Clinton Deckard v. Commissioner

155 T.C. No. 8

UNITED STATES TAX COURT

CLINTON DECKARD, Petitioner v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 11859-17. Filed September 17, 2020.

W was organized in 2012 as a Kentucky nonstock, nonprofit

corporation. In 2014 W filed a retroactive election for S corporation

status as of the date of its incorporation. P, who was W’s president

and one of its directors, then reported passthrough operating losses

from W on his 2012 and 2013 individual income tax returns. R

disallowed the passthrough losses.

Held: As an officer and director of W, subject to the

constraints of Kentucky law and W’s articles of incorporation, P held

no ownership interest in W equivalent to that of a shareholder for

purposes of applying subchapter S.

Held, further, P is not entitled to claim passthrough losses from

W on his individual income tax returns.

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Mark A. Loyd and Bailey Roese, for petitioner.

Diana N. Wells, for respondent.

OPINION

THORNTON, Judge: In 2012 Waterfront Fashion Week, Inc. (Waterfront),

was organized under Kentucky law as a nonstock, nonprofit corporation. In 2014,

in his capacity as Waterfront’s president, petitioner filed with the Internal Revenue

Service (IRS) Waterfront’s election to be treated as an S corporation, effective

retroactively to the date of its incorporation in 2012. Petitioner later filed

untimely individual income tax returns for his taxable years 2012 and 2013,

claiming Waterfront’s reported operating losses as offsets against his individual

taxable income. By notice of deficiency respondent disallowed these claimed

passthrough losses.

Pending before us are respondent’s motion for partial summary judgment

and petitioner’s cross-motion for partial summary judgment.1 These motions ask

us to decide (1) whether Waterfront made a valid S corporation election and

1

After respondent filed his motion for partial summary judgment, the parties

submitted multiple stipulations of settled issues. Respondent represents that no

issues for trial would remain should we grant his motion for partial summary

judgment.

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(2) whether petitioner was a shareholder of Waterfront for the taxable years 2012

and 2013. Also pending before us is petitioner’s second motion for partial

summary judgment as to Waterfront’s entitlement to certain deductions. The

parties agree that for petitioner to prevail on his second motion for partial

summary judgment, he must first prevail on his cross-motion for partial summary

judgment.

For the reasons explained below, we agree with respondent that petitioner

was not a shareholder or beneficial owner of Waterfront for the taxable years 2012

and 2013 for purposes of subchapter S and so is not entitled to claim passthrough

losses from Waterfront on his individual income tax returns. Accordingly, we will

grant respondent’s motion for partial summary judgment and deny petitioner’s

motions for partial summary judgment.2

Background

The following background information is based on the parties’ motion

papers, their stipulations of facts, and the attached exhibits. When he timely

petitioned this Court, petitioner resided in Kentucky.

2

Unless otherwise indicated, all section references are to the Internal

Revenue Code in effect at all relevant times, and all Rule references are to the Tax

Court Rules of Practice and Procedure.

-4-

Waterfront was organized on May 8, 2012, as a nonstock, nonprofit

corporation under the Kentucky Nonprofit Corporation Acts (Act), Ky. Rev. Stat.

Ann. secs. 273.161-273.390 (West 2012). The articles of incorporation, signed by

D. Kevin Ryan as “Organizer” and filed with the Secretary of State of the

Commonwealth of Kentucky (Kentucky secretary of state), state in part:

The undersigned hereby forms a nonprofit corporation (the

“Organization”) pursuant to the provisions of Kentucky Nonprofit

Corporation Act, KRS 273.161 to 273.390, and adopts the following

as its articles of incorporation:

Article I

The name of the Organization shall be WATERFRONT

FASHION WEEK, INC.

Article II

A. This Organization shall be a nonprofit corporation

organized for all lawful charitable purposes. The primary mission of

the Organization is to raise money for the conservation and

maintenance of the Waterfront Park located in Louisville, Kentucky,

to provide economic development opportunities for various local,

regional, and national fashion industry designers, to provide a

platform for women to embrace their own personal styles and explore

new style avenues, and to enhance the quality of life and the

economic vitality, all in partnership with government and private

business concerns.

