The opinion
T.C. Memo. 1998-203
UNITED STATES TAX COURT
RAMON A. GARCIA AND BERTHA E. GARCIA, Petitioners v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 21532-95. Filed June 3, 1998.
Richard M. Taylor and James E. McCutcheon III, for
petitioners.
Elizabeth A. Owen, for respondent.
MEMORANDUM FINDINGS OF FACT AND OPINION
WHALEN, Judge: Respondent determined the following
deficiencies in, and accuracy-related penalties with
respect to, petitioners' Federal income tax:
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Year Deficiency Sec. 6662 Penalty
1990 $22,763 $4,553
1991 25,581 5,116
Unless stated otherwise, all section references are to the
Internal Revenue Code as in effect during the years in
issue.
The issues remaining for decision are: (1) Whether
loans that petitioner received from a qualified employer
plan during 1986, together with accrued interest, are
properly treated under section 72(p) as distributions from
the plan in 1991, as respondent contends, or in a prior
year that is not before the Court, as petitioners contend;
(2) in the case of loans from a qualified employer plan
that are treated as distributions under section 72(p),
whether subsequent accruals of interest are properly
treated as additional distributions from the plan; and (3)
whether petitioners are liable for the accuracy-related
penalty for negligence prescribed by section 6662.
FINDINGS OF FACT
Some of the facts have been stipulated and are so
found. The stipulation of facts, supplemental stipulation
of facts, and exhibits attached to each are incorporated
herein by this reference. Petitioners are husband and wife
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who filed joint Federal income tax returns for 1990 and
1991. At the time they filed their petition in this case
petitioners resided in Del Rio, Texas. All references to
petitioner are to Mr. Ramon A. Garcia.
Petitioner is a physician who engages in the practice
of medicine with approximately five employees in Del Rio,
Texas. In 1976, petitioner established The Ramon A.
Garcia, M.D., P.A., Profit Sharing Plan & Trust Agreement
(the plan) in connection with his medical practice. The
plan was at all relevant times a qualified employer plan
within the meaning of section 72(p)(4). Petitioner was a
participant in the plan at all times since its inception.
He also served as plan administrator and as one of three
trustees of the trust that formed part of the plan.
Petitioner received 13 separate loans from the plan
between February 1986 and June 1992. The dates and amounts
of these loans are as follows:
Date Amount
2/03/86 $15,000.00
5/01/86 12,000.00
8/15/86 11,760.00
1/15/87 10,000.00
2/15/87 4,000.00
2/15/88 10,000.00
8/15/88 5,000.00
1/31/90 6,000.00
4/16/90 18,000.00
1/01/91 1,675.86
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Date Amount
5/22/91 2,151.47
3/24/92 2,500.00
6/17/92 5,000.00
Each loan is evidenced by a written note, and the terms of
the notes are set forth on substantially identical forms.
Each note requires repayment over a 5-year period "in 20
quarterly installments", together with interest at the rate
of 10 percent per annum.
Petitioner did not make payments in accordance with
the terms of the notes. He made only two payments. On
April 11, 1989, he made a partial payment of $8,545, and
sometime in 1994, he paid the entire outstanding balance
of all of the loans, including all accrued interest.
There is no written agreement or other document evidencing
a renegotiation, extension, renewal, or revision of any
part of the plan or any of the loans. Petitioners did not
include any of the loans in the gross income reported on
their Federal income tax returns.
