the IRA trusts of which T was to be the trustee.
Concurrently therewith each of the IRA trusts acquired a unit(s) (or fraction thereof) in an investment in a bus stop shelter program.
1. Held
: T is not qualified to serve as a trustee of an IRA trust under sec. 408(a)(2), I.R.C., and sec. 1.408-2(b)(2), Income Tax Regs.
2. Held
, further , the distribu t ions to Ps were taxable in the year of distribution and were subject to the 10-percent additional tax pursuant to se c. 72(t), I.R.C.
3 . Held , f urther , under Wood v. Commissioner , 93 T.C. 114 (1989), Ps did not substantially comply with the rollover contribution requirements of sec. 408(d), I.R.C., so as to exclude the distributions from income. Stephen M. Goodman , for petitioners.
Lisa W. Kuo
, for respondent.
JACOBS, Judge
: Respondent determined deficiencies in petitioners' 1991 Federal income tax as follows:
Docket
No.
Petitioner(s)
Deficiency
4265-96 Gordon J. and Bonnie L. Schoof $24,605 6210-96 Lyman K. and Judith Kennedy 4,112 6394-96 Melvin L. and Gail H. Rush 8,706 6617-96 Alice M. Johnson1 7,397 6761-96 Robert J. and Bette Barraclough 10,764 7632-96 William N. and Joan E. Hughes 128,225 9362-96 William W. and Joan E. Agnew 46,533 9490-96 Joe O. and Daurine M. Baker 3,002 15341-96 Joseph P. and Genice Spetz 8,724 15342-96 Robert C. and Mary D. Borman 16,462 17606-96 Nurit Haramgaal 11,405 17607-96 John S. Husmann and Elinor C. MacKinnon 4,6061 A notice of deficiency was issued to Alice M. Johnson and her husband Duaine E. Johnson. Mr. Johnson died on Sept. 1, 1994. An estat e was not opened for him. Alice M. Johnson, as surviving spouse, is the sole petitioner in docket No. 6617-96. Each of these 12 consolidated cases involves the following transactions: (a) A distribution from an individual retirement plan, (b) an attempted tax-free rollover contribution of that distribution to a newly established putative individual retirement account trust, and (c) a purchase of a unit(s) (or fraction thereof) in a bus stop shelter program. The issue for decision is whether the rollover qualifies for tax-free treatment. Resolution of this issue depends in part upon whether the trustee of the putative individual retirement account trust is an eligible trustee.
Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the year in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure. FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and attached exhibits are incorporated herein by this reference.
FAC Individual Retirement Account
Donald L. Thomson was one of several individuals who actively sold bus stop shelter units as part of MDA's bus stop shelter program. Mr. Thomson was a financial planner and accountant who did business as Financ ial & Accounting Consultants, Inc. (FAC). Despite its name, FAC was a sole proprietorship and not a corporation.
During the late 1980's, Mr. Thomson sought approval from the
Internal Revenue Service (IRS) to become a trustee of an individual retiremen t account (IRA) trust that ultimately would make an investment in MDA's bus stop shelter program (the FAC IRA). Mr. Thomson prepared a FAC IRA disclosure statement which was delivered to all prospective investor s in the FAC IRA. The disclosure statement stated:
The Trust is established with the intent that it qualify as an "Individual Retirement Account" under Section 4 08(a) of the Code, and the provisions hereof shall be construed in accordance with such intent. * * * The Trust was last approved as an acceptable form of prototype trust under Section 408(a) of the Internal Revenue Code by the National Office of the Internal Rev enue Service (IRS) in Opinion Letter Serial No. B111447b dated March 27, 1987.
Upon opening the FAC IRA, the investor executed an IRA adoption agreement. The adoption agreement authorized FAC to invest the IRA contributions in MDA's bus stop shelter program and to open a Contribution to FAC IRA Date Gordon J. Schoof $62,151.00 3,579.771 0 2/05/91 02/07/91 $65,000.00 02/07/91 Bonnie L. Schoof 7,397.69 10,709.06 08/16/91 08/26/91 20,000.00 09/04/91 Lyman K. Kennedy 5,000.00 04/18/91 5,000.00 04/24/91 Judith Kennedy 5,000.00 04/18/91 5,000.00 04/24/91 Melvin L. Rush 81,059.51 02/14/912 20,000.00 02/14/91 Alice M. Johnson3 25,969.82 1,4 1991 25,000.00 11/19/91 Robert J.
