Goyak v. Commissioner of Internal Revenue, 011112 FEDTAX, 12