Flahertys Arden Bowl, Inc. v. Commissioner

115 T.C. No. 19
UNITED STATES TAX COURT
FLAHERTYS ARDEN BOWL, INC., Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 15223-98. Filed September 25, 2000.
F owns more than 50 percent of the stock of P. F
is a beneficiary of two retirement plans held by T.
Under the terms of the plans F is authorized to direct
the investments of the assets in his accounts in the
plans. F is a fiduciary under sec. 4975, I.R.C., and,
under that section, P is a “disqualified person”. Sec.
404(c) of the Employee Retirement Income Security Act
of 1974 (ERISA), Pub. L. 93-406, 88 Stat. 829, 877,
provides that if a plan beneficiary exercises control
over the plan’s assets in his account, the beneficiary
is not a fiduciary.
Held: ERISA sec. 404(c) does not modify the
definition of a fiduciary under sec. 4975, I.R.C., and
P is liable for the tax imposed by that section.
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Nick Hay, for petitioner.
James S. Stanis, for respondent.
OPINION
DAWSON, Judge: This case was assigned to Special Trial
Judge Carleton D. Powell pursuant to Rules 180, 181, and 183.
All Rule references are to the Tax Court Rules of Practice and
Procedure. The Court agrees with and adopts the opinion of the
Special Trial Judge, which is set forth below.
OPINION OF THE SPECIAL TRIAL JUDGE
POWELL, Special Trial Judge: Respondent determined
deficiencies in petitioner’s 1993 and 1994 Federal excise taxes
under section 4975(a)1 of $800 and $1,303, respectively.
Respondent also determined additions to tax under section
6651(a)(1) for 1993 and 1994 of $200 and $326, respectively. The
issues are (1) whether petitioner is a disqualified person under
section 4975(e), and, if so, (2) whether petitioner is liable for
the section 6651(a)(1) additions to tax.
At the time the petition was filed petitioner’s principal
place of business was located in Arden Hills, Minnesota.
1
Unless otherwise indicated, section references are to the
Internal Revenue Code in effect for the years in issue.
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Background
The facts may be summarized as follows. Flahertys Arden
Bowl, Inc. (petitioner), is a corporation organized under the
laws of Minnesota. Patrick F. Flaherty (Mr. Flaherty) owns 57
percent of the common stock of petitioner and is the secretary of
petitioner.
Mr. Flaherty is an attorney licensed to practice law in the
State of Minnesota. Beginning in 1968, Mr. Flaherty’s employer,
Moss & Barnett, P.A., maintained a qualified profit sharing plan.
Moss & Barnett, P.A., also maintained a qualified pension plan.
Both plans were trusts as defined in section 401(a) and were
exempt from tax under section 501(a). Mr. Flaherty participated
in both plans.
U.S. Bank, National Association, is the successor trustee of
both plans.2 Both plans were defined contribution plans and
provided segregated account balances for each participant. Both
plans permitted the participant to direct up to 100 percent of
the account assets.
During the period January 29, 1981, through June 15, 1982,
Mr. Flaherty directed the trustee of his profit sharing plan
2
First National Bank of Minneapolis was the original trustee
of both plans. In 1986, the trust department of First National
Bank of Minneapolis merged with First Trust Company of St. Paul.
First Trust Company of St. Paul became First Trust National
Association, which is now known as U.S. Bank, National
Association.
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account to lend $200,100 to petitioner. Mr. Flaherty also
directed the trustee of his pension plan account to lend
petitioner an additional $25,900. Mr. Flaherty, as an officer of
petitioner, executed notes payable to the plans in exchange for
the loans. The loans were payable upon demand and provided for
interest at a market rate plus 1 percent. Petitioner timely paid
interest on the loans. While the loans were outstanding, each
plan listed the notes as assets on its books and records. The
principal of both loans was repaid on April 5, 1994.
Before his direction to the plans, Mr. Flaherty contacted
Marvin Braun (Mr. Braun) at U.S. Bank, National Association, and
discussed the loans. Mr. Braun is a lawyer and has provided
services for qualified retirement plans since 1971. Mr. Flaherty
asked whether, under the plan agreements, he could direct that
the loans be made and whether section 4975 would apply to
petitioner. Mr. Braun advised him that the loans could be made
and that section 4975 would not apply. Mr. Braun was aware of
the relationship between Mr. Flaherty and petitioner. In
directing that the loans be made, Mr. Flaherty relied on Mr.