Prior to trial, respondent made concessions which
resulted in reduced deficiencies and penalties. The
amounts now in dispute are as follows:
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Revised
Year Deficiency Sec. 6662 Penalty
1990 $9,603 $1,921
1991 22,648 4,530
Respondent computed the amount of the revised
deficiency for 1990 by treating the principal amount of
each of the loans that petitioner received in 1990 as a
taxable distribution of plan assets in that year (viz
$24,000, as shown in the following schedule). In addition,
respondent treated the aggregate unpaid interest that
accrued during 1990 on all of the outstanding loans,
except the 1986 loans, as a distribution during 1990 (viz
$5,100.82, as shown in the following schedule). This
amount includes interest that accrued during 1990 on the
loans made in 1987 and 1988 that the parties agree are
deemed distributions prior to 1990. Respondent calculated
the aggregate deemed distribution for 1990, $29,100.82, as
follows:
Loan Balance as of Balance as of 1990 Accrued Total
Date Principal 1990 Loans 12/31/89 12/31/90 Interest Distribution
2/03/86 $15,000.00
5/01/86 12,000.00
8/15/86 11,760.00
1/15/87 10,000.00 $13,120.87 $14,482.98 $1,362.11
2/15/87 4,000.00 5,248.35 5,793.19 544.84
2/15/88 10,000.00 11,886.86 13,120.87 1,234.01
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Loan Balance as of Balance as of 1990 Accrued Total
Date Principal 1990 Loans 12/31/89 12/31/90 Interest Distribution
8/15/88 5,000.00 5,657.04 244.31 587.27
1/31/90 6,000.00 $6,000.00 6,461.34 461.34
4/16/90 18,000.00 18,000.00 18,911.25 911.25
1/01/91 1,675.86
5/22/91 2,151.47
3/24/92 2,500.00
6/17/92 5,000.00 _________ _________
24,000.00 5,100.82 $29,100.82
Respondent computed the amount of the revised
deficiency for 1991 by treating the principal amount
of each of the loans that petitioner received in 1991
as a distribution of plan assets in 1991 (viz $3,827, as
shown in the following schedule). In addition, respondent
treated the aggregate unpaid interest that accrued during
1991 on all of the loans, except the 1986 loans, as a
distribution during 1991 (viz $6,986.75, as shown in the
following schedule). As with 1990, this amount includes
interest that accrued during 1991 on the loans made in
1987, 1988, and 1990 that the parties agree are deemed
distributions prior to 1991. Finally, respondent treated
the principal amounts of the three loans that petitioner
received during 1986, together with accrued interest as of
December 31, 1991, as a distribution in 1991 (viz
$55,941.57, as shown in the following schedule).
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Respondent calculated the aggregate deemed distribution
for 1991, $66,755.32, as follows:
Loan Balance as of Balance as of 1991 Accrued Balance as of Total
Date Principal 1991 Loans 12/31/90 12/31/91 Interest 12/31/91 Distribution
2/03/86 $15,000.00 $26,469.16
5/01/86 12,000.00 9,720.53
8/15/86 11,760.00 19,751.88
1/15/87 10,000.00 $14,482.98 $15,986.50 $1,503.52
2/15/87 4,000.00 5,793.19 6,394.60 601.41
2/15/88 10,000.00 13,120.87 14,482.98 1,362.11
8/15/88 5,000.00 6,244.31 6,892.56 648.25
1/31/90 6,000.00 6,461.34 7,132.11 670.77
4/16/90 18,000.00 18,911.25 20,874.18 1,962.93
1/01/91 1,675.86 1 $1,676.00 1,804.87 128.87
5/22/91 2,151.47 12,151.00 2,259.89 108.89
3/24/92 2,500.00
6/17/92 5,000.00 __________ _________ __________
3,827.00 6,986.75 55,941.57 $66,755.32
1
The difference between the principal amounts of the loans
petitioner received in 1991 and the amounts respondent includes in the
deemed distribution for the year is presumably attributable to
rounding.
We note that in calculating the unpaid balance of the
1986 loans as of December 31, 1991, respondent applied the
$8,545 payment that petitioner made on April 11, 1989, to
the outstanding balance of the May 1, 1986, loan as of the
date of the payment. We also note that, in computing the
revised deficiency, respondent did not treat the principal
amounts of the loans petitioner received in 1987, 1988, or
1992 as taxable distributions in either of the years at
issue.
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OPINION
Petitioners do not dispute respondent's treatment of
the principal amounts of the 1990 and 1991 loans as deemed
distributions in the respective years of receipt. However,
petitioners contend that the 1986 loans, together with
accrued interest, should be treated as distributions in
1987 rather than 1991, as determined by respondent. In
addition, petitioners contend that respondent erred in
treating the unpaid interest that accrued during 1990 and
1991 on all of the outstanding loans, except the 1986
loans, as taxable distributions in those respective years.
Petitioners bear the burden of proving that respondent's
determinations are erroneous. See Rule 142(a). All Rule
references are to the Tax Court Rules of Practice and
Procedure.
Section 402(a) provides that "the amount actually
distributed to any distributee by any employees' trust
described in section 401(a) * * * shall be taxable to [the
distributee], in the year in which so distributed, under
section 72 (relating to annuities)." Section 72(p)(1)(A)
provides generally that a loan from a qualified employer
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plan to a plan participant or beneficiary is treated as a
taxable distribution to the participant or beneficiary in
the taxable year in which the loan is received. See
Patrick v. Commissioner, T.C. Memo. 1998-30; Prince v.
Commissioner, T.C. Memo. 1997-324; Estate of Gray v.
Commissioner, T.C. Memo. 1995-421; cf. Furlong v.
Commissioner, 36 F.3d 25, 26 (7th Cir. 1994), affg. T.C.