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B. The Organization shall have all the powers of a

nonstock, nonprofit corporation formed or existing under the

provisions of KRS 273.161 through KRS 273.390 * * *

* * * * * * *

C. The Organization is organized exclusively for charitable

and educational purposes, including, for such purposes, the making of

distributions to (i) organizations that qualify as exempt organizations

under §501(c)(3) of the Internal Revenue Code of 1986, as amended

from time-to-time (the “Code”) * * *, or (ii) any other federal, state,

or local government entity or enterprise established exclusively for a

public purpose, including but not limited to the Waterfront

Development Corporation.

D. No part of the net earnings of the Organization shall

inure to the benefit of, or be distributable to its directors, officers or

other private persons, except that the Organization shall be authorized

and empowered to pay reasonable compensation for services actually

rendered and to make payments and distributions in furtherance of its

exempt purposes * * *. Notwithstanding any other provision of these

Articles, the Organization shall not carry on any other activities not

permitted to be carried on by (i) a corporation exempt from federal

income tax under §501(c)(3) of the Code or (ii) a corporation,

contributions to which are deductible under §170(c)(2) of the Code.

Article III

The Organization shall have no members.

* * * * * * *

Article VII

The names * * * of the three (3) individuals who shall serve as

the initial directors of the Organization, until their successors are

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elected or appointed, and qualified, as provided under the Bylaws[3] of

the Organization, are the following: Clinton D. Deckard * * *:

Margaret H. Duffy * * *; and D. Joseph Hagerty * * *

* * * * * * *

Article XII

The foregoing notwithstanding, the Organization may be

dissolved by resolution approved by a two-thirds (2/3rds) majority of

the directors in office as defined in the Organization’s Bylaws. Upon

the dissolution of the Organization, its assets shall be distributed as

directed by a two-thirds (2/3rds) majority vote of the directors in

office for (i) one or more exempt purposes that are consistent with the

exempt purposes of the Organization and within the meaning of

§501(c)(3) of the Code or corresponding section of any future federal

tax code, or (ii) any other federal, state, or local government entity or

enterprise established exclusively for a public purpose.

At all relevant times, Waterfront existed under the provisions of the Act. At

all relevant times, petitioner was Waterfront’s president and one of its three

directors along with Margaret H. Duffy, who was its secretary and treasurer, and

D. Joseph Hagerty. Waterfront never applied for recognition of tax-exempt status

with the IRS.

Waterfront produced an event called Waterfront Fashion Week that was

held at the Louisville Waterfront Park from October 17 to 19, 2012. This event

was marketed as benefiting Waterfront Development Corp., a nonprofit

3

Waterfront had no bylaws.

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organization that maintains the Louisville Waterfront Park. The event failed,

however, to break even. Consequently, Waterfront made no cash charitable

contribution to Waterfront Development Corp. The record does not reflect that

Waterfront engaged in any other activity at any relevant time.

On September 28, 2013, the Kentucky secretary of state administratively

dissolved Waterfront for failure to file its 2013 annual report. On December 16,

2013, after filing a reinstatement application, Waterfront was reinstated as a

corporation duly incorporated under Kentucky law. On September 30, 2014, the

Kentucky secretary of state once again administratively dissolved Waterfront, this

time for failure to file its 2014 annual report. This time Waterfront did not seek

reinstatement.

On October 28, 2014, Waterfront mailed to the IRS Form 2553, Election by

a Small Business Corporation. The Form 2553 indicated that Waterfront was

electing to be an S corporation retroactively as of the date of its incorporation,

May 8, 2012.4 Petitioner signed the Form 2553 in his capacity as Waterfront’s

4

A small business corporation generally may elect under sec. 1362(a) to be

an S corporation for any taxable year at any time during the preceding taxable year

or at any time during the taxable year and on or before the 15th day of the third

month of the taxable year. See sec. 1362(b)(1). Rev. Proc. 2013-30, 2013-36

I.R.B. 173, enables a taxpayer to make a late, retroactive election so long as the

election is properly completed within three years and 75 days after the effective

(continued...)

