Even Though Statute Expired Under §4979A, Failure to File Form 5330 Meant Statute Remained Open Under §6501 to Assess Excise Tax on ESOP

In ruling on a motion for reconsideration in the case of Law Office of John H. Eggertsen, P.C. v. Commissioner, 143 TC No. 13 the Tax Court addressed the interaction of provisions governing the statute of limitations for the excise tax on prohibited allocations of employer securities in an ESOP imposed by IRC §4979A.

Generally that tax, like most other excise taxes imposed on a retirement plan, is reported on a Form 5330, Return of Excise Taxes Related to Employee Benefit Plans, for the year in question.  The IRS argued, and the Tax Court agreed in the original case, 142 TC No. 4, that an excise tax should have been paid.

However, in that case the IRS argued only that the statute of limitations on assessing tax was governed by IRC §4979A(e)(2)(D) which provides that the statute shall not expire before the date which is 3 years from the later of the allocation that gave rise to the tax or the date on which the IRS is notified of the ownership.

The Tax Court found, in that case, that the IRS was in possession of information from the Form 1120S and Form 5500 filed that the ESOP owned all stock and that there were only three participants, thus making it clear that the ownership tests would be met.  Thus, the IRS was found to be properly notified more than three years before the assessment was issued.

The IRS, in arguing for reconsideration, claimed that the Tax Court had a responsibility to consider whether the general rules of §6501(a) applies.   The IRS argued, and the Tax Court agreed in the second decision, that §4979A serves only to extend, and not reduce, the statute of limitations in this case. 

To trigger the statute under §6501(a) (the general statute of limitations provision), a taxpayer must file an original return.  The taxpayer did not file a Form 5330 for the year in question and the Court found the taxpayer did not file any other document that would qualify as a return for the §4979A excise tax.

To qualify as a return for these purposes, that other document would have to meet the following four tests:

  • Contain sufficient information to calculate the taxpayer’s tax liability,
  • Purport to be a return,
  • Constitute an honest and reasonable attempt by the taxpayer to satisfy the requirements of the Federal tax law, and
  • Be executed under penalties of perjury

The Court found no document submitted by the taxpayer met all of those requirements.  While notification of ownership might have been made, the taxpayer had not provided sufficient information to allow the IRS to calculate the taxpayer’s liability.

Thus, upon reconsideration, the Tax Court concluded that the statute for assessing the tax remained open under IRC §6501(a) since no return had been filed.

On appeal the Sixth Circuit Court of Appeals, 116 AFTR 2d ¶2015-5214, agreed (No. 14-2591).  While it was a split decision, the dissent was limited to the procedural question of whether the IRS should have been allowed to ask the Tax Court to reconsider, not whether the analysis of §6501(a)'s applicability in that revised opinion was correct.

The majority noted three general exceptions to the rules of §6501(a), two of which might apply in this case.

It looked first at whether, even though the wrong return was filed, the IRS had the information to note the issue.  The majority found:

First, the limitations clock may start in some settings even when the taxpayer fails to file the right return -- say the taxpayer filed the same return for another reason, see Lane-Wells, 321 U.S. at 222-23, or filed the wrong return but with all of the necessary information, see Germantown Trust Co. v. Comm'r, 309 U.S. 304, 308 (1940). A key predicate for this exception is that the return filed must contain "sufficient data to calculate tax liability." Beard v. Comm'r, 82 T.C. 766, 777 (1984), aff'd, 793 F.2d 139 (6th Cir. 1986) (per curiam); accord In re Hindenlang, 164 F.3d 1029, 1032-34 (6th Cir. 1999); see also Bufferd v. Comm'r,506 U.S. 523, 528 (1993); Auto. Club of Mich. v. Comm'r, 353 U.S. 180, 188 (1957); Lane-Wells, 321 U.S. at 223; Germantown, 309 U.S. at 308.

In this instance, however, the filed returns would not allow the Commissioner to calculate the Law Office's excise tax liability. To calculate that liability under § 4979A(a) due to the occurrence of a nonallocation year in 2005, the Commissioner would need to know three things: (1) the ESOP owned Law Office stock at some point during 2005; (2) the percentage of the Law Office's stock allocated to each ESOP participant during 2005; and (3) the value of the Law Office's stock during 2005. The Law Office and the ESOP's returns disclosed the first thing (the ESOP owned 100% of the Law Office's stock) and the third thing (the value of the Law Office's stock held by the ESOP was $401,500). But they did not disclose the second thing -- necessary to determine how much of the Law Office's stock was subject to the excise tax. Under the relevant provisions, the amount subject to the excise tax due to a nonallocation year ranges from 50% to 100% of the total value of the shares of the relevant S corporation. See 26 U.S.C. § 409(p)(3). Without the second piece of information, the Commissioner could not calculate -- and most taxpayers would not want the Commissioner to calculate -- the key point in that range.

The other possibly applicable exception the majority noted was whether, even though the Form 5330 had not been filed, there had been an entry with regard to the excise tax on another return.  There the panel concluded:

Third, for the excise tax in § 4979A and other excise taxes, the limitations clock may begin with "the filing of a return . . . on which an entry has been made with respect to" the applicable excise tax. 26 U.S.C. § 6501(b)(4). The Law Office says this rule applies because it made a host of entries on its other returns "with respect to" the § 4979A tax, including everything from the name of the ESOP to facts that would alert the Commissioner to the nonoccurrence of a prohibited allocation in 2005. But if these entries are "with respect to" the excise tax at all, they are only with respect to the Law Office's incorrect interpretation that the tax applies just to prohibited allocations and ownership of synthetic equity, which impose taxation under the first and third triggers. Because the Law Office made no entry that would alert the Commissioner to the occurrence of a nonallocation year -- thesecond trigger and the trigger that applies to the Law Office -- this exception does not apply.

This argument at any rate fails on its own terms. The text of the exception provides that "the filing of a return . . . on which an entry has been made with respect to [an applicable excise] tax . . . shall constitute the filing of a return of all amounts of such tax which, if properly paid, would be required to be reported on such return." Id. To "constitute the filing of a return" for an excise tax -- to trigger the exception and start the limitations clock -- it must be a return on which amounts of the tax "would be required to be reported." Id.; cf. Internal Revenue Serv., Internal Revenue Manual § (Apr. 1, 2007) ("[U]nder IRC Section 6501(b)(4), the filing of an excise tax return on which an entry is made for a particular tax constitutes the filing of a return of all amounts of that tax which, if properly paid, would be required to be reported on that return. . . ." (emphasis added)). As to the Law Office and the § 4979A tax, the form on which the excise tax was "required to be reported" was Form 5330. No such form was filed, and no return means no exception.

The court agreed that the result might seem harsh, as the taxpayer legitimately believed it had no liability for the excise tax, and thus no need to file the Form 5330.  But the panel concludes:

We appreciate the taxpayer's lament that it seems strange to let the limitations period run until it files the requisite form, which in this instance merely would have reported "no excise tax due." But this takes us back to Justice Jackson's observation about the imperatives of a system of tax collection that turns on self-reporting and to a prior observation of this court that Congress may always change the system. "[T]he door is open," we said in similar circumstances, "for the government to go back, without limit in time, and make assessments against citizens who honestly believed they had made all the returns and paid all the taxes that the law required. . . . The absence of any limitation, under the situation before us, may indeed visit unfair burdens and expense upon innocent taxpayers. If so, Congress can provide the needed remedy." McDonald v. United States, 315 F.2d 796, 801 (6th Cir. 1963).