transferred securities valued

at $442,863.87 from account No. 7189 to account No. 9853 (March

1999 transfer). As of March 31, 1999, account No. 7189 had

assets with a total value of $311,674.62.

1
Unless otherwise indicated, all section references are to
the Internal Revenue Code (Code) for the year at issue, and all
Rule references are to the Tax Court Rules of Practice and
Procedure.
 - 3 -

On April 26, 2002, petitioner designated two primary

beneficiaries for account Nos. 9853 and 7189. To do so, she

signed a Morgan Stanley Traditional IRA Amendment Agreement

(amendment agreement) with respect to each account.2

As of 2005 petitioner maintained an account at Morgan

Stanley ending with 9860 (account No. 9860), which was a living

trust account. On May 24, 2005, petitioner signed two “IRA

Distribution Request Form Periodic/on Demand Payment Request”

forms (distribution request forms) directing on-demand

distributions from account No. 7189 to account No. 9860 in

variable amounts to be determined by petitioner for each

payment.3 On June 13, 2005, petitioner signed a distribution

request form directing monthly distributions of $1,370 from

account No. 9853 and requesting that the distributions be

credited to account No. 9860. In September 2005 petitioner made

her last withdrawal from account No. 7189 in the amount of

$338.03, thereby depleting the funds in that account. Besides

the March 1999 transfer, between 1999 and September 2005

2
The parties’ stipulation 18 states that Exhibit 14-J is a
copy of the amendment agreement for account No. 9853. Because
the exhibit is a copy of the amendment agreement with respect to
account No. 7189, we treat it as such.
3
The parties’ stipulation 19 states that one of the
distribution request forms directed a gross distribution of
$5,000. Because the relevant exhibit indicates that petitioner
directed variable distributions in amounts to be determined by
her for each payment, we ignore the statement in stipulation 19
insofar as it is inconsistent with the terms of the exhibit.
 - 4 -

petitioner withdrew $443,230.92 from account No. 7189.4 On May

31, 2006, petitioner signed a distribution request form with

respect to account No. 9853 requesting distributions in amounts

to be determined by her for each payment and directing Morgan

Stanley to deposit the amounts in account No. 9860.

In addition to account Nos. 9853, 9860 (the living trust

account), and 7189 (Mr. Sears’ IRA account), petitioner also

maintained at Morgan Stanley IRA accounts with numbers ending in

8052 (account No. 8052) and 9052 (account No. 9052).5 On

September 29, 2006, petitioner signed a distribution request form

directing a distribution of $1,500 from account No. 8052 to

account No. 9860. Unlike the other distribution request forms,

the September 29, 2006, distribution request form indicated the

distribution was premature and no exception applied. During 2006

4
Besides the March 1999 transfer, petitioner’s withdrawals
from account No. 7189, were as follows:

Year Withdrawal amount

1999 $67,800.00
2000 96,675.00
2001 57,981.17
2002 57,248.65
2003 59,164.44
2004 68,233.89
2005 36,127.77

The amounts of the withdrawals include Federal and State tax
withholdings.
5
The record does not disclose how petitioner funded those
accounts.
 - 5 -

petitioner received distributions totaling $60,937 as follows:

$24,689 from account No. 8052, $18,809 from account No. 9853,6

and $17,439 from account No. 9052.7 In 2006 petitioner was not

yet 59-1/2 years old.

Petitioner filed her 2006 Form 1040, U.S. Individual Income

Tax Return, electronically.8 Petitioner’s accountant, Don Vance

(Mr. Vance), prepared petitioner’s 2006 return. Petitioner

reported $60,937 in distributions from her IRAs but did not

report the 10-percent additional tax pursuant to section 72(t)

for an early withdrawal from an IRA. Respondent adjusted

petitioner’s tax by adding 10 percent of the total distributions

on the ground that petitioner had not reached age 59-1/2 in 2006

6
The parties stipulated that the distribution of $18,809 was
from an account with a number ending in 3052 (account No. 3052).
Respondent explains on brief that Morgan Stanley uses three sets
of digits for account numbers. The last three-digit set
identifies the financial adviser handling the account.
Respondent also states that account No. 3052 is the same as
account No. 9853. Petitioner does not disagree with respondent’s
explanation. The jointly stipulated summary of accounts for
March 2009 also suggests that account No. 3052 is the same as
account No. 9853. Accordingly, we refer to account No. 3052 as
account No. 9853.
7
According to petitioner, she had been receiving
distributions from the IRAs since Mr. Sears’ death in 1998, but
respondent, Morgan Stanley, and petitioner’s accountant, Don
Vance, never identified issues with the distributions.
Respondent determined additional tax for 2006 only.
8
The record does not disclose whether petitioner filed the
2006 return timely.
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and no other exception to the additional tax under section 72(t)

applied.