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president. Petitioner also signed the Form 2553 shareholder’s consent statement,

indicating that he held a 100% ownership interest acquired on May 8, 2012.

On January 13, 2015, Waterfront filed untimely Forms 1120S, U.S. Income

Tax Return for an S Corporation, for its taxable years 2012 and 2013, reporting

operating losses of $277,967 and $3,239 for 2012 and 2013, respectively.

Attached to the Forms 1120S were Schedules K-1, Shareholder’s Share of Income,

Deductions, Credits, etc., reporting that petitioner had 100% stock ownership of

Waterfront during 2012 and 2013.

On May 12, 2015, petitioner filed untimely Forms 1040, U.S. Individual

Income Tax Return, for his taxable years 2012 and 2013. On the Schedules E,

Supplemental Income and Loss, attached to these returns, petitioner reported

passthrough, nonpassive losses from Waterfront of $277,967 and $3,239 for

taxable years 2012 and 2013, respectively.

By notice of deficiency respondent disallowed these reported passthrough

losses from Waterfront on the ground that Waterfront had not made a valid S

corporation election or, alternatively, that petitioner was not a shareholder or

member of Waterfront for taxable years 2012 and 2013.

4

(...continued)

date. Respondent has raised no issue about the timeliness of Waterfront’s

election.

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Discussion

I. Summary Judgment Standards

Summary judgment is intended to expedite litigation and avoid unnecessary

and expensive trials. Fla. Peach Corp. v. Commissioner, 90 T.C. 678, 681 (1988).

The Court may grant summary judgment when there is no genuine dispute as to

any material fact and a decision may be rendered as a matter of law. Rule 121(b).

The moving party bears the burden of proving that there is no genuine dispute as

to any material fact, and factual inferences will be read in a manner most favorable

to the party opposing summary judgment. See Sundstrand Corp. v. Commissioner,

98 T.C. 518, 520 (1992), aff’d, 17 F.3d 965 (7th Cir. 1994).

II. S Corporations Generally

Subchapter S allows a qualified corporation, with the consent of all its

shareholders, to be treated as a passthrough entity for purposes of Federal income

tax. Secs. 1361-1366. Consequently, an S corporation, unlike a traditional C

corporation, generally pays no Federal income tax.5 Instead, a shareholder of an S

corporation must report a pro rata share of the S corporation’s taxable income,

5

As exceptions to this general rule an S corporation may be taxable in

certain circumstances on built-in gains and passive investment income, see secs.

1374 and 1375, and for recapture of certain inventory benefits and investment

credits, see secs. 1363(d), 1371(d)(2).

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losses, deductions, and credits. Sec. 1366(a)(1)(A); sec. 1.1366-1(a), Income Tax

Regs.; see Gitlitz v. Commissioner, 531 U.S. 206, 209 (2001); Maloof v.

Commissioner, 456 F.3d 645, 647 (6th Cir. 2006), aff’g T.C. Memo. 2005-75.

III. Shareholder of S Corporation

The critical question is whether petitioner should be considered a

shareholder of Waterfront during the years at issue. If he was not, then he was not

entitled to claim passthrough losses from Waterfront on his individual income tax

returns.

It is undisputed that petitioner was not a shareholder of record; Waterfront

was not authorized to issue stock and in fact had no shares of stock. Petitioner

nevertheless urges that he should be considered Waterfront’s sole shareholder

because, he says, he held exclusive beneficial ownership of the corporation.

