Tax Court Rules Good Return No Defense for Prohibited Transaction

December 13, 2004 ( - A US Tax Court has ruled that even though a pension plan fiduciary owned less than 50% of companies to which the plan was loaning money, he should be considered a "disqualified person", thus making that loan a prohibited transactions.

>Judge Herbert Chabot, writing for the Court, in the case of a CPA – Joseph Rollins – who loaned plan funds to companies that he had a minority interest in, ruled that a fine of $164,000 will have to be paid as a penalty on prohibited transactions.

>Rollins was the sole trustee of his accounting firm’s pension plan, and was a minority owner in numerous companies that he decided to make loans to at an interest rate of 12%. Because he did not own more than 50% of any of the companies, he did not believe he would run afoul of the prohibited transaction provisions in section 4975 of the tax code, which states that any disqualified person – including someone who owns over 50% of a company and is a plan fiduciary lending to that company – is not allowed to accept loans from a plan.

>However, Chabot agreed with the Internal Revenue Service, ruling that CPA benefited from the loans and allowed the borrowers to “to operate without having to borrow funds at arm’s length from other sources.” He ruled that because the CPA would benefit from the transaction (a violation of Section 4975(c)(1)(D)), and the loans were dealings with the plan’s assets under the CPA’s own interest (a violation of Section 4975(c)(1)(e). He also ruled that the CPA was a disqualified person with respect to the plan because he was a fiduciary of the plan and a 100% owner of the employer sponsored plan.

>In the ruling, Chabot agreed that the loans were prohibited transactions, but held that it was necessary to decide whether the CPA has violated Section 4975 (c)(1)(e).

>The ruling in the case is available  here .