Memo. 1993-191. Section 72(p)(2), however, provides an
exception to this general rule. Under this exception, a
loan is not treated as a taxable distribution if: (1) The
principal amount of the loan (when added to the outstanding
balance of all other loans from the same plan) does not
exceed a specified limit; and (2) the terms of the loan
impose certain minimum repayment requirements. See sec.
72(p)(2).
Section 72(p) was added to the Code by the Tax Equity
& Fiscal Responsibility Act of 1982 (the 1982 Act), Pub. L.
97-248, sec. 236, 96 Stat. 324, 509. In its original form,
section 72(p) provided in pertinent part as follows:
(p) Loans Treated as Distributions.--For
purposes of this section--
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(1) Treatment as Distributions.--
(A) Loans.--If during any taxable year a
participant or beneficiary receives (directly or
indirectly) any amount as a loan from a qualified
employer plan, such amount shall be treated as
having been received by such individual as a
distribution under such plan.
* * * * * * *
(2) Exception for Certain Loans.--
(A) General rule.--Paragraph (1) shall
not apply to any loan to the extent that
such loan (when added to the outstanding
balance of all other loans from such plan
whether made on, before, or after August 13,
1982), does not exceed the lesser of—
(i) $50,000, or
(ii) ½ of the present value of the
nonforfeitable accrued benefit of
the employee under the plan (but
not less than $10,000).
(B) Requirement that the loan be
repayable within 5 years.--
(i) In general.--Subparagraph (A)
shall not apply to any loan unless such
loan, by its terms, is required to be
repaid within 5 years.
(ii) Exception for home loans.--
Clause (i) shall not apply to any
loan used to acquire, construct,
reconstruct, or substantially
rehabilitate any dwelling unit which
within a reasonable time is to be used
(determined at the time the loan is
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made) as the principal residence of the
participant or a member of the family
* * *.
This provision applied to all loans made after August 13,
1982. See 1982 Act, sec. 236(c)(1), 96 Stat. 324, 510.
As part of the Tax Reform Act of 1986 (the 1986 Act),
Pub. L. 99-514, sec. 1134(b), 100 Stat. 2085, 2484,
Congress amended section 72(p) by, inter alia, adding a
new subparagraph (2)(C), which imposes an additional
requirement for the exception contained in section
72(p)(2). That provision states as follows:
(C) Requirement of level amortization.--Except as
provided in regulations, this paragraph shall not
apply to any loan unless substantially level
amortization of such loan (with payments not less
frequently than quarterly) is required over the
term of the loan.
Under this level amortization requirement, a loan is not
eligible for the exception contained in section 72(p)(2)
unless it requires substantially level amortization over
the term of the loan, with payments no less frequently than
quarterly. See id. This level amortization requirement
applies only to loans that are made, renewed, renegotiated,
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modified, or extended after December 31, 1986. See 1986
Act, sec. 1134(e), 100 Stat. 2085, 2484.
Treatment of 1986 Loans
The principal issue in this case involves the treat-
ment of the 1986 loans. As discussed more fully below,
this issue turns on whether the 1986 loans were modified
or extended after 1986 such that they are subject to a
proposed regulation interpreting the level amortization
requirement of the 1986 Act.
The parties agree that at the time the 1986 loans were
made, they were not subject to treatment as distributions
under section 72(p)(1) because they qualified under the
exception set forth in section 72(p)(2). The 1986 loans
became subject to treatment as distributions later by
reason of petitioner's failure to make the payments
required by the notes. The parties differ on the time
the 1986 loans should be treated as distributions.
In formulating the revised deficiency, respondent
treated the 1986 loans as subject to the 1982 Act and
included the outstanding balance of the 1986 loans as of
December 31, 1991, as a taxable distribution of plan assets
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to petitioners in 1991. Respondent's position is based on
the conference report accompanying the 1982 Act, which
states in pertinent part as follows:
if payments under a loan with a repayment period
of less than 5 years are not in fact made, so
that an amount remains payable at the end of 5
years, the amount remaining payable is treated as
if distributed at the end of the 5-year period.
* * * [H. Conf. Rept. 97-760, at 619 (1982),
1982-2 C.B. 600, 672.]
The above-quoted statement from the conference report sets
forth Congressional intent regarding the treatment of loans
that are subject to the 1982 Act, that is, loans made after
August 13, 1982. See H. Conf. Rept. 97-760, at 620 (1982),
1982-2 C.B. 600, 672. Based upon the conference report,
respondent treated the unpaid balance of the 1986 loans
as a taxable distribution in 1991, the end of the 5-year
period following the dates of the loans.