OPINION

I. Petitioner’s Argument

During 2006 petitioner received premature distributions from

three IRA accounts, Nos. 9853 ($18,809), 8052 ($24,689), and 9052

($17,439), that she owned and maintained at Morgan Stanley.

Although petitioner authorized the distributions, petitioner

appears to argue that the distributions should not be subject to

the additional tax under section 72(t) because the exception

under section 72(t)(2)(A)(ii) applies. As we understand

petitioner’s position, which petitioner never clearly explained,

petitioner is alleging in effect that the assets in account No.

9853 were transferred from her deceased husband’s IRA account No.

7189 to account No. 9853 in 1999 without her authorization and

that the 2006 distributions from account No. 9853 should have

been treated as distributions to her as the beneficiary of her

deceased husband’s IRA.9

9
Petitioner does not claim that the 2006 distributions from
her other IRA accounts, Nos. 8052 and 9052, came from assets
transferred from her deceased husband’s IRA by mistake. In fact,
there is no credible evidence that any assets from her deceased
husband’s IRA account No. 7189 were ever transferred to account
Nos. 8052 and 9052. Consequently, we interpret petitioner’s
argument for relief under sec. 72(t)(2)(A)(ii) as a request for
partial relief that relates only to the 2006 distributions from
her account No. 9853.
 - 7 -

Generally, the Commissioner’s determination in the notice of

deficiency is presumed correct, and the taxpayer bears the burden

of proving that the determination is erroneous. Rule 142(a);

Welch v. Helvering, 290 U.S. 111, 115 (1933). Petitioner does

not contend that section 7491(a) shifts the burden of proof to

respondent, nor does the record establish that petitioner

satisfies the requirements of section 7491(a)(2).

II. Burden of Proof and Production

Section 7491(c) provides that the Commissioner bears the

burden of production with respect to the liability of any

taxpayer for any penalty, addition to tax, or additional amount

imposed by the Code. To satisfy his burden of production under

section 7491(c), the Commissioner must produce evidence that it

is appropriate to impose the relevant penalty. Higbee v.

Commissioner, 116 T.C. 438, 446 (2001). However, section 7491(c)

does not require the Commissioner to introduce evidence regarding

reasonable cause. Id.

We do not need to address whether additional tax under

section 72(t) is an amount to which section 7491(c) applies.

Even if the burden of production with respect to the additional

tax is on respondent, respondent has met it by showing that the

distributions in 2006 were not from account No. 7189.

Consequently, petitioner has both the burden of producing

evidence to show that the 2006 distributions from account No.
 - 8 -

9853 are not subject to the additional tax under section 72(t)

and the burden of proving that respondent’s determination is

incorrect. See Rule 142(a)(1).

III. Analysis

Generally, amounts distributed from an IRA are includable in

gross income as provided in section 72. Sec. 408(d)(1). Section

72(t)(1) provides for a 10-percent additional tax on early

distributions from qualified retirement plans, unless the

distribution falls within a statutory exception. The relevant

exception is section 72(t)(2)(A)(ii), which provides that

distributions “made to a beneficiary (or to the estate of the

employee) on or after the death of the employee” are not subject

to the 10-percent additional tax.

We have previously held that the beneficiary loses the

ability to claim the exception under section 72(t)(2)(A)(ii) if

the beneficiary rolls over the funds from the deceased spouse’s

IRA into his or her IRA and thereafter withdraws funds from the

IRA. See Gee v. Commissioner, 127 T.C. 1, 4-5 (2006). In Gee v.

Commissioner, supra at 4-5, we held that when a beneficiary rolls

over funds from the deceased spouse’s IRA, the funds become the

beneficiary’s own and any subsequent distributions are no longer

occasioned by the death of the spouse. Thus, such distributions

do not qualify for the section 72(t)(2)(A)(ii) exception. See

id.
 - 9 -

With respect to distributions from account No. 9853, the

record contains statements for account Nos. 7189 and 9853 for

March 1999. An entry dated March 24, 1999, in the statement for

account No. 7189 is titled “Securities Delivered -442,863.87”.

The March 1999 account statement for account No. 9853 shows that

on March 24, 1999, account No. 9853 received securities valued at

$442,863.87. Because securities worth $442,863.87 were

transferred on March 24, 1999, from account No. 7189 to account

No. 9853, i.e., from Mr. Sears’ IRA to petitioner’s IRA, the

funds became petitioner’s funds. See id. at 4. Accordingly, the

subsequent distributions of those funds were not occasioned by

the death of petitioner’s husband and were not made to her in her

capacity as beneficiary of his IRA. See id.