Braun’s advice.
Petitioner did not file a Form 5330, Excise Tax Return, for
either of the years in issue. Respondent determined that
petitioner was a disqualified person within the meaning of
section 4975(a), that the loans were prohibited transactions
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under section 4975(c)(1)(B), and that excise taxes were due under
section 4975(a). Respondent also determined that petitioner
failed to file Forms 5330 to report its liability for the excise
taxes and that petitioner was liable for the additions to tax
under section 6651(a)(1).
Discussion
I. Liability Under Section 4975
A. The Statutes
Section 4975 was added to the Internal Revenue Code by title
II of the Employee Retirement Income Security Act of 1974
(ERISA), Pub. L. 93-406, sec. 2003, 88 Stat. 829, 971. ERISA was
enacted to
protect * * * the interests of participants in employee
benefit plans and their beneficiaries, by requiring the
disclosure and reporting to participants and beneficiaries
of financial and other information with respect thereto, by
establishing standards of conduct, responsibility, and
obligation for fiduciaries of employee benefit plans, and by
providing for appropriate remedies, sanctions, and ready
access to the Federal courts. [ERISA sec. 2(b), 29 U.S.C.
sec. 1001(b) (1988).]
The statutory framework of ERISA contains four separate
titles. We deal with Titles I and II. Title I of ERISA contains
the “labor provisions” codified as amended in 29 U.S.C. secs.
1001-1461 (1988). The labor provisions were designed to give the
Department of Labor broad remedial powers over employee benefit
plans. Title II of ERISA contains the “tax provisions” including
section 4975. The tax provisions, contained in the Internal
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Revenue Code, provide the statutory framework for the tax laws
governing employee benefit plans and generally are administered
by the Department of the Treasury. See Rutland v. Commissioner,
89 T.C. 1137, 1143 n.4 (1987).
There are many areas where the labor provisions coincide
with or overlap the tax provisions. While much of the statutory
terminology is similar, there are instances in which the statutes
are different. At issue in this case is one of those
inconsistencies.
Section 4975(a) provides:
SEC. 4975(a). Initial Taxes on Disqualified Person.--
There is hereby imposed a tax on each prohibited
transaction. The rate of tax shall be equal to 5 percent of
the amount involved with respect to the prohibited
transaction for each year (or part thereof) in the taxable
period. The tax imposed by this subsection shall be paid by
any disqualified person who participates in the prohibited
transaction (other than a fiduciary acting only as such).
The definition of a prohibited transaction includes “any direct
or indirect lending of money or other extension of credit between
a plan and a disqualified person”. Sec. 4975(c)(1)(B). For our
purposes, section 4975(c) is similar to ERISA section 406, 29
U.S.C. section 1106(a)(1)(B), except that the term “disqualified
person” is changed to “a party in interest”. A disqualified
person and a party in interest are defined as, inter alia, a
“fiduciary”. Sec. 4975(e)(2)(A); ERISA sec. 3(14)(A), 29 U.S.C.
sec. 1002(14)(A). Section 4975(e)(2)(G) and ERISA section
3(14)(G), 29 U.S.C. 1002(14)(G), further provide that a
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corporation in which a fiduciary owns 50 percent or more of the
stock is also a disqualified person or party in interest.
Section 4975(e)(3) provides:
For purposes of this section, the term “fiduciary” means any
person who–-
(A) exercises any discretionary authority or
discretionary control respecting management of such
plan or exercises any authority or control respecting
management or disposition of its assets
ERISA section 3(21)(A)(i), 29 U.S.C. section 1002(21)(A)(i),
contains virtually the same language.
If this were the end of the statutory framework, petitioner
would clearly be a “disqualified person” and liable for the
excise tax imposed by section 4975(a). Mr. Flaherty is a
fiduciary because he directs the management of the plans’ assets,
more than 50 percent of petitioner’s stock is owned by Mr.
Flaherty, and the plans lent money to petitioner.
The labor provisions of ERISA, however, provide an exception
to the definition of fiduciary:
In the case of a pension plan which provides for
individual accounts and permits a participant or beneficiary
to exercise control over the assets in his account, if a
participant or beneficiary exercises control over the assets
in his account (as determined under regulations of the
Secretary)--
(A) such participant or beneficiary shall not be
deemed to be a fiduciary by reason of such exercise,
and
(B) no person who is otherwise a fiduciary shall
be liable under this part for any loss, or by reason of
any breach, which results from such participant's or
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beneficiary's exercise of control. [ERISA sec.
