T.C. Memo. 2015-119
UNITED STATES TAX COURT
SUMMA HOLDINGS, INC., ET AL.,1 Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket Nos. 26476-12, 756-13, Filed June 29, 2015.
759-13, 777-13,
779-13.
Neal J. Block, Robert S. Walton, John T. Bender, and Rebecca Lock, for
petitioners.
John Q. Walsh, Jr., Sarah S. Sandusky, and Peter N. Scharff, for respondent.
1
Cases of the following petitioners are consolidated herewith: James
Benenson III and Clement Chambers Benenson Trust, James Benenson, Jr.,
Fiduciary, docket No. 756-13; Clement C. Benenson, docket No. 759-13; James
Benenson, Jr., and Sharen Benenson, docket No. 777-13; and James Benenson III,
docket No. 779-13.
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[*2] MEMORANDUM OPINION
KERRIGAN, Judge: These consolidated cases are before the Court on
respondent’s motion for partial summary judgment and petitioners’ cross-motion
for summary judgment. In respondent’s motion for partial summary judgment
respondent contends that payments made by petitioner Summa Holdings, Inc.
(Summa), and its consolidated subsidiaries to JC Export, Inc. (JC Export), during
2008 were not domestic international sales corporation (DISC) commission
payments but dividends to Summa’s shareholders followed by contributions to
Roth individual retirement accounts (Roth IRAs). In their cross-motion for
summary judgment petitioners contend that respondent may not recharacterize the
DISC commission payments in this manner and that, as a result, Summa is not
liable for the income tax deficiencies and penalties under section 6662A or 6662
that respondent determined for the tax year ending April 30, 2008. Petitioner
Summa also contends that if its position regarding the character of the payments is
upheld, the other petitioners in these cases are also entitled to summary judgment.
Unless otherwise indicated, all section references are to the Internal
Revenue Code (Code) in effect for the tax years at issue, and all Rule references
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[*3] are to the Tax Court Rules of Practice and Procedure. We round all monetary
amounts to the nearest dollar.
Background
Some of the facts are stipulated and are so found. Petitioner Summa was a
C corporation incorporated in Delaware with its principal place of business in
Ohio when its petition was filed. Petitioners James Benenson, Jr. (James Jr.), and
Sharen Benenson (Sharen), husband and wife, resided in New York when their
petition was filed. Petitioners Clement C. Benenson (Clement) and James
Benenson III (James III), resided in Massachusetts when their petitions were filed.
James Jr. and Sharen were the trustees of petitioner James Benenson III and
Clement Chambers Benenson Trust (Benenson Trust) when its petition was filed.
The Benenson Family and the Benenson Trust
James Jr. and Sharen are the parents of Clement and James III. The
Benenson Trust was established in 1983. James Jr. and Sharen were named the
trustees of the Benenson Trust, and Clement and James III were named the
beneficiaries of the Benenson Trust. From 2000 to 2008 no portion of the
Benenson Trust’s principal or income was paid to James Jr. or Sharen.
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[*4] The Roth IRAs
In 2001 James III established a Roth IRA (James III IRA) and transferred
$3,500 to it.2 James III made no additional contributions through 2008. In 2001
Clement established a Roth IRA (Clement IRA) and transferred $3,500 to it.3
Clement made no additional contributions through 2008.
JC Export and JC Holding
On January 31, 2002, the James III IRA and the Clement IRA (collectively,
Benenson Roth IRAs) each purchased 1,500 shares of stock in JC Export, a
Delaware corporation, in exchange for $1,500. JC Export filed a Form 4876-A,
Election to be Treated as an Interest Charge DISC (DISC election). The DISC
election became effective for the tax year beginning January 1, 2002. From its
inception through 2008 JC Export’s board of directors consisted of James Jr.,
James III, Clement, and John V. Curci.
2
We may disregard a stipulation of fact when the stipulation is clearly
contrary to facts disclosed by the record. Cal-Maine Foods, Inc. v. Commissioner,
93 T.C. 181, 195 (1989). The parties stipulated that James III is the beneficiary of
the James III IRA; however, the attached exhibits indicate that Clement is the
primary beneficiary of the James III IRA. We will follow the exhibits.