Petitioners concede that the 1986 loans must be
treated as taxable distributions, but argue that "the
entire balance of each loan became taxable to Petitioners
in taxable year 1987, at the latest." Petitioners reason
that the level amortization requirement contained in
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section 72(p)(2)(C) that was added to the Code by the 1986
Act applies to the 1986 loans because the loans were
modified after December 31, 1986. See 1986 Act, sec.
1134(e), 100 Stat. 2085, 2484. Petitioners further reason
that because the level amortization requirement applies to
the 1986 loans, the interpretation of section 72(p)(2)(C)
contained in a proposed regulation issued under the 1986
Act also applies to the loans. This proposed regulation
provides as follows:
Q-10. If a participant fails to make
installment payments required under the terms
of a loan that satisfied the requirements of
[section 72(p)(2)] when made, when does a deemed
distribution occur and what is the amount of the
deemed distribution?
A-10. (a) Timing of deemed distribution.
Failure to make any installment payment when due
in accordance with the terms of the loan violates
[the level amortization requirement of] section
72(p)(2)(C) and, accordingly, results in a deemed
distribution at the time of such failure * * * .
(b) Amount of deemed distribution. If a
loan satisfied [the requirements of section
72(p)(2)] when made, but there is a failure to
pay the installment payments required under the
terms of the loan * * *, then the amount of the
deemed distribution equals the entire outstanding
balance of the loan at the time of such failure.
[Sec. 1.72(p)-1, Q&A-10, Proposed Income Tax
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Regs., 60 Fed. Reg. 66234, 66236 (Dec. 21, 1995)
(emphasis added).]
Under this proposed regulation, petitioners contend,
the loans must be treated as distributions at the time
petitioner first failed to make a quarterly installment
payment. They further contend that such failure occurred
in "1987, at the latest."
We note at the outset that the above proposed
regulation has not been finalized. Moreover, even if the
proposed regulation were final, it would not, by its terms,
apply to the 1986 loans. See sec. 1.72(p)-1, Q&A-19,
Proposed Income Tax Regs. 63 Fed. Reg. 42, 47 (Jan. 2,
1998) (regulation applies to "loans made on or after the
date that is three months after the date of publication of
the final regulations in the Federal Register.") In any
event, as discussed below, we reject petitioners' threshold
contention that section 72(p)(2)(C) as added to the Code by
the 1986 Act is applicable to the 1986 loans. Therefore,
we need not address petitioners' contention regarding the
effect of the proposed regulation.
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In arguing that the 1986 loans were modified after
December 31, 1986, petitioners stipulate that there is no
written agreement or other document evidencing a renewal,
renegotiation, modification, or extension of the loans.
Petitioners maintain that the loans were modified by the
"regular course of dealing" between petitioner and the
plan. Specifically, petitioners argue that "Petitioner's
longstanding failure to make required quarterly payments on
the notes (and the plan's failure to enforce such payments)
amounted to a revision or modification of the terms of the
underlying obligations."
Petitioners cite Tech. Adv. Mem. 93-44-001
(November 5, 1993) (the TAM) to support their position
that the plan's failure to demand payment constituted a
modification of the terms of the notes. We have previously
noted that a technical advice memorandum is merely a ruling
given to a specific taxpayer based upon the taxpayer's
specific facts and is not a ruling of general application.
See Golden Belt Tel. Association, Inc. v. Commissioner, 108
T.C. 498, 506 (1997). It does not constitute authority and
should not be cited as precedent. See sec. 6110(j)(3);
- 17 -
Golden Belt Tel. Association, Inc. v. Commissioner, supra;
Transco Exploration Co. v. Commissioner, 95 T.C. 373, 386
(1990), affd. 949 F.2d 837 (5th Cir. 1992); cf. Follender
v. Commissioner, 89 T.C. 943, 958 (1987).
Moreover, the TAM is clearly distinguishable from the
instant case. The taxpayer in the TAM was a participant
in a qualified profit-sharing plan who received a loan on
December 18, 1986, from the trust that formed a part of the
plan. The Commissioner treated the loan as a distribution
under section 72(p)(1) based upon a determination that the
terms of the note violated the level amortization
requirement of section 72(p)(2)(C). The taxpayer argued
that the loan was not subject to the level amortization
requirement of the 1986 Act because it had been made prior
to December 31, 1986, the effective date of the 1986 Act.