Petitioner’s declaration in support of his cross-motion for partial summary

judgment asserts, among other things: that on or about July 22, 2011, he hired

Extraordinary Events, an unrelated event-planning business, to coordinate

Waterfront Fashion Week; that on May 3, 2012, he hired Attorney D. Kevin Ryan

to advise him on the creation of a legal entity to conduct Waterfront Fashion Week

because Extraordinary Events had advised petitioner that a tax-exempt entity

would encourage sponsors to make tax-deductible contributions to the legal entity;

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that Attorney Ryan never advised petitioner that sponsors might be able to deduct

sponsorships as trade or business expenses even if the legal entity lacked tax-

exempt status; that on May 8, 2012, Attorney Ryan formed Waterfront under the

Act; that during 2012 and 2013 petitioner was president of Waterfront and its

“sole decision maker”; that on or about August 10, 2012, he terminated the

agreement with Extraordinary Events because it had failed to recruit enough

sponsors or raise enough contributions to fund Waterfront Fashion Week; that he

then assumed “complete control” over planning Waterfront Fashion Week,

“abandoned plans” for Waterfront to obtain Federal tax-exempt status, and began

treating Waterfront as a “for-profit business that I owned entirely”; and that in

August 2012 he made over $275,000 of contributions to Waterfront representing

over 85% of the total cost of Waterfront Fashion Week.

Respondent has not expressly disputed these asserted facts. For purposes of

deciding respondent’s motion for partial summary judgment, we assume that they

are true. Nevertheless, for the reasons explained below we conclude that as a

matter of law petitioner is not properly treated as Waterfront’s shareholder for

purposes of subchapter S.

The subchapter S regulations provide: “Ordinarily, the person who would

have to include in gross income dividends distributed with respect to the stock of

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the corporation (if the corporation were a C corporation) is considered to be the

shareholder of the corporation.” Sec. 1.1361-1(e)(1), Income Tax Regs. Citing

this regulation, one court has observed that “the question whether a person was a

shareholder on the date of the election to be taxed under Subchapter S is

equivalent to the question whether, had there been a valid election, he would have

been required to report as personal income profits earned by the corporation on

that date.” Cabintaxi Corp. v. Commissioner, 63 F.3d 614, 616 (7th Cir. 1995),

aff’g in part, rev’g in part on other grounds T.C. Memo. 1994-316. The resolution

of this question depends on whether the person “would have been deemed a

beneficial owner of shares in the corporation, entitled therefore to demand from

the nominal owner the dividends or any other distributions of earnings on those

shares.” Id.

The courts look to State law to determine whether a person is a beneficial

owner of corporate shares:

[A]lthough the meaning of “shareholder” for purposes of Subchapter

S election has been said to be a matter of federal law rather than of

state law, this means only that it is federal law which determines

which kind of shareholder--namely, beneficial rather than record--is

required to elect in order for the corporation to achieve Subchapter S

status. Whether a particular investor was a shareholder of that kind--

in this case was a beneficial shareholder of * * * [the corporation] on

the date of the election--is an issue of state law. [Citation omitted.]

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Id. at 617 (citing United States v. Nat’l Bank of Commerce, 472 U.S. 713, 722

(1985), Aquilino v. United States, 363 U.S. 509, 513 (1960), and United States v.

Denlinger, 982 F.2d 233, 235 (7th Cir. 1992)); accord Pahl v. Commissioner, 150

F.3d 1124, 1129 (9th Cir. 1998), aff’g T.C. Memo. 1996-176; see Swenson v.

Commissioner, 37 T.C. 124, 131 (1961) (“In determining when petitioner acquired

the stock in question, we must look to the applicable State law.”), rev’d on other

grounds, 309 F.2d 672 (8th Cir. 1962).

Consistently with these precepts, in deciding whether a person is properly

treated as an S corporation shareholder, courts have frequently considered whether

the person is a beneficial owner of the corporation’s stock. See, e.g., Pahl v.