3
See supra note 2. The parties stipulated that Clement is the beneficiary of
the Clement IRA; however, the attached exhibits indicate that James III is the
primary beneficiary of the Clement IRA. We will follow the exhibits.
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[*5] On January 31, 2002, the Benenson Roth IRAs each transferred 1,500
shares of JC Export stock to JC Export Holding, Inc. (JC Holding), a Delaware
corporation, for 1,500 shares of JC Holding stock. JC Holding, a C corporation,
was incorporated on January 31, 2002. From January 31, 2002, through December
31, 2008, JC Export was wholly owned by JC Holding, which was owned 50% by
the James III IRA and 50% by the Clement IRA. From its inception through 2008
JC Holding’s board of directors consisted of James Jr., James III, Clement, and
Mr. Curci.
JC Holding was organized, in part, so that the Benenson Roth IRAs would
not have unrelated business income and the associated tax reporting obligations
and, in part, so that the custodians of the Benenson Roth IRAs would no longer be
involved as shareholders of JC Export and, thus, would avoid being required to
take shareholder actions regarding JC Export.
Summa
James Jr. founded Summa in 1983.4 Summa is a fiscal year taxpayer with a
tax year that ends April 30. Summa is the parent corporation of a consolidated
group of manufacturing companies that make a wide variety of industrial products.
Summa’s subsidiaries include: Vesper Corp., All Star Bleachers, Inc., All Star
4
At the time Summa was known as Arrowhead Holdings Corp.
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[*6] Manufacturing, Inc., Arrowhead Products Corp., Bijur Lubricating Corp.,
Cleveland Gear Co., Inc., Columbia Gear Corp., Farval Lubrication Systems, Inc.,
Hellan Strainer Co., Lubesite Systems, Inc., Milwaukee Machine Works, Inc., and
Penco Products, Inc. (collectively, Summa subsidiaries).
From January 1 to December 29, 2008, Summa had 9,257,004 outstanding
shares of common stock. James Jr. owned 2,146,036 common shares, the
Benenson Trust owned 7,039,506 common shares, Industrial Manufacturing Co.,
LLC, owned 71,431 common shares, and Clement owned 31 common shares. On
December 30, 2008, James Jr. redeemed 1,800,000 common shares. From 2001 to
2008 James Jr. had the power to direct Summa’s operations, including the transfer
of its funds. In 2008 Summa had 12 outstanding shares of preferred stock. James
Jr. owned 8 preferred shares, Clement owned 2 preferred shares, and James III
owned 2 preferred shares.
The Transactions
In 2002 the Summa subsidiaries and JC Export entered into a series of
agreements. Pursuant to these agreements the Summa subsidiaries paid JC Export
$129,791, $672,048, $625,438, and $810,646 on January 18, April 23, July 25,
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[*7] and December 22, 2008, respectively.5 Summa also paid $1,083 of expenses
on behalf of JC Export and JC Holding during 2008. The Summa subsidiaries
paid JC Export $53,833 on January 23, 2009.6
In 2008 JC Export paid $2,237,923 in the form of dividends to JC Holding
as follows: $129,791, $672,048, $625,438, and $810,646 on January 18, April 23,
July 25, and December 22, 2008, respectively. Each time JC Export received a
payment from the Summa subsidiaries it immediately transferred the entire amount
of the payment to JC Holding as a dividend. Each time JC Holding received a
payment from JC Export it estimated the tax due as a result of the payment,
withheld the estimated tax, and immediately transferred as a dividend one-half of
the remainder of the payment to each of the Benenson Roth IRAs. Both Benenson
Roth IRAs received $42,831, $221,776, $206,394, and $267,513 from JC Holding
on January 18, April 23, July 25, and December 22, 2008, respectively. Both
Benenson Roth IRAs received $17,765 from JC Holding on January 27, 2009.
5
JC Export reported the $129,791 payment that it received from the Summa
subsidiaries on January 18, 2008, as payment of an account receivable that accrued
in tax year 2007.
6
JC Export reported the $53,833 payment that it received from the Summa
subsidiaries on January 23, 2009, as payment of an account receivable that accrued
in tax year 2008.