Petitioner testified she did not remember the March 1999

transfer and did not understand rollovers. She claimed she did

not understand how the stock market works or how to read account

statements. Instead, she trusted Mr. Vance and her adviser at

Morgan Stanley, and none of them “picked up on it.” She contends

that Morgan Stanley made a mistake,10 and “they were supposed to

be looking out for * * * [her] interest, which, of course, they

didn’t.” Petitioner claims that her financial consultant at

Morgan Stanley had authority over the IRAs and she would not have

10
We understand petitioner to refer to the March 1999
transfer as the relevant mistake.
 - 10 -

discussed the asset transfer with him because she did not

understand how the stock market worked. However, petitioner’s

financial consultant from Morgan Stanley did not testify at

trial, and because of the passage of time, the records that

Morgan Stanley produced at trial did not include relevant

transfer records and authorizations for the March 1999 transfer

of securities from account No. 7189 to account No. 9853.11

The parties do not rely on and we have not found any cases

discussing the application of the section 72(t)(2)(A)(ii)

exception as we interpreted it in Gee v. Commissioner, supra, in

cases of alleged trustee mistakes. On brief respondent

distinguishes the case at hand from cases involving trustee

mistakes in another context of IRA rollovers. In Wood v.

Commissioner, 93 T.C. 114, 115 (1989), the taxpayer received a

lump-sum distribution (consisting of a check and stock

certificates) from his retirement account and wanted to roll over

the distribution into an IRA rollover account. The taxpayer met

with an account executive at Merrill Lynch, signed the documents

to establish his rollover account, and delivered the check and

stock certificates to Merill Lynch, the trustee. Id. at 115-116.

The trustee records reflected the transfer of the distribution

check to the IRA within the 60-day period required by section

11
Despite respondent’s efforts at the Court’s direction,
Morgan Stanley was not able to find any such documents.
 - 11 -

402(a)(5)(C), as in effect for 1983.12 See Wood v. Commissioner,

supra at 116. However, Merrill Lynch mistakenly recorded the

stock certificates as having been transferred to another of the

taxpayer’s accounts. See id. at 116-117. Although the account

statement showed that the trustee had not deposited stock in the

IRA rollover account before the 60-day rollover period expired,

the taxpayer did not realize the rollover was untimely until the

Commissioner questioned him about the failure to report the lump-

sum distribution. Id. at 117-118.

In Wood v. Commissioner, supra at 120, we rejected the

Commissioner’s argument that the trustee’s records control

whether the stock was rolled over timely. We stated that a mere

bookkeeping error that failed to properly reflect the transaction

does not control the resolution of the case. Id. at 120-121

(“The substance of a transaction must be determined from the

facts surrounding the transactions rather than from bookkeeping

entries.”). Because the taxpayer took reasonable steps to

establish an IRA rollover account and timely transfer the

distribution, we concluded the taxpayer could claim the rollover

benefits when a trustee made a mistake in recording a

12
Generally, sec. 402(a) provides that the taxable portion
of a distribution from a qualified employees’ trust is taxable in
the year of receipt. Sec. 402(a)(5)(A) and (C), as in effect for
1983, provided for an exception from this rule if the
distribution was transferred to an eligible retirement plan
within 60 days following receipt of the distribution.
 - 12 -

transaction. Id. at 122. In subsequent cases we have pointed

out that the doctrine of substantial compliance and Wood v.

Commissioner, supra, apply only to procedural defects in

effecting a rollover and not to failures of a fundamental element

of the statutory requirements for an IRA rollover. See Schoof v.

Commissioner, 110 T.C. 1, 10-11 (1998); Rodoni v. Commissioner,

105 T.C. 29, 38-39 (1995); Anderson v. Commissioner, T.C. Memo.

2002-171.

Respondent points out that petitioner did nothing after 1999

to correct the allegedly mistaken March 1999 transfer. The

record supports respondent’s assertion. Petitioner testified

that she understood that the front page of the account statement

showed the account value and value change for the period. The

record establishes that at the end of February 1999 account No.