Respondent rejected the taxpayer's argument and determined
that the 1986 Act was applicable because the loan had been
extended after the effective date. Significantly, the
Commissioner did not rely on the fact that the trustee of
the trust had executed two signed statements after
December 31, 1986, purporting to extend the repayment
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period under the terms of the note. Rather, the
Commissioner found that all parties to the loan knew that
the trustee intended to exercise his unilateral authority
to extend it. In concluding that the loan was modified
after December 31, 1986, the Commissioner stated:
[The taxpayer] acknowledges that the delay
in payment was discussed with the [other
participants in the plan] and the [other
participants] knew that no attempt would be
made to demand payment. Therefore, it appears
that the provision in the original loan giving
the trustee unilateral authority to extend the
loan was acted on, and the document [containing
the written extensions] indicates the trustee did
extend the loan. Even if the extension agreement
was prepared after the fact, it appears in this
closely held company that all parties involved
knew that the trustee was extending the loan.
Accordingly, the loan is to be treated as a new
loan on the date of extension, and is therefore
subject to the level amortization requirement.
[Tech. Adv. Mem. 93-44-001 (November 5, 1993).]
In contrast, there is no evidence in this case that
the parties to the loan transactions intended or agreed to
modify or change the terms of the loans after December 31,
1986, and thus there is no basis to find that the 1986 Act
amendments are applicable. First, petitioners stipulate
that there is no written document or notation evidencing a
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renewal, renegotiation, modification, or extension of the
1986 loans. Second, there is no other evidence that the
parties to the loan intended to modify their contractual
relationship in any manner. In fact, we are unable to find
from petitioner's vague and evasive testimony that he was
even aware of the quarterly repayment requirements in the
notes. Petitioner testified on direct examination as
follows:
Q Dr. Garcia, the stipulated notes call
for quarterly repayments. In fact, were
those quarterly repayments ever made?
A No.
Q What was your understanding with regard to
the repayment of the notes?
A Well, according to the advice given to
me by my CPA was that payment would be set
up and that was the advice that I got. To
me that plan was never the note.
Q Did your CPA, Mr. Glen, ever tell you when
the notes should be repaid?
A No, sir.
* * * * * * *
Q * * * What was your understanding with
regard to those quarterly payments?
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A I didn't have any knowledge or
understanding of that. I was just relying
on the advice of my CPA.
Petitioner testified on cross-examination as follows:
Q Did the notes state that you had to pay
-- that you had to make payments quarterly?
A I don't recollect.
We also note that neither of the other trustees testified
at trial. Unlike the TAM, in this case we have no basis
to find that the parties to the loans, consisting of
petitioner and the other two trustees, on the one hand,
and petitioner as borrower, on the other hand, intended to
renew, renegotiate, modify, or extend the terms of the
loans after 1986.
Petitioners also cite three State court cases for the
proposition that the plan's "failure to enforce its rights
over a three or four year period" constituted a "revision
or modification of the [notes]" under State law. In
effect, petitioners argue that State law controls our
determination of whether the subject loans were renewed,
renegotiated, modified, or extended after the effective
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date of the 1986 Act. Petitioners cite no authority for
that proposition. Nevertheless, we find it unnecessary to
decide whether State law controls under these circumstances
because each of the cases petitioners cite is
distinguishable.
Each of the State cases involves overt conduct between
two distinct parties to a contract clearly evidencing
mutual intent to change or alter the terms of the contract.
See Goodyear Tire & Rubber Co. v. Portilla, 879 S.W.2d 47
(Tex. 1994) (employer's failure to enforce antinepotism
policy for approximately 17 years); Highpoint of Montgomery
Corp. v. Vail, 638 S.W.2d 624 (Tex. App. 1982) (lender's
regular acceptance of late payments on a note for
approximately 11 years); Wendlandt v. Sommers Drug Stores
Co., 551 S.W.2d 488 (Tex. Civ. App. 1977) (landlord's
failure to object to late payments over a period of 1½ to
2 years). In contrast, the parties to the notes in this
case did not engage in any conduct evidencing an intent
to renew, renegotiate, modify, or extend the terms of the
notes. As noted above, we are unable to find that
petitioner was even aware of the provisions in the notes
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requiring quarterly payments, and neither of the other
trustees testified at trial.
Moreover, unlike the Texas cases, each of which
involves distinct contractual parties with competing
interests, in this case, petitioner acted as both
administrator of the plan, trustee of the plan trust,
and participant-borrower. Petitioner's unilateral failure
to demand payment from himself under the circumstances
presented in this case is not sufficient, by itself, to
evidence mutual assent between two parties to modify the
terms of the notes.
Furthermore, petitioners do not attempt to show at
exactly what point the plan's failure to demand payment
constituted a modification of the loans. Based on the
cases petitioners cite, any modification that might have
occurred presumably would have taken place after sufficient
time passed to create a "regular course of dealing." Even
if we accept petitioners' argument that the notes were
modified by a regular course of dealing, petitioners have
not shown any factual basis on which to find that the
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regular course of dealing was established prior to the
years before the Court.