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[*8] The James III IRA reported on Form 5498, IRA Contribution Information, a
yearend fair market value of $3,145,086 for 2008. The Clement IRA reported on
Form 5498 a yearend fair market value of $3,135,236 for 2008. For tax years
2002-08 JC Export received only the initial $3,000 stock purchase price from the
Benenson Roth IRAs and commissions from the Summa consolidated group.
Petitioners’ sole reason for entering into the transactions at issue was to
transfer money into the Benenson Roth IRAs so that income could accumulate on
the assets of the Benenson Roth IRAs and then be distributed tax free. Petitioners
had no nontax business purpose or economic purpose for establishing the
Benenson Roth IRAs, JC Export, and JC Holding. From the organization of JC
Export through tax year 2008, JC Export received commissions from the Summa
consolidated group that, if treated as contributions to the Benenson Roth IRAs for
that year, exceeded the annual contribution limits.
Tax Returns
James Jr. and Sharen filed timely a joint Form 1040, U.S. Individual Income
Tax Return, for tax year 2008. They did not report any dividend distributions on
their 2008 Form 1040.
Clement filed timely a Form 1040 for tax year 2008. He reported $518,722
of gross income on his 2008 Form 1040. He did not attach a Form 5329,
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[*9] Additional Taxes on Qualified Plans (Including IRAs) and Other Tax-
Favored Accounts.
James III filed timely a Form 1040 for tax year 2008. He reported $526,528
of gross income on his 2008 Form 1040. He did not attach a Form 5329.
The Benenson Trust filed timely a Form 1041, U.S. Income Tax Return for
Estates and Trusts, for tax year 2008. The Benenson Trust did not report any
dividend distributions on its 2008 Form 1041.
JC Export filed timely a Form 1120-IC-DISC, Interest Charge Domestic
International Sales Corporation Return, for tax year 2008. It reported $16,508,486
of gross qualified export receipts and $2,161,965 of gross income, which consisted
entirely of commission sales. JC Export also reported $2,161,965 as a dividend
distribution. JC Export reported that it had $129,791 of accounts receivable at the
beginning of tax year 2008 and $53,833 of accounts receivable at the end of tax
year 2008. JC Export reported $2,161,965 as taxable income. On its Schedule K,
Shareholder’s Statement of IC-DISC Distributions, JC Export reported $2,161,965
as a taxable distribution.
JC Holding filed timely a Form 1120, U.S. Corporation Income Tax Return,
for tax year 2008. JC Holding reported $2,161,965 of gross income, which
consisted entirely of dividend income. It paid income tax on the dividend income
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[*10] at the applicable corporate rate. JC Holding reported $1,477,028 of
distributions. JC Holding reported that it had $129,791 of accounts receivable at
the beginning of tax year 2008 and $53,833 of accounts receivable at the end of
tax year 2008.
Summa filed timely Forms 1120 for its taxable years ending April 30, 2008
(2007 tax return), and April 30, 2009 (2008 tax return). On its 2007 tax return
Summa reported $380,833,542 of gross sales, $23,709,770 of which was derived
from the sale of qualified export property under section 993(c). It claimed a
deduction of $2,060,684 for DISC commissions.
On its 2008 tax return Summa reported $368,868,519 of gross sales,
$27,710,847 of which was derived from the sale of qualified export property under
section 993(c). It claimed a deduction of $2,150,896 for DISC commissions.
Protective Refund Claims
On July 9, 2012, respondent issued JC Holding a letter apprising it of its
right to file a protective refund claim for income tax reported on its 2008 Form
1120. In August 2012 JC Holding filed a protective refund claim that changed its
total income from $2,161,965 to zero. Also in August 2012 JC Export filed a
protective amended 2008 Form 1040 changing its gross income, commission sales,
and dividend distributions from $2,161,965 to zero.