Commissioner, 150 F.3d 1124; Cabintaxi Corp. v. Commissioner, 63 F.3d 614;

Wilson v. Commissioner, 560 F.2d 687 (5th Cir. 1977), aff’g T.C. Memo. 1975-

92; Hook v. Commissioner, 58 T.C. 267 (1972); Beirne v. Commissioner, 52 T.C.

210 (1969); Hoffman v. Commissioner, 47 T.C. 218 (1966), aff’d per curiam, 391

F.2d 930 (5th Cir. 1968); Hightower v. Commissioner, T.C. Memo. 2005-274,

aff’d, 266 F. App’x 646 (9th Cir. 2008). The parties have cited, and we have

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discovered, no case addressing beneficial ownership in a nonstock, nonprofit

corporation for purposes of subchapter S.6

Nonprofit corporations are not generally considered to have owners. See

Farrow v. Saint Francis Med. Ctr., 407 S.W.3d 579, 593 (Mo. 2013) (“Non-profit

corporations do not have owners. * * * [N]on-profit corporations do not have

shareholders or any other way for third parties (whether individuals or entities) to

assert * * * [an] ‘ownership’ role.”); Philip T. Hackney, “What We Talk About

When We Talk About Tax Exemption”, 33 Va. Tax Rev. 115, 121 (2013) (“There

are no ‘owners’ of a nonprofit organization; consequently we cannot use a

pass-through taxation system like we do for partnerships where it is clear who

owns the firm.”); Joseph Mead & Michael Pollack, “Courts, Constituencies, and

the Enforcement of Fiduciary Duties in the Nonprofit Sector”, 77 U. Pitt. L. Rev.

281, 289 (2016) (“[N]onprofits do not have owners[.]”).

6

In rare circumstances, for purposes of determining whether purportedly

nonprofit cemetery corporations qualified for tax exemption under sec. 501, courts

have treated as equity interests certain profit-sharing arrangements with insiders.

See Knollwood Mem’l Gardens v. Commissioner, 46 T.C. 764, 781 (1966) (“This

arrangement embodies the very essence of an equity interest, ‘a participation in the

pot luck of the enterprise.’” (quoting Aqualane Shores, Inc. v. Commissioner, 269

F.2d 116, 119 (5th Cir. 1959), aff’g 30 T.C. 519 (1958)); Rose Hills Mem’l Park

Ass’n v. United States, 463 F.2d 425, 430 (Ct. Cl. 1972). These cases, however,

did not involve any issue of beneficial ownership for purposes of subchapter S.

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The reason nonprofit corporations are not generally considered to have

owners is that they are prohibited from distributing profits to insiders who are in

positions to exercise control, such as members, officers, or directors:

The leading theory of nonprofit enterprises holds that the rationale for

use of the nonprofit form lies chiefly in the so-called “nondistribution

constraint”--i.e., the fact that while ordinary business corporations

have shareholders who are allowed to receive the residual earnings of

the enterprise, the members of a nonprofit corporation are expressly

prohibited from receiving any part of the assets or property of the

corporation for themselves. See Hansmann, Reforming Nonprofit

Corporation Law, 129 U.Pa.L.Rev. 497, 502-507, 557 (1981);

Hansmann, The Role of Nonprofit Enterprise, 89 Yale L.J. 835, 843-

845 (1980). * * *

Austin v. Mich. Chamber of Commerce, 494 U.S. 652, 675 n.6 (1990) (Brennan,

J., concurring).

Consequently, there is no interest in a nonprofit corporation equivalent to

that of a stockholder in a for-profit corporation who stands to profit from the

success of the enterprise. See 1 William M. Fletcher, Cyclopedia of the Law of

Corporations, sec. 68.05 (West 2020) (“One key distinction between nonprofit and

for-profit corporations is that in a nonprofit corporation, shareholders or members

do not have a proprietary interest in the corporation, as they do in a for-profit

corporation.”); Henry B. Hansmann, “The Role of Nonprofit Enterprise”, 89 Yale

L.J. 835, 838 (1980) (“Thus a nonprofit corporation is distinguished from a for-

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profit (or ‘business’) corporation primarily by the absence of stock or other indicia

of ownership that give their owners a simultaneous share in both profits and

control.”).