404(c)(1), 29 U.S.C. sec. 1104(c)(1).]
The plans permitted Mr. Flaherty to exercise control over
the assets in the accounts, and petitioner maintains that, since
Mr. Flaherty is not a fiduciary under the provisions of ERISA
section 404, 29 U.S.C. section 1104, he is not a fiduciary under
section 4975. On the other hand, respondent argues that Mr.
Flaherty is a fiduciary for purposes of section 4975 even though
he may not be a fiduciary under ERISA section 404. We,
therefore, must decide whether ERISA section 404(c)(1) is
incorporated into section 4975(e).
B. Principles of Statutory Construction and the Legislative
History
The starting point for the interpretation of a statute is
the language itself. See Consumer Prod. Safety Commn. v. GTE
Sylvania, Inc., 447 U.S. 102, 108 (1980). If the language of the
statute is plain, the function of the court is to enforce the
statute according to its terms. See United States v. Ron Pair
Enters., Inc., 489 U.S. 235, 240-241 (1989). All parts of a
statute must be read together, and each part should be given its
full effect. See McNutt-Boyce Co. v. Commissioner, 38 T.C. 462,
469 (1962), affd. per curiam 324 F.2d 957 (5th Cir. 1963). When
identical words are used in different parts of the same act, they
are intended to have the same meaning. See Commissioner v.
Keystone Consol. Indus., Inc., 508 U.S. 152, 159 (1993). On the
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other hand, “Where language is included in one section of a
statute but omitted in another section of the same statute, it is
generally presumed that the disparate inclusion and exclusion was
done intentionally and purposely.” United States v. Lamere, 980
F.2d 506, 513 (8th Cir. 1992); see also 2B Singer, Sutherland
Statutory Construction, sec. 51.02, at 122-123 (5th ed. 1992)
(“where a statute, with reference to one subject contains a given
provision, the omission of such provision from a similar statute
concerning a related subject is significant to show that a
different intention existed”).
ERISA section 404 pertains to fiduciary duties. Under ERISA
section 404(a) a fiduciary shall discharge his duties with the
care of a prudent man and diversify the investments. It is
against this background that we must read ERISA section
404(c)(1), which provides that (1) the participant, who exercises
control of the assets, is not deemed to be a fiduciary and,
therefore, is not subject to ERISA section 404(a), and (2) any
other fiduciary is not liable “under this part for any loss * * *
which results” from the participant’s exercise of control of the
assets.
“[T]his part” refers to part 4, Fiduciary Responsibility,
subchapter I, subtitle B, Regulatory Provisions, encompassing
ERISA sections 401 through 414, 29 U.S.C. sections 1101 through
1114, and includes provisions for fiduciary liability contained
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in ERISA section 409, 29 U.S.C. section 1109. It would appear
that in a participant-directed plan ERISA section 404(c)(1)
exculpates from part 4 potential liability a participant
exercising control over the account assets, and any person who
would otherwise be considered a fiduciary is relieved from the
liability under part 4 of ERISA for any loss resulting from the
participant’s exercise of control. In the context of this case,
ERISA section 404(c)(1) serves to insulate the participant (Mr.
Flaherty) and the U.S. Bank, National Association, from the
potential liability arising from any violation of the prudent man
standard of care contained in ERISA section 404(a), 29 U.S.C.
section 1104(a). See H. Conf. Rept. 93-1280, at 305 (1974),
1974-3 C.B. 415, 466.
To the contrary, section 4975(e)(3) contains the definition
of a fiduciary “For purposes of this section”. There is no
exception in the language of section 4975(e)(3) similar to that
of ERISA section 404(c)(1) for the section 4975 liability of a
disqualified person. Applying the rules of statutory
construction discussed supra p. 8, we, therefore, assume that
Congress intended a different result with respect to the section
4975 liability.
Petitioner contends, however, that the legislative history
indicates a clear intent of Congress not only that the
definitions of part 4 of ERISA and of the Internal Revenue Code
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should be as similar as possible, but also that they should
operate together. Petitioner relies on various statements from
the report of the conference committee. See H. Conf. Rept. 93-
1280, supra at 295, 1974-3 C.B. at 456-457 (“To the maximum
extent possible, the prohibited transaction rules are identical
in the labor and tax provisions, so they will apply in the same
manner to the same transaction.”); id. at 308, 1974-3 C.B. at 469
(“The conferees intend that the labor and tax provisions are to
be interpreted in the same way and both are to apply to income
and assets. The different wordings are used merely because of
different usages in the labor and tax laws.”).