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[*11] Notices of Deficiency
On October 12, 2012, respondent issued each petitioner a notice of
deficiency. In the notices of deficiency respondent determined that the payments
that the Summa subsidiaries made to JC Export were, in substance, dividends to
Summa’s shareholders followed by contributions by the shareholders into the
Benenson Roth IRAs. Respondent (1) disallowed the DISC commission
deductions that Summa claimed for the payments it made on January 18 and April
23, 2008, and $768 of the deduction for $1,083 of expenses that it paid on behalf
of JC Export and JC Holding during 2008; (2) determined that James Jr. received
$2,239,006 in dividends from Summa as the sole shareholder of Summa (or in the
alternative, that he received $519,002 and the Benenson Trust received $1,702,764
in dividends from Summa on the basis of their respective ownership interests in
Summa); and (3) determined that Summa’s shareholders contributed $1,119,503 to
each of the Benenson Roth IRAs. Since the contributions to the Benenson Roth
IRAs exceed the annual contribution limits for Roth IRAs, respondent determined
that James III and Clement each had an excise tax deficiency under section 4973
of $67,170 for 2008. Respondent also determined that Summa is liable for a
penalty under either section 6662A or 6662 of $56,182 for its taxable year ending
on April 30, 2008.
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[*12] Discussion
I. Summary Judgment
Full or partial summary judgment may be granted where the pleadings and
other materials show that there is no genuine dispute as to any material fact and
that a decision may be rendered as a matter of law. Rule 121(b); Sundstrand Corp.
v. Commissioner, 98 T.C. 518, 520 (1992), aff’d, 17 F.3d 965 (7th Cir. 1994).
The burden is on the moving party to demonstrate that there is no genuine dispute
as to any material fact and that he or she is entitled to judgment as a matter of law.
FPL Grp., Inc. & Subs. v. Commissioner, 116 T.C. 73, 74-75 (2001). Petitioners
moved for summary judgment, and respondent moved for partial summary
judgment; and the parties agree that there is no genuine dispute as to any material
fact. After reviewing the pleadings and the comprehensive stipulation of facts and
the attached exhibits, we conclude that a decision may be rendered as a matter of
law.
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[*13] II. Statutory Framework
A. DISCs7
A DISC provides a mechanism for deferral of a portion of the Federal
income tax on income from exports. The DISC itself is not taxed, but instead the
DISC’s shareholders are currently taxed on a portion of the DISC’s earnings in the
form of a deemed distribution. Secs. 991, 995(b)(1). This allows for deferral of
taxation on the remainder of the DISC’s earnings until those earnings are actually
distributed, the shareholders dispose of their DISC stock in a taxable transaction,
or the corporation ceases to qualify as a DISC. Secs. 995(b)(2), (c), 996(a)(1).
A DISC sometimes does not generate the income it reports on its returns and
might otherwise not be recognized as a corporate entity for tax purposes if it were
7
In the 1980s several European nations complained that the DISC regime
constituted an illegal export subsidy in violation of the General Agreement on
Tariffs and Trade. S. Prt. 98-169 (Vol. I), at 635 (Comm. Print 1984). In
response, the United States largely abandoned the DISC regime as part of the
Deficit Reduction Act of 1984 (DEFRA), Pub. L. No. 98-369, sec. 801(a), 98 Stat.
at 985. See Union Carbide Corp. v. Commissioner, 110 T.C. 375, 381 (1998).
DEFRA did not repeal the Code secs. that created the DISC regime but rather
created a new entity, the foreign sales corporation (FSC), to serve as a practical
replacement for the DISC. The FSC regime was met with similar criticism, and
the Code provisions that created the FSC were repealed by the FSC Repeal and
Extraterritorial Income Exclusion Act of 2000, Pub. L. No. 106-519, sec. 2, 114
Stat. at 2423. The only remaining type of DISC still in use is the interest-charge
DISC (IC-DISC), which is governed by Code secs. 991-997. See generally Ryan
L. Losi, “IC-DISCs: The Last Remaining Export Incentive Just Got Some Staying
Power”, 86 Prac. Tax Strategies 118 (2011).
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[*14] not a DISC. Addison Int’l, Inc. v. Commissioner, 90 T.C. 1207 (1988),
aff’d, 887 F.2d 660 (6th Cir. 1989); Jet Research, Inc. v. Commissioner, T.C.
Memo. 1990-463; see also sec. 1.992-1(a), Income Tax Regs. “The DISC may be
no more than a shell corporation, which performs no functions other than to
receive commissions on foreign sales made by its parent.” Thomas Int’l Ltd. v.
United States, 773 F.2d 300, 301 (Fed. Cir. 1985); Foley Mach. Co. v.