The prohibition on the distribution of profits is clearly embodied in the Act,

which governs the formation, operation, and dissolution of nonstock, nonprofit

corporations in Kentucky.7 A corporation subject to the provisions of the Act

must possess two important characteristics. First, the corporation must be

“nonprofit”. Ky. Rev. Stat. Ann. sec. 273.161(1). A “[n]onprofit corporation” is

defined as a corporation no part of the income or profit of which is distributable to

its members, directors, and officers. Id. sec. 273.161(3). Consistent with this

definition, the Act expressly prohibits a nonprofit corporation from paying a

dividend or distributing any part of its income or profits to its members, directors,

7

The Act incorporates provisions of the Model Nonprofit Corporation Act.

See Marilyn E. Phelan, 1 Nonprofit Organizations: Law and Taxation 2d, sec.

1:30 (Westlaw 2020).

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or officers. Id. sec. 273.237.8 Second, the corporation “shall not have or issue

shares of stock.” Id.9

As a Kentucky nonstock, nonprofit corporation subject to the provisions of

the Act, Waterfront had no stock and could issue no stock. Consequently,

petitioner does not fall within the four corners of the regulation which

“[o]rdinarily” treats as an S corporation shareholder “the person who would have

to include in gross income dividends distributed with respect to the stock of the

corporation (if the corporation were a C corporation)”. Sec. 1.1361-1(e)(1),

Income Tax Regs. (emphasis added).

8

As possible exceptions to this general rule, Ky. Rev. Stat. Ann. sec.

273.237 (West 2012) provides:

A corporation may pay compensation in a reasonable amount to

its members, directors, or officers for services rendered, may confer

benefits upon its members in conformity with its purposes, and upon

dissolution or final liquidation may make distributions to its members

as permitted by KRS 273.161 to 273.390, and no such payment,

benefit or distribution shall be deemed to be a dividend or a

distribution of income or profit.

9

Unsurprisingly in the light of these constraints, the Act contains no

provision for a beneficial shareholder of a nonprofit corporation. By contrast,

Kentucky corporate law provides a definition for “beneficial shareholder” with

respect to for-profit corporations: “‘Beneficial shareholder’ means the person who

is a beneficial owner of shares held in a voting trust or by a nominee as the record

shareholder.” Ky. Rev. Stat. Ann. sec. 271B.13-010(6) (West 2020).

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Furthermore, petitioner did not otherwise possess an ownership interest in

Waterfront equivalent to that of a shareholder. Because he was president and a

director of Waterfront, the Act, along with Waterfront’s articles of incorporation,

expressly prohibited any part of Waterfront’s income or profit from being

distributed to him or inuring to his benefit. See Ky. Rev. Stat. Ann. sec. 273.237.10

In the light of this nondistribution constraint, treating petitioner as a shareholder

of Waterfront would be fundamentally incompatible with the purpose and

operation of subchapter S, which generally taxes an S corporation’s income

currently at the shareholder level.

Furthermore, petitioner lacked dissolution rights in Waterfront typical of a

shareholder. None of Waterfront’s assets could be distributed to him upon

10

Petitioner asserts that the Act provides an exception to the general rule

against private inurement, in that a nonprofit corporation may “confer benefits

upon its members in conformity with its purposes”. Ky. Rev. Stat. Ann. sec.

273.237. Consequently, petitioner posits: “When a nonprofit corporation can

distribute the profits of a business to its members that hold certificates of

membership, there is no significant difference between a Kentucky nonprofit

corporation and a ‘standard’ corporation.” The short answer is that Waterfront

had no members. The Act defines “Member” as “one having membership rights in

a corporation in accordance with the provisions of its articles of incorporation or

bylaws”. Ky. Rev. Stat. Ann. sec. 273.161(6) (West 2012). Waterfront’s articles

of incorporation expressly provide: “The Organization shall have no members.”