We agree with petitioner that the legislative history
indicates a general intent of Congress that the language of the
provisions be read together. The legislative history does not,
however, preclude the existence of separate definitions or
separate scopes in the two provisions. As we noted in O’Malley
v. Commissioner, 96 T.C. 644, 650-651 (1991), affd. 972 F.2d 150
(7th Cir. 1992):
The basis for the liability of a disqualified person
for the excise tax under section 4975(a) * * * is not the
same as the basis for liability of a fiduciary under section
406(a), ERISA. See, e.g., H. Rept 93-1280 (Conf.) at 306-
307 (1974), 1974-3 C.B. 415, 467-468. A fiduciary is liable
under section 406(a), ERISA, if he or she knowingly caused
the plan to engage in a transaction which is described in
section 406(a)(1), ERISA. * * *
Under section 4975(a) and (b), a disqualified person is
liable for the excise tax if he or she participates in the
transaction. Participation in section 4975 occurs any time
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a disqualified person is involved in a transaction in a
capacity other than as a fiduciary acting only as such. * *
*
Furthermore, the conference report indicates that Congress
intended that the definition of “party-in-interest” in the labor
provisions not coincide in every respect with the definition of a
“disqualified person” in the tax provisions. It states:
Under the tax provisions, the same general categories
of persons are disqualified persons, with some differences.
Although fiduciaries are disqualified persons under the tax
provisions, they are to be subject to the excise tax only if
they act in a prohibited transaction in a capacity other
than that of a fiduciary. Also, only highly-compensated
employees are to be treated as disqualified persons, not all
employees of an employer, etc. [H. Conf. Rept. 93-1280,
supra at 323, 1974-3 C.B. at 484.]
Under the labor provisions the potential liability runs
directly to the fiduciary for breaches of his or her duties.
Under section 4975, however, the liability runs not to a
fiduciary as such but to disqualified persons and applies whether
or not a fiduciary breached his duties under ERISA section
404(a). See Westoak Realty and Inv. Co., Inc. v. Commissioner,
999 F.2d 308, 311 (8th Cir. 1993), affg. T.C. Memo. 1992-171;
Leib v. Commissioner, 88 T.C. 1474, 1481 (1987). We do not find,
therefore, that the legislative history alters our conclusion
that the exception contained in ERISA section 404(c)(1) is not
incorporated into the section 4975 definition of a fiduciary.
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C. Regulations
As pointed out above, Congress intended a bifurcated
enforcement of ERISA. President Carter issued Reorganization
Plan No. 4 of 1978 (the 1978 Plan), 3 C.F.R. 332 (1979), 92 Stat.
3790. The 1978 Plan allocates the responsibility of
administering the provisions of ERISA between the Secretary of
the Treasury and the Secretary of Labor. Section 102 of the 1978
Plan gives the Secretary of Labor authority with respect to
regulations, rulings, opinions, and exemptions under section
4975 * * *
EXCEPT for (i) subsections 4975(a), (b), (c)(3), * * *
(e)(1), and (e)(7) of the Code; (ii) to the extent necessary
for the continued enforcement of subsections 4975(a) and (b)
* * *; and (iii) exemptions with respect to transactions
that are exempted by subsection 404(c) of ERISA from the
provisions of part 4 of Subtitle B of Title I of ERISA * * *
Section 102 of the 1978 Plan also provides that the Secretary of
the Treasury shall still have responsibility to audit qualified
retirement plans and to enforce the section 4975 excise tax as
provided in section 105 of the 1978 Plan. Section 105 of the
1978 Plan binds the Secretary of Treasury to the “regulations,
rulings, opinions, and exemptions issued by the Secretary of
Labor”.
In October of 1992 the Department of Labor issued final
regulations that provide:
Prohibited Transactions. The relief provided by section
404(c) of the Act and this section applies only to the
provisions of part 4 of title I of the Act. Therefore,
nothing in this section relieves a disqualified person from
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the taxes imposed by sections 4975(a) and (b) of the
Internal Revenue Code with respect to the transactions
prohibited by section 4975(c)(1) of the Code. [29 C.F.R.
sec. 2550.404c-1(d)(3) (1993).]