Commissioner, 91 T.C. 434, 438 (1988); see also Jet Research, Inc. v.
Commissioner, T.C. Memo. 1990-463.
B. Excess Contributions to the Roth IRAs and Related Determinations
1. Roth IRAs
Congress authorized the Roth IRA, a type of retirement account, with the
enactment of section 408A as part of the Taxpayer Relief Act of 1997, Pub. L. No.
105-34, sec. 302, 111 Stat. at 825. The distinguishing feature of a Roth IRA is the
back-end timing of the tax benefit: Contributions to a Roth IRA are not tax
deductible, but all earnings accumulate tax free and all qualified distributions are
tax free. Sec. 408A(a), (c)(1), (d)(1); Taproot Admin. Servs., Inc. v.
Commissioner, 133 T.C. 202, 206 (2009), aff’d, 679 F.3d 1109 (9th Cir. 2012).
By comparison, contributions to a traditional IRA are deductible and earnings
accrue tax free (except with respect to section 511 unrelated business income), but
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[*15] distributions from a traditional IRA are includable in the recipient’s gross
income. See secs. 219(a), 408(a), (d)(1), (e).
The Code establishes a maximum aggregate amount that an individual can
contribute to all of his or her Roth IRAs for a taxable year, and that amount is
phased out between levels of modified adjusted gross income. See sec.
408A(c)(2) and (3). Section 4973(a) imposes for each taxable year an excise tax
of 6% for excess contributions, computed on the lesser of (1) the amount of the
excess contribution, and (2) the value of the account as of the end of the taxable
year. The tax applies each year until the excess contributions are eliminated from
the taxpayer’s Roth IRA. See sec. 4973(b)(2). An excess contribution is defined
in part as a contribution to a Roth IRA that exceeds the amount allowable as a
contribution. Sec. 4973(f). Dividends paid on stock held by a Roth IRA are
considered earnings of the Roth IRA itself, rather than contributions by the owner
of the Roth IRA, and do not count towards the contribution limits of section 408A.
See Taproot Admin. Servs., Inc. v. Commissioner, 133 T.C. at 206.
2. Notice 2004-8, 2004-1 C.B. 333
The Internal Revenue Service (IRS) issued Notice 2004-8, 2004-1 C.B. 333,
to address a type of transaction taxpayers are using to avoid Roth IRA contribution
limits. Notice 2004-8, 2004-1 C.B. at 333, states that where a taxpayer’s
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[*16] preexisting business enters into transactions with a corporation owned by
the taxpayer’s Roth IRA, in certain cases “[t]he acquisition of shares, the
transactions or both are not fairly valued and thus have the effect of shifting value
into the Roth IRA.” The notice identified three ways in which the IRS would
attempt to challenge these transactions: (1) apply section 482 to allocate income
from the corporation to the taxpayer, the preexisting business, or other entities
under the control of the taxpayer; (2) assert that under section 408(e)(2)(A) the
transaction gives rise to one or more prohibited transactions between a Roth IRA
and a disqualified person described in section 4975(e)(2); and (3) assert that the
substance of the transaction is that the amount of the value shifted from the
preexisting business to the corporation is a payment to the taxpayer, followed by a
contribution by the taxpayer to the Roth IRA and a contribution by the Roth IRA
to the corporation.
3. Substance Over Form
Generally, the substance and not the form of a transaction determines its tax
consequences. Gregory v. Helvering, 293 U.S. 465, 469-470 (1935); Lazarus v.
Commissioner, 58 T.C. 854, 864 (1972), aff’d, 513 F.2d 824 (9th Cir. 1975).
Where a series of transactions, taken as a whole, shows either that the transactions
themselves are shams or that the transactions have no “purpose, substance, or
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[*17] utility apart from their anticipated tax consequences”, the transactions are
not recognized for Federal tax purposes. Goldstein v. Commissioner, 364 F.2d
734, 740 (2d Cir. 1966), aff’g 44 T.C. 284 (1965); see also Commissioner v. Court
Holding Co., 324 U.S. 331 (1945).
The Commissioner may challenge the purported tax benefits of a transaction
where the underlying substance is demonstrably inconsistent with its form. See
Minn. Tea Co. v. Helvering, 302 U.S. 609, 613 (1938). The Supreme Court has
“looked to the objective economic realities of a transaction rather than to the
particular form the parties employed.” Frank Lyon Co. v. United States, 435 U.S.