We reject without further discussion the notion that there is no significant

difference under Kentucky law between a nonprofit corporation and other

corporations.

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Waterfront’s dissolution. See Ky. Rev. Stat. Ann. sec. 273.303.11 Consistent with

the constraints of the Act, Waterfront’s articles of incorporation provide that, upon

11

Ky. Rev. Stat. Ann. sec. 273.303 (West 2012) provides:

The assets of a corporation in the process of dissolution shall be

applied and distributed as follows:

(1) All liabilities and obligations of the corporation shall be

paid and discharged, or adequate provisions shall be made therefor;

(2) Assets held by the corporation upon condition requiring

return, transfer or conveyance, which condition occurs by reason of

the dissolution, shall be returned, transferred or conveyed in

accordance with such requirements;

(3) Assets received and held by the corporation subject to

limitations permitting their use only for charitable, religious,

eleemosynary, benevolent, educational or similar purposes, but not

held upon a condition requiring return, transfer or conveyance by

reason of the dissolution, shall be transferred or conveyed to one or

more domestic or foreign nonprofit corporations, societies, or

organizations engaged in activities substantially similar to those of

the dissolving corporation, pursuant to a plan of distribution adopted

as provided in KRS 273.161 to 273.390;

(4) Other assets, if any, shall be distributed in accordance with

the provisions of the articles of incorporation or the bylaws to the

extent that the articles of incorporation or bylaws determine the

distributive rights of members, or any class or classes of members, or

provide for distribution to others;

(5) Any remaining assets may be distributed to such nonprofit

societies, organizations or domestic or foreign corporations, as may

be specified in a plan of distribution adopted as provided in KRS

273.161 to 273.390.

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its dissolution, its assets shall be distributed for exempt purposes within the

meaning of section 501(c)(3) or shall be distributed to an entity established for

public purposes.

Petitioner asserts that in August 2012 he “assumed complete control over

the planning of the fashion week event” and began “treating * * * [it] as a for-

profit business”. Even assuming that this is true, any such actions would not give

rise to ownership rights in Waterfront greater than those afforded by the Act and

Waterfront’s articles of incorporation. Control over Waterfront was vested in its

three directors, as fiduciaries entrusted with the duties and powers imposed upon

them by the Act and the articles of incorporation. See Ky. Rev. Stat. Ann. sec.

273.215(1); Ballard v. 1400 Willow Council of Co-Owners, Inc., 430 S.W.3d 229,

241 (Ky. 2013).

In the light of these various considerations, we conclude that petitioner, as

an officer and director of Waterfront, subject to the constraints of the Act and

Waterfront’s articles of incorporation, lacked ownership rights in Waterfront

equivalent to those of a shareholder for purposes of applying subchapter S.

IV. Petitioner’s Substance Over Form Argument

Invoking the doctrine of substance over form, petitioner urges that we

should disregard Waterfront’s form as a nonprofit corporation and instead should

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regard it, in substance, as a for-profit entity. He asserts that he intended

Waterfront to be a for-profit entity and “objectively operated” it “consistently with

it being a for-profit entity that he owned entirely.” He urges that “the only fact

inconsistent with Waterfront * * * being a for-profit entity is that an attorney

formed * * * [it] as a nonprofit corporation prior to when the economic realities of

the project came to light.” He states that although he “should have sought to

change Waterfront[’s] * * * corporate documents to reflect” these changed plans,

he was “mistakenly unaware of these formalities of corporate law” and so treated

Waterfront “like he was the sole owner in every practical sense.”

Taxpayers are generally bound by the form of the transaction they choose.

As the Supreme Court has stated: “[W]hile a taxpayer is free to organize his

affairs as he chooses, nevertheless, once having done so, he must accept the tax

consequences of his choice, whether contemplated or not.” Commissioner v. Nat’l

Alfalfa Dehydrating & Milling Co., 417 U.S. 134, 149 (1974); see Maloof v.