The regulations are effective “with respect to transactions
occurring on or after the first day of the second plan year
beginning on or after October 13, 1992.” Id. sec. 2550.404c-
1(g)(1). Both parties agree that the loans at issue were repaid
before the effective date of the regulations and the regulations
do not apply to the transactions in this case. Nonetheless, it
should be noted that the result attained by the regulations
coincides with our reasoning.
Furthermore, this provision of the regulations has its
genesis in proposed regulations issued in 1987 and 1991. In
1987, the Department of Labor issued proposed regulations
regarding participant-directed plans. See 52 Fed. Reg. 33508
(Sept. 3, 1987). The preamble to the proposed regulations
provided, in part:
Prohibited transactions. Finally, the proposed regulation
makes it clear that * * * the relief provided by section
404(c)(2) extends only to the provisions of part 4 of Title
I of ERISA (relating to fiduciary responsibility).
Therefore, even if a prohibited transaction is a direct and
necessary consequence of a participant's exercise of
control, nothing in section 404(c) of ERISA would relieve a
"disqualified person" described in section 4975(e)(2) of the
Code (including a fiduciary) from liability for the taxes
imposed by sections 4975 (a) and (b) of the Code with
respect to such prohibited transaction. [Id. at 33513.]
In 1991, the Department of Labor issued new proposed
regulations regarding participant-directed plans. See id. at
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10734. The 1991 proposed regulations took the same position with
respect to ERISA section 404(c). The 1991 proposed regulations
noted that “There is no provision in the Internal Revenue Code
corresponding to section 404”. Id. at 10734. Proposed
regulations are not authoritative. On the other hand, “proposed
regulations can be useful as guidelines where they closely follow
the legislative history of the act.” Van Wyk v. Commissioner,
113 T.C. 440, 444 (1999).
Petitioner contends that since the Department of Labor
failed to issue final regulations until 1992, the exception to
the definition of a fiduciary provided by ERISA section 404(c),
29 U.S.C. section 1104(c), should apply throughout ERISA
including the tax provisions. Because the Department of Labor
failed to issue final regulations on this point until 1992,
petitioner contends that respondent is not in a position to argue
that separate definitions of a fiduciary apply for the two
titles. However, the absence of final regulations does not
render the provisions of section 4975 inoperative. Cf.
Occidental Petroleum Corp. v. Commissioner, 82 T.C. 819, 829
(1984).
II. Additions to Tax Under Section 6651(a)(1)
The parties agree that, if petitioner is liable for the
excise taxes under section 4975, excise tax returns should have
been filed. Section 6651(a) imposes an addition to tax for
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failing to file a timely income tax return, unless such failure
to file is due to reasonable cause and not due to willful
neglect. The addition to tax is 5 percent of the amount required
to be reported on the return for each month or fraction thereof
during which such failure to file continues, not to exceed 25
percent in the aggregate. See sec. 6651(a)(1); United States v.
Boyle, 469 U.S. 241 (1985).
There is, and we do not understand respondent to argue
otherwise, no evidence indicating that petitioner’s failure to
file was the result of willful neglect. Thus, the question is
whether petitioner has demonstrated reasonable cause for the
failure. The failure to file flows directly from Mr. Braun’s
advice that petitioner incurred no liability from the loan
transactions.
Petitioner argues that its reliance on that advice
constituted reasonable cause. We have held in various situations
that reliance on expert advice constitutes reasonable cause.
See, e.g., Citrus Valley Estates, Inc. v. Commissioner, 99 T.C.
379, 463 (1992); see also United States v. Boyle, supra at 250-
251. Mr. Braun is a lawyer with extensive experience in the area
of retirement plans. He was fully aware of all of the relevant
facts. He researched the issue and advised petitioner that he
believed the loans would not violate any of the provisions of
ERISA or cause any tax liability under section 4975. The ERISA
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provisions involved are highly complex, and the fact that his
conclusion was erroneous does not mean that petitioner’s reliance
was not reasonable. Consequently, we conclude that petitioner
has established reasonable cause for not filing the returns and,
therefore, the additions to tax under section 6651(a)(1) are
inappropriate.
Decision will be entered for
respondent with respect to the
deficiencies, and for petitioner
with respect to the additions to
tax under section 6651(a)(1).