561, 573 (1978). The substance over form doctrine applies when the transaction
on its face lies outside the plain intent of the statute and respecting the transaction
would be to exalt artifice above reality and to deprive the statutory provision in
question of all serious purpose. Gregory v. Helvering, 293 U.S. at 470.
4. The Parties’ Arguments
Respondent contends that petitioners, through the transactions at issue,
shifted value to the Benenson Roth IRAs far in excess of the annual contribution
limits. Respondent argues that simply labeling the payments DISC commissions
does not immunize the payments from the application of substance over form
principles. Respondent further contends that petitioners had no nontax business
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[*18] purpose for establishing the Benenson Roth IRAs, JC Export, and JC
Holding and petitioners did not received any nontax economic benefits from the
transaction at issue.
Petitioners contend that there is no reason to disallow deductions for the
commissions paid to the DISC or reclassify the commissions as dividends.
Petitioners rely on Hellweg v. Commissioner, T.C. Memo. 2011-58, and argue that
the three possible grounds for adjustment pursuant to Notice 2004-8, supra, cannot
be applied against them. Petitioners further contend that under Addison Int’l, Inc.
and Jet Research, Inc. reclassification of the transaction using substance over form
principles is improper because it would result in disregarding DISC transactions.
The instant cases are distinguishable from Hellweg. Like the Commissioner
in Hellweg, respondent does not object to the transaction on the basis of section
482 or section 408(c)(2)(A). See Hellweg v. Commissioner, slip op. at 16-17.
Respondent contends that the substance of the transaction fails to comport with its
form. In Hellweg, the Commissioner argued a variation of the third approach of
Notice 2004-8, supra, contending that the transaction lacked substance for excise
tax purposes only. Hellweg v. Commissioner, slip op. at 17. The Commissioner
did not argue that the transaction was invalid for income tax purposes. Id.; see
also Mazzei v. Commissioner, T.C. Memo. 2014-55, slip op. at 9. In Hellweg, we
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[*19] held that a transaction that is valid for income tax purposes must also be
valid for excise tax purposes. Hellweg v. Commissioner, slip op. at 22.
In Hellweg the DISC was indirectly owed by Roth IRAs, which were owned
by individuals who held ownership interests in the operating company that paid
commissions to the DISC. Id. at 4. In Hellweg the income tax treatment of the
transaction was not at issue, id. at 24, but we stated that “in the absence of fraud or
an illegal purpose behind the Transaction” the Commissioner could not challenge
the substance of the transaction for income tax purposes because to do so would
require the DISC to be disregarded, id. at 17. Respondent is not arguing here that
the DISC should be disregarded but rather is arguing that a transaction involving a
DISC should be recharacterized to prevent an abusive transaction.
Respondent does not disregard JC Export or frustrate the congressional
intent behind the DISC provisions. The transaction at issue involves shifting
value to Roth IRAs, and one of the business entities involved is a DISC. The
choice of the business entity does not affect the substance of the transaction.
Under respondent’s recharacterization, the purported commission payments in
substance did not occur. Respondent is arguing that there were no DISC
commission payments made. The existence of JC Export is a distinct issue from
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[*20] the issues of whether JC Export engaged in transactions with the Summa
consolidated group and if so, what the substance of these transactions was.
The parties stipulated that petitioners’ sole reason for entering into the
transaction at issue was to transfer money into the Benenson Roth IRAs so that
income on assets could accumulate and be distributed tax free. Petitioners had no
nontax business purpose for the transactions, nor did they receive any economic
benefit from the transactions.
In Repetto v. Commissioner, T.C. Memo. 2012-168, pursuant to Notice
2004-8, supra, we recharacterized service payments made to purported service
corporations that were owned by Roth IRAs. We found that the agreements were
designed to permit, and did permit, the taxpayer to make excessive contributions
to the Roth IRAs through the disguised service payments. Repetto v.
Commissioner, slip op. at 30.