9853 had a zero balance, but at the end of March 1999 the total

asset value of account No. 9853 was $451,268.56. Even if

petitioner did not notice that account No. 7189 lost more than

half of its value because of the March 1999 transfer, at some

point between 1999 and 2006 petitioner should have noticed that

account No. 9853 no longer had a zero balance. Nevertheless, the

record contains no credible evidence to show that petitioner

inquired of Morgan Stanley whether a mistake had occurred and, if

so, that she asked Morgan Stanley to correct the allegedly

mistaken transfer.
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We do not need to decide whether the exception from the 10-

percent additional tax under section 72(t)(2)(A)(ii) applies when

the transfer from the deceased employee’s IRA account to the

beneficiary’s IRA resulted from a trustee’s advice or from a lack

thereof or from a mere bookkeeping error. Although the record

contains no evidence of petitioner’s authorization of the March

1999 transfer, on this record we are unable to conclude that the

March 1999 transfer of securities to account No. 9853 was the

result of a trustee or custodial mistake. Petitioner’s actions

after the March 1999 transfer suggest that she either authorized

the transfer or subsequently ratified it. In reaching our

conclusion we rely on the amendment agreements, which suggest

that even before 2005 petitioner understood or should have

understood that account Nos. 7189 and 9853 were different IRA

accounts. Petitioner signed the two amendment agreements on

separate forms on April 26, 2002, and designated the same two

persons as primary beneficiaries of each account. Because

petitioner signed the amendment agreements on the same day,

petitioner either understood or should have understood that

account Nos. 7189 and 9853 were distinct accounts.

In addition, petitioner knowingly withdrew funds from her

own IRAs. The record contains two distribution request forms

dated May 24, 2005, directing on-demand distributions from

account No. 7189 in variable amounts to be determined by
 - 14 -

petitioner for each payment and directing that the distributed

funds be credited to account No. 9860. Approximately 3 weeks

later, on June 13, 2005, petitioner signed a distribution request

form directing monthly distributions of $1,370 from account No.

9853 and directing that funds be credited to account No. 9860.

Even if a Morgan Stanley employee filled out the distribution

forms for petitioner to sign, the short time that elapsed between

the signing of the forms strongly suggests that petitioner knew

the $1,370 monthly distributions were from her own account and

not from account No. 7189.

In September 2005 account No. 7189 was depleted.13 Not

surprisingly, in 2006 petitioner’s distribution request forms

focused only on her own IRAs. On May 31, 2006, petitioner signed

a distribution request form with respect to account No. 9853

requesting distributions in amounts to be determined by

petitioner for each payment, and on September 29, 2006,

petitioner signed a distribution request form directing a $1,500

distribution from account No. 8052. The latter form indicated

that the distribution was premature and no exception applied.

Petitioner asserts that Morgan Stanley prepared three Forms

1099-R, Distributions From Pensions, Annuities, Retirement or

Profit-Sharing Plans, IRAs, Insurance Contracts, etc., for 2006

13
From 1999 through September 2005 petitioner withdrew
distributions totaling $443,230.92 from account No. 7189 (not
including the transfer of securities on Mar. 24, 1999).
 - 15 -

showing “Distribution Code(s)” as “4”.14 The Forms 1099-R,

however, are inconsistent with the petition, in which petitioner

contended that Morgan Stanley issued Forms 1099-R incorrectly

showing the distribution code as 1. The petition also states

that petitioner contacted Morgan Stanley to request corrected

Forms 1099-R showing code 4, but without result. Petitioner’s

position in the petition is consistent with the jointly

stipulated letter from a Morgan Stanley representative to Mr.

Vance dated August 4, 2008, which stated: “In 2005 and 2006

Peggy Ann Sears took distributions from account No. 7189, which

were all reported as premature distributions on the 1099R issued

to her and the IRS.” Because the distribution codes on the Forms

1099-R are inconsistent with other credible evidence in the

record, including Morgan Stanley’s records, and contradict

petitioner’s explanations in the petition, we do not give any

credence to the coding on the Forms 1099-R in reaching our

conclusion.15

14
The instructions to Form 1099-R for 2006 describe the
distribution code “4” as “Death” and distribution code “1” as
“Early distribution, no known exception”.
15
The Forms 1099-R for 2006 showing distribution code “1”
that petitioner states were issued are not part of the record,
and the Forms 1099-R with the distribution code “4” contained in
the record do not show that they are corrected forms. The record
does not explain at what point Morgan Stanley reissued these
forms.
 - 16 -

Petitioner does not contend that any other exception of

section 72(t)(2) applies, and she has not proven that

respondent’s determination is in error. On the basis of the

foregoing, we conclude that the premature 2006 distributions from

petitioner’s IRA accounts are subject to the 10-percent

additional tax.

We have considered the remaining arguments made by the

parties, and to the extent not discussed above, we conclude those

arguments are irrelevant, moot, or without merit.

To reflect the foregoing,

Decision will be entered for

respondent.