Barraclough
10,000.004 1991 10,000.00 06/25/91 Bette Barraclough 10,000.004 1991 10,000.00 06/25/91 William N. Hughes 306,860.10 02/14/91 305,000.00 02/14/91 William W. Agnew5 202,500.001 07/31/91 200,000.00 08/01/91 Joe O. Baker 10,000.001 08/23/91 10,000.00 08/23/91 Daurine M. Baker 10,000.001 08/23/91 10,000.00 08/23/91 Joseph P. Spetz 14,166.54 3,500.74 07/23/91 07/23/91 20,000.00 07/23/91 Robert C. Borman6 46,412.00 03/06/91 45,000.00 02/27/91 Nurit Haramgall 19,223.50 9,852.17 01/31/91 04/11/91 30,000.00 05/02/91 John S. Husmann 5,284.90 01/04/91 5,000.00 01/07/91 Elinor C.
MacKinnon 4,191.02 03/11/91 5,000.00 04/06/91
Inc.", or some variation of that name. None of the investors made their checks payable to the FAC IRA or Mr. Thomson as trustee. All petitioners, other than Joe O. and Daurine M. Baker, contributed to the FAC IRA by writing checks drawn on their personal checking accounts. Petitioners Joe O. and Daurine M. Baker caused the trustee of their existing IRA's to issue cashier's checks. After investing in the FAC IRA, all petitioners executed purchase, lease, maintenance, and buyback agreements with MDA and executed an IRA adoption agreement with FAC. Mr. Thomson executed a Form 56 with respec t to each petitioner. Mr. Thomson and each petitioner executed a Form 5305-A.
The rents generated by the bus stop shelter units were deposited into the El Dorado Bank custodial accounts. The bus stop shelter units were held in the FAC IRA trust.
None of petitioners reported the distributions from their
IRA's (and in the case of Nurit Haramgaal, she did not report the distribution from her IRA and pension plan) as a taxable event on their 1991 Federal income tax returns.
In the r espective notices of deficiency to petitioners, respondent determined that the IRA and pension plan distributions were taxable events on the predicate that petiti oners did not properly roll over the distributions into qualified IRA's. Respondent also determined that each petitioner was lia ble for a from the IRS office in Washington, D.C., dated March 27, 1987, to act as a trustee for the FAC IRA trust. This is the same date reported by Mr. Thomson in FAC's IRA disclosure statement (given to all prospective investors) in which he claims the IRA trust format was approved by the IRS.
Respondent produced a letter from his Washington, D.C., office with the same serial No . (B111447b) and date (March 27, 1987) as that reported by Mr. Thomson in his disclosure statement. The letter is addressed to "MFS Financial Service Inc" (MFS) of Boston, Massachusetts, and states in part:
In our opinion, the amendment t o the form of the prototype trust, custodial account or annuity contract identified above does not adversely affect its acceptability under section 408 of the Internal Revenue Code.
Each individual who adopts this approved plan will be considered to have a retirement savi ngs program that satisfies the requirements of Code section 408, provided they follow the terms of the program and do not engage in certain transactions specified in Code section 408(e). Please provide a copy of this letter t o each person affected.
The Commissioner's letter, despite Mr. Thomson's belief to the contrary , does not indicate that he was approved by the Commissioner to serve as a trustee for the FAC IRA. The letter refers to an amendment to the form of a trust, see Rev. Proc. 8750, 1987-2 C.B. 647, 648, not to the approval of a trustee to serve in that capacity. Moreover, the letter was addressed to MFS of Boston, Massachusetts, and not to Mr. Thomson or FAC, which is located in Newport Beach, California. (Mr. Thomson did not esta blish any relationship between MFS and himself or FAC.) Consequently, we hold that Mr. Thomson was not eligible to serve as a trustee to the FAC IRA trust.
We next consider the consequences of the distributions out of individual retirement plans to petitioners and the subsequent rollover of those distributions to a purported IRA trust with an unqualified trustee. Respondent asserts that the disqualification of Mr. Th omson requires such distributions to be included in petitioners' income. Petitioners assert that so long as they substantially complied with the statutory rollover contribution requirements, they are entitled to exclude the distributions from income. We agree with respondent.