In the instant cases, there was a series of transactions shifting value into the
Benenson Roth IRAs. These transactions involved a DISC owned by a holding
corporation, rather than a service corporation as in Repetto. These transactions,
like the transaction in Repetto, were used for the purpose of shifting millions of
dollars into Roth IRAs in violation of the statutory contribution limits. In this
situation recharacterization under substance over form principles is appropriate.
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[*21] In Addison Int’l, Inc. v. Commissioner, 90 T.C. at 1213-1219, a former
DISC became disqualified because of a failure to comply with certain DISC
technical rules. There was no Roth IRA involved in the transaction. In Addison
Int’l, Inc. we did not address the issue of whether the substance over form doctrine
is an appropriate remedy when a DISC is used to avoid Roth IRA contribution
limits. Id. at 1220-1223. We specifically addressed the treatment of a former
DISC and relied on legislative history to reach the conclusion that the current
income of a DISC is taxable to the DISC itself and dividends when paid to the
shareholders qualify for the dividends received deduction. Id. The instant cases
do not involve disqualified DISCs, but involve a DISC that is part of a larger tax
avoidance transaction that is not related to a DISC transaction or DISC benefits.
In Jet Research, Inc. v. Commissioner, T.C. Memo. 1990-463, we concluded
that reallocation of income of a disqualified DISC to its parent corporation was
improper because the DISC carried on substantive business activities. In that case
the Commissioner did not apply substance over form principles to recast a
transaction that was circumventing a Code provision; rather the Commissioner
was looking to see whether the transactions between the operating company and
the DISC were done at arm’s length. Id. In Jet Research the Commissioner was
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[*22] trying to determine which party earned the income at issue. Therefore, Jet
Research, Inc. is distinguishable from the instant cases.
The payments that the Summa consolidated group made to JC Export during
2008 were not DISC commissions but deemed dividends to Summa’s shareholders
followed by contributions to the Benenson Roth IRAs.
III. Section 995(g)
Petitioners contend that the payment of DISC dividends to a Roth IRA
cannot be treated as an excess contribution because Congress specifically
addressed the ownership of a DISC by an IRA when it enacted section 995(g).
Section 995(g) provides that when a tax-exempt entity that is a shareholder of a
DISC is deemed to receive a distribution from a DISC, actually receives a
distribution from a DISC of previously untaxed income, or realizes gain from
disposition of DISC shares which is treated as a dividend, then that income is
treated as derived from the conduct of an unrelated trade or business.
Section 995(g) was enacted to ensure that taxable entities could not shield
active business income from tax by assigning DISC stock to controlled tax-exempt
entities. H.R. Rept. No. 101-247, at 1425-1426 (1989), 1989 U.S.C.C.A.N. 1906,
2895. Congress amended section 995(g) to clarify that the section is not limited to
tax-exempt entities described in section 511(a)(2) and (b)(2) but rather includes
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[*23] other tax-exempt entities, such as IRAs, which are subject to taxation on
their unrelated business income.
Petitioners argue that since Congress could have prohibited transactions
involving DISCs owned by IRAs but chose not to do so, Congress was
comfortable with IRAs’ holding DISC stock. We rejected this argument in
Hellweg. As we stated in Hellweg, this argument is logically erroneous. See
Hellweg v. Commissioner, slip op. at 13. Congress’ choice to prevent one
particular abusive transaction involving DISCs and IRAs does not indicate that
Congress approves of all other abusive transactions involving DISCs and IRAs.
See id. at 13-14.
Section 995(g) was enacted in 1988, almost 10 years before the enactment
of the Roth IRA provisions, which were enacted as part of the Taxpayer Relief Act
of 1997, sec. 302. They became effective for tax years beginning after December
31, 1997. Id. sec. 302(f), 111 Stat. at 829. Congress could not have been aware of
the type of abusive transaction involving Roth IRAs at issue here at the time of
enactment of section 995(g).
IV. Conclusion
For these reasons we hold that the payments to JC Export were not DISC
commissions, but rather dividends to Summa’s shareholders followed by
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[*24] contributions to the Benenson Roth IRAs. Accordingly, we will grant
respondent’s motion for partial summary judgment and deny petitioners’ motion
for summary judgment.
Any contentions we have not addressed are irrelevant, moot, or meritless.
To reflect the foregoing,
An appropriate order will be issued.