Commissioner, 456 F.3d at 651 (“[A]s a general rule, courts will deem the form of

a transaction to reflect its substance.”); Television Indus., Inc. v. Commissioner,

284 F.2d 322, 325 (2d Cir. 1960) (“It would be quite intolerable to pyramid the

existing complexities of tax law by a rule that the tax shall be that resulting from

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the form of transaction taxpayers have chosen or from any other form they might

have chosen, whichever is less.”), aff’g 32 T.C. 1297 (1959).

Nothing in the record suggests that Waterfront’s form did not respect its

substance. To the contrary, the record shows that in May 2012 Waterfront was

purposefully organized as a nonprofit corporation, upon an attorney’s advice, with

the expectation that it would seek tax-exempt status so as to facilitate tax-

deductible gifts. Its corporate existence as a nonprofit corporation began when its

articles of incorporation were filed on May 8, 2012. See Ky. Rev. Stat. Ann. sec.

273.2531. It was not until several months later that petitioner changed course,

abandoned plans to obtain Federal tax-exempt status for Waterfront, and “assumed

control”. Any such actions after Waterfront’s organization had no effect upon its

status as a nonprofit corporation under the Act. Indeed, the parties have stipulated

that at all relevant times Waterfront existed under the provisions of the Act.

V. Lack of Tax-Exempt Status

Petitioner suggests that because Waterfront never gained tax-exempt status

(which it never sought), it should be regarded as a for-profit corporation. He

reasons:

Corporations that do not have exempt status are deemed to be for-

profit entities. For-profit entities have shareholders. A nonprofit

corporation that lost its exempt status is no different than a nonprofit

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corporation that never applied for or obtained exempt status.

Consequently, because Waterfront Fashion Week was not an exempt

organization, its shareholders must be identified, regardless of

whether the corporation was profitable. [Fn. ref. omitted.]

Petitioner’s argument confuses Federal tax-exempt status with status as a

nonprofit corporation under State law. As noted, at all relevant times Waterfront

was subject to the provisions of the Act. The decision not to seek Federal tax-

exempt status for Waterfront has no bearing on its status as a nonprofit corporation

under the Act or on the ownership constraints imposed thereunder.

VI. Conclusion

We conclude that there is no genuine dispute of material fact requiring a

trial and that respondent is entitled to judgment as a matter of law that petitioner

was not a shareholder of Waterfront during the years at issue. Consequently, we

need not address respondent’s alternative argument that Waterfront failed to make

a valid S corporation election for the years at issue.12

12

In the light of our holding that petitioner was not a shareholder of

Waterfront during the years at issue, the question arises whether we would have

jurisdiction in this proceeding to determine whether Waterfront made a valid S

corporation election. The parties have not addressed this jurisdictional issue. In

various deficiency cases, where the notice of deficiency issued to an S corporation

shareholder included S corporation adjustments, this Court has held that it has

jurisdiction to redetermine those adjustments as part of the shareholder-level

proceeding. See Winter v. Commissioner, 135 T.C. 238 (2010); Tabe v.

Commissioner, T.C. Memo. 2019-149; Ferguson v. Commissioner, T.C. Memo.

(continued...)

- 24 -

To reflect the foregoing,

An appropriate order and decision

will be entered.

12

(...continued)

2019-40; McNely v. Commissioner, T.C. Memo. 2019-39; Berry v. Commissioner,

T.C. Memo. 2018-143; Powell v. Commissioner, T.C. Memo. 2016-111, aff’d, 689

F. App’x 763 (4th Cir. 2017); Alli v. Commissioner, T.C. Memo. 2014-15. None

of these cases involved a deficiency proceeding--like the one presently before us--

brought by an individual who was not a shareholder of the putative S corporation.

Our disposition of the instant case makes it unnecessary for us to consider further

this potential jurisdictional issue.