I.R.C. Sec. 409(p) limits tax benefits of an Employee Stock Ownership Plan (ESOP) by limiting the ability to defer tax for the highly compensated employees. More specifically, I.R.C. Sec. 409(p) limits the tax benefits of an ESOP that owns S-corporate stock unless the ESOP provides meaningful benefits to employees. If I.R.C. Sec. 409(p) is violated, an excise tax of 50 percent of prohibited allocations applies and the ESOP no longer qualifies as an ESOP. Tax deferral is lost if any portion of the plan assets that are attributable to the employer securities accrue to the benefit of a "disqualified person" during a nonallocation year. A nonallocation year is any ESOP plan year during which the plan holds employer securities consisting of S corporation stock and the disqualified persons own at least half of the number of S corporate shares. A disqualified person is a taxpayer that owns at least 10 percent of the deemed owned shares in the S corporation. This case involved an S corporation with an ESOP as a shareholder and another non-ESOP shareholder who was the petitioner's only employee and sole participant. Thus, the ESOP owner held 100 percent of shares, triggering I.R.C. Sec. 409(p). The court noted that while the corporation had two classes of stock which would disqualify it for S corporate status and, therefore, would not result in I.R.C. Sec. 409(p) violation, the statute of limitations had run on IRS from adjusting petitioner's tax liability based on status. Thus, the petitioner was treated as an S corporation and was liable for additional $161,200 in taxes and penalties of approximately $76,000. Ries Enterprises, Inc. v. Comr., No. 14-2094, 2014 U.S. App. LEXIS 24623 (8th Cir. Dec. 31, 2014), aff'g., T.C. Memo. 2014-14.
- Ag Docket