In Fazi v. Commissioner
, 102 T.C. 695 (1994), we addressed the issue of whether the failure to adopt a formal written plan for the establishment of an employer retirement plan was fa tal to the qualification of the plan, thus causing the distributions from that plan to be incl udable in income. (Section 1.401-1(a)(2), Income Tax Regs., requires a definite written program and arrangement which is commun icated to the employees. See also Employee Retirement Income Sec urity Act of 1974, Pub. L. 93-406, sec. 102(a)(1), 88 Stat. 829, 841.) We held in F azi that the regulatory requirement of a written plan that is c ommunicated to employees would have no meani ng if the employer did not prepare a written plan to which it (the employer) was contractually bound. Fazi v. Commissioner , supra at 704. "An unexecuted and unadopted plan would be of no comfort to employees who might have to rely upon the terms of a plan for their future security." Id.
IRA tr usts were created by Congress to provide retirement savings opportunities to employees whose employers did not provide quali fied retirement plans. H. Rept. 93-779, s upra at 124-125, 1974-3 C.B. at 367-368. The same concern as to employer retirement plans, namely the beneficiary's future security, is at the heart of the IRA trust arrangement. Consequently, a trustee who has the capacity to administer the trust in a manner that is consistent with the purpose of a retirement account is critical to the qualificati on of an IRA trust. An individual, per se, does not have such capacity because of the lack of continuity in case of his or her deat h. As a result, the lack of a qualified trustee is fatal to the existence of a qualified IRA trust under section 408(a).
The substantial compliance doctrine, which petitioners request we apply to their situation, is not applicable to the situation herein. In Wood v. Commissioner , 93 T.C. 114 (1989), a taxpayer sought to roll over the proceeds from a profit-sharing plan into an IRA. The taxpayer properly executed the transaction within the required 60-day period, but the trustee mistakenly recorded a part of the proceeds as having been transferred to a non-tax-deferred account. We therein found that the taxpayer did everything reasonably expected to comply with the statutory rollover contribution requirements, including meeting with his IRA trustee, instructing the trustee to open an IRA, executing the documents to open the IRA, and transferring the distribution to the trustee for deposit in the IRA. Moreover, the trustee assured the taxpayer that the rollover transaction would be carried o ut. We held in Wood that the trustee's bookkeeping error did not preclude rollover treatment because the taxpayer had substantially complied with the statutory requirements.
The facts herein are distin guishable from those in W ood v. Commissioner , supra . The present case involves the failure of a fundamental element of the statutory requirem ents for an IRA rollover contribution, namely the qualification of the IRA trustee; whereas Wood v. Commissioner , supra , involved procedural defects in the execution of the rollover.
Where the requir ements of a statute relate to the substance or essence of the statute, they must be rigidly observed. On the other hand, if the requirements are procedural or directory in that they do not go to the essence of the thing to be done, but rather are given with a view to the orderly conduct of business, they may be fulfilled by substantial compliance. [Citations omitted.]
Rodoni v. Commissioner
, 105 T.C. 29, 38-39 (1995); see also Taylor v. Commissioner , 67 T.C. 1071, 1077-1078 (1977).
The present case is more like Rodoni v. Commissioner
, supra , wherein we held to be fatal the failure to rollover distributions from a profit sharing plan to an IRA for the same person from whose plan the dis tributions were made. That type of error related to the essence of the statute in that case.
Here, petitioners did not substantially comply with the requirements of rolling over their distributions into an IRA under section 408(a). Although we are sympathetic to petitioners' plight, we hold the distributions out of qualified IRA's to p etitioners (in the case of petitioner Nurit Haramgaal, the distri butions out of her qualified IRA and pension plan) are includable in petitioners' 1991 income.
Section 72(t) imposes a 10-percent additional tax on premature distributions from retirement plans. Exceptions exist as provided under section 72(t)(2), in cluding distributions made on or after the date the recipient reaches the age of 59-1/2. Sec. 72(t)(2)(A)(i). Petitioners, other than Gordon J. Schoof, William W. Agnew, Alice M. Johnson, Joe O. Baker, and Daurine M. Baker, are li able for the 10-percent additional tax because the record does not show that they came within any of the exceptions to the tax under section 72(t)(2).
To reflect the foregoing and the concessions of the parties, Decisions will be entered under Rule 155 .