Personal guarantees made by IRA owners on loans made to a corporation owned by the IRAs constituted prohibited transactions and disqualified the IRAs, causing gain from a sale by the IRAs to be personally taxable to the taxpayers (Peek et al v. Commissioner, 140 T.C. No. 12, 5/9/2013). Accuracy-related penalties were imposed. The taxpayers, two individuals, formed two self-directed IRAs funded with rolled-over cash from other retirement accounts. They also formed a corporation. The IRAs each purchased a half-interest in the corporation, which then purchased a business using cash and notes. One note was personally guaranteed by the taxpayers. The stock was transferred from the IRAs to Roth IRAs, which later sold the corporation, receiving payment over the two years at issue.

Code Sec. 4975(c)(1)(B) prohibits loans or the extension of credit (direct or indirect) between a qualified plan and a disqualified person. A loan guarantee is an indirect extension of credit. The taxpayers argued that the credit extension was between them, as disqualified persons, and a company owned by the plans, not the plans themselves. However, the guarantees were made indirectly to the IRAs by way of the entity owned by the IRAs.

The prohibited transaction triggered a liquidation of the IRAs, with the result that the taxpayers personally owned the corporate stock. Gain from the sale of the stock was therefore taxable to them personally under Code Sec. 408(e)(2)(B). The taxpayers' plans ceased to be IRAs at the time of the guarantees, which constituted a continuing prohibited transaction until the later stock sale, thus precluding any possible statute-of-limitations argument.

The deficiencies assessed against the taxpayers constituted a substantial understatement of tax under Code Sec. 6662(d)(1)(A). The taxpayers' making of the guarantees constituted negligence under Code Sec. 6662(c). The certified public accountant on whose advice the taxpayers claimed to have reasonably relied was not a disinterested professional but a promoter of the plan employed by the taxpayers, so they could not claim reasonable cause under Code Sec. 6664(c). Therefore, accuracy-related penalties were imposed on the taxpayers for the years at issue.

For more information on this issue, contact your local CBIZ MHM tax advisor.

Copyright © 2013, CCH INCORPORATED. All Rights Reserved. Contents of this publication may not be reproduced without the express written consent of CCH and CBIZ. To ensure compliance with requirements imposed by the IRS, we inform you that-unless specifically indicated otherwise-any tax advice in this communication (and any attachments) is not written with the intent that it be used, and in fact it cannot be used, to avoid penalties under the Internal Revenue Code, or to promote, market, or recommend to another person any tax related matter. This publication is distributed with the understanding that CBIZ is not rendering legal, accounting or other professional advice. The reader is advised to contact a tax professional prior to taking any action based upon this information. CBIZ assumes no liability whatsoever in connection with the use of this information and assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect the information contained herein.

CBIZ MHM is the brand name for CBIZ MHM, LLC and other Financial Services subsidiaries of CBIZ, Inc. (NYSE: CBZ) that provide tax, financial advisory and consulting services to individuals, tax-exempt organizations and a wide range of publicly-traded and privately-held companies.