Based on the foregoing, we find that petitioners
have failed to prove that the 1986 loans were renewed,
renegotiated, modified, or extended after 1986 within
the meaning of the 1986 Act effective date provisions.
We therefore hold that the level amortization requirement
contained in 1986 Act is not applicable to such loans. Cf.
Hickman v. Commissioner, T.C. Memo. 1997-545. Hence, the
interpretation of that provision contained in the proposed
regulation, discussed above, on which petitioners rely, is
not applicable to the 1986 loans. Accordingly, we sustain
respondent's determination that the outstanding balance of
the 1986 loans as of December 31, 1991, constitutes a
distribution of plan assets to petitioners in 1991.
Unpaid Interest Accrued During 1990 and 1991
Respondent treats the unpaid interest that accrued
during 1990 and 1991 on all of the loans, other than the
1986 loans, as distributions of plan assets in those
respective years. These amounts consist, either entirely
or in substantial part, of interest that accrued after the
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loans were deemed to be distributions for purposes of
section 72(p). Respondent maintains that such amounts are,
in effect, additional loans from the plan which must be
treated as distributions pursuant to section 72(p)(1)(A).
We faced a similar question in Chapman v.
Commissioner, T.C. Memo. 1997-147. The taxpayers in that
case received loans from a qualified employer plan which
respondent treated as deemed distributions pursuant to
section 72(p) under the 1982 Act and the conference report
cited above. Respondent also treated the interest that
accrued during the 5-year repayment period, as well as
the interest that accrued thereafter, as additional
distributions under section 72(p).
In holding that none of the interest was properly
treated as a taxable distribution, we stated:
We are not convinced * * * that Congress
intended that interest accruing during or after
the 5-year period be treated as a taxable
distribution for purposes of section 72(p)(1).
Respondent's argument relies upon the fiction
that the accrued interest constitutes an
additional loan. From the language of section
72(p)(1), it is apparent that, to be a taxable
distribution, the loan amount must be received
either directly or indirectly by the participant
or beneficiary. The accrued interest does not
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satisfy the requirement that the loan must be
received to be a distribution. Accordingly, we
find that for the purposes of section 72(p)(1)
neither * * * [of the taxpayers] received
distributions in 1988 or 1989 equal to the
interest * * * which accrued on the plan loans.
[Chapman v. Commissioner, supra.]
Furthermore, we note that in proposed regulations
recently issued under section 72(p), the Department of
Treasury takes the position, contrary to respondent's
position in this case, that interest which accrues after
a loan is deemed distributed under section 72(p) is not
treated as an additional deemed distribution. Section
1.72(p)-1, Q&A-19, Proposed Income Tax Regs., 63 Fed.
Reg. 42, 44 (Jan. 2, 1998), states in part as follows:
[A-19] deemed distribution of a loan is treated
as a distribution for purposes of section 72.
Therefore, a loan that is deemed to be
distributed under section 72(p) ceases to be
an outstanding loan for purposes of section
72, and the interest that accrues thereafter
under the plan on the amount deemed distributed
is disregarded in applying section 72 to the
participant or beneficiary. Even though
interest continues to accrue on the outstanding
loan * * *, this additional interest is not
treated as an additional loan (and, thus, does
not result in an additional deemed distribution)
for purposes of section 72(p). * * *
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The proposed regulation recognizes that a loan may
continue to be an enforceable obligation and continue
to accrue interest after it is treated as a distribution
under section 72(p). Nevertheless, under the proposed
regulation, once the loan is treated as a distribution,
it ceases to have the characteristics of a loan for
section 72(p) purposes. Thus, unpaid interest that accrues
after the date the loan is treated as a distribution is not
treated as an additional distribution to the borrower.
We note that a proposed regulation carries no more
weight than a position advanced by the Commissioner on
brief. See Hospital Corp. of Am. v. Commissioner, 109 T.C.
21, 53 n.40 (1997); KTA-Tator, Inc. v. Commissioner, 108
T.C. 100, 102-103 (1997); Frazee v. Commissioner, 98 T.C.
554, 582 (1992); Zinniel v. Commissioner, 89 T.C. 357, 369
(1987); F.W. Woolworth Co. v. Commissioner, 54 T.C. 1233,
1265-1266 (1970). Nonetheless, we find that respondent's
position in the proposed regulation makes more sense than
the respondent's litigating position in this case.
Respondent's litigating position is logically inconsistent
to the extent that it continues to treat the loan as
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outstanding for purposes of section 72(p) despite the fact
that the principal amount of the loan previously has been
deemed distributed and included in the taxpayer's income
under section 72(p). Furthermore, respondent cites no
authority in support of the litigating position taken in
this case, other than a general reference to section
72(p), nor has respondent sought to reconcile the
Commissioner's position in this case with the contrary
position taken in the proposed regulation. Accordingly, we
hold that respondent erred in treating the unpaid interest
that accrued during 1990 and 1991 on all of the loans,
except for the 1986 loans, as additional distributions.
See Chapman v. Commissioner, supra.
Petitioners do not challenge respondent's treatment of
the interest that accrued on the 1986 loans prior to the
time the principal amounts were treated as distributions
under section 72(p). Accordingly, we do not address
whether respondent correctly included such amounts in the
deemed distribution for 1991.
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Accuracy-Related Penalty
Respondent determined that petitioners are liable for
the accuracy-related penalty for negligence prescribed by
section 6662. Petitioners contend that they should not be
liable for the penalty because they acted in reasonable
and good faith reliance on the advice of their accountant,
Mr. Robert Glen, in preparing their 1990 and 1991 tax
returns. They maintain that Mr. Glen was fully aware
of all of the facts and circumstances relating to the
formation and execution of the plan, as well as
petitioner's loans from the plan, and that Mr. Glen failed
to advise them to report the amounts received as taxable
distributions. Petitioners also maintain that petitioner
has no training or special knowledge regarding Federal
tax law and qualified plan benefits, and that he did not
understand "the application of federal tax laws to the
loans he received from the qualified plan."
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Section 6662 imposes a penalty equal to 20 percent of
any portion of an underpayment of tax that is attributable
to negligence or disregard of rules or regulations. See
sec. 6662(a) and (b). The term "negligence" is defined as
"any failure to make a reasonable attempt to comply with
the provisions of [the Internal Revenue Code]". Sec.
6662(c). This includes any failure to exercise due care or
to do what a reasonable and ordinarily prudent person would
do under the circumstances. See Rybak v. Commissioner, 91
T.C. 524, 565 (1988); Neely v. Commissioner, 85 T.C. 934,
947 (1985). The term "disregard" includes any careless,
reckless, or intentional disregard. Sec. 6662(c).
Petitioners bear the burden of proving that respondent's
determination of negligence is erroneous. See Rule 142(a);
Luman v. Commissioner, 79 T.C. 846, 860-861 (1982).
Under certain circumstances, a taxpayer may avoid the
accuracy-related penalty for negligence by showing that he
or she acted in reasonable and good faith reliance on the
advice of a competent, independent tax professional. See
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sec. 6664(c); Freytag v. Commissioner, 89 T.C. 849, 888
(1987), affd. 904 F.2d 1011 (5th Cir. 1990), affd. 501
U.S. 868 (1991); sec. 1.6664-4(b)(1), Income Tax Regs.
Such reliance is not an absolute defense to negligence
but merely a factor to be considered. See Freytag v.
Commissioner, supra. When a taxpayer claims reliance on
an accountant, the taxpayer must establish that correct
information was provided to the accountant and that the
item was incorrectly claimed as a result of the
accountant's error. See id.; Ma-Tran Corp. v. Commis-
sioner, 70 T.C. 158, 173 (1978); Pessin v. Commissioner,
59 T.C. 473, 489 (1972). Petitioners bear the burden of
proving that their reliance on professional advice was
reasonable. See Rule 142(a); Freytag v. Commissioner,
supra.
In this case, the record shows that petitioners'
returns for 1990 and 1991 were prepared by the accounting
firm of Glen & Graf. However, neither Mr. Glen nor any
member of Glen & Graf testified at trial. Petitioners
- 31 -
could have called Mr. Glen as a witness at trial but
chose not to do so. This creates a presumption that his
testimony would have been unfavorable to petitioners, or
at least suggests that the testimony would not have
supported their position. See Wichita Terminal Elevator
Co. v. Commissioner, 6 T.C. 1158, 1165 (1946), affd. 162
F.2d 513 (10th Cir. 1947); see also Simon v. Commissioner,
830 F.2d 499, 506 (3d Cir. 1987), affg. T.C. Memo. 1986-
156; Schauer v. Commissioner, T.C. Memo. 1987-237; Song
v. Commissioner, T.C. Memo. 1995-446.
Based upon the record of this case, we do not know
whether Mr. Glen or some other member of his firm prepared
and signed the subject returns. Petitioner testified that
he did not recollect who signed the returns. We also do
not know whether Mr. Glen or other members of the firm had
experience or expertise regarding qualified plans, such
that petitioners' alleged reliance on their advice was
reasonable. Furthermore, there has been no showing of
the specific information that petitioners provided to
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Glen & Graf or the nature or extent of any advice that
Mr. Glen may have provided to petitioners with respect
to the returns.
Petitioner testified in general terms that he relied
upon the advice of his accountant to establish and
administer the qualified plan, and that he relied upon
his accountant's advice with respect to his personal
income tax returns for 1990 and 1991, and with respect to
the preparation of annual reports on behalf of the plan.
However, petitioner's testimony regarding the advice he
received from Mr. Glen about the subject loans was vague
and contradictory. On the one hand, he testified on
direct examination that Mr. Glen advised him not to make
any payments on the loans:
Q Now, Dr. Garcia, did you make any
payments -- your -- did you make any
payments on the loans which have been
entered into evidence other than the
payments -- the partial payment that was
made in 1988, I believe, and which is shown
in the stipulation, and then the payment on
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April 15, 1994 which again is part of the
stipulation?
A No.
Q An was that all done pursuant to advice
of this competent CPA?
A That's correct.
Q And who was that CPA, Doctor?
A Robert Glen.
* * * * * * *
Q Dr. Garcia, the stipulated notes call
for quarterly repayments. In fact, were
those quarterly payments ever made?
A No.
Q What was your understanding with regard
to the repayment of the notes?
A Well, according to the advice given to
me by my CPA was that payment would be set
up and that was the advice that I got. To
me that plan never was the note.
Q Did your CPA, Mr. Glen, ever tell you
when the notes should be repaid?
A No, sir.
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Q Was it your understanding that he would
tell you when the notes should be repaid
under the tax law?
A Well, I was counting on his advice.
Q * * * What was your understanding with
regard to those quarterly payments?
A I didn't have any knowledge or
understanding of that. I was just relying
on the advice of my CPA.
Q And, in fact, was that the course of
action you followed throughout 1987, '87,
[sic] '88, '89 and until the present?
A That's correct.
On cross-examination, petitioner admits that he never
received any specific advice regarding the taxability of
the loans. Petitioner testified as follows:
Q Mr. Garcia, I -- we would just like to know
what your position was, whether you felt that you
were supposed to pay tax on distributions from
those loans you took in 1986 when you signed your
return.
A I really don't know because, again, I was
just counting on the advice of my CPA.
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Q And the advice of your CPA was you did not
have to pay tax?
A No.
Q No, it was or --
A I didn't get any advice in regard to tax,
paying any tax.
Q Your accountant told you, You do not have
to pay tax on any of these loans that you
received?
A No. He did not say that. The only thing
that he said was that we need to devise a plan to
pay off these loans.
Q Did he advise you that you didn't have to
pay off those loans?
A No.
Thus, while the record contains petitioner's self-
serving testimony that he and Mrs. Garcia relied upon the
advice of Mr. Glen, we find petitioner's testimony to be
vague, conclusory, and contradictory. Indeed, petitioner's
testimony on cross-examination is that he "did not get any
advice [from his accountant] in regard to tax, paying any
tax." Accordingly, this is not a case in which we are
- 36 -
questioning the reasonableness of petitioners' reliance
on the advice of a tax professional. Cf. Streber v.
Commissioner, 138 F.3d 216 (5th Cir. 1998), revg. T.C.
Memo. 1995-601; Reser v. Commissioner, 112 F.3d 1258 (5th
Cir. 1997), affg. in part and revg. in part and remanding
T.C. Memo. 1995-572; Chamberlain v. Commissioner, 66 F.3d
729 (5th Cir. 1995), affg. in part revg. in part T.C. Memo.
1994-228; Heasley v. Commissioner, 902 F.2d 380 (5th Cir.
1990), revg. T.C. Memo. 1988-408. Rather, there is no
credible evidence in this case that petitioners' accountant
provided them with any advice regarding the proper tax
treatment of the loans petitioner received from the plan.
Under these circumstances, we are unable to find that
petitioners acted in good faith and reasonable reliance on
the advice of a tax professional such that they should be
relieved of the accuracy-related penalty for negligence.
Cf. Pappas v. Commissioner, 78 T.C. 1078, 1092 (1982);
Sweatman v. Commissioner, T.C. Memo. 1997-468; Drummond
v. Commissioner, T.C. Memo. 1997-71; Balkissoon v.
- 37 -
Commissioner, T.C. Memo. 1992-223; Banks v. Commissioner,
T.C. Memo. 1991-641. Accordingly, we sustain respondent's
imposition of the accuracy-related penalty for negligence.
In light of the foregoing, and to reflect concessions
and settled issues,
Decision will be entered
under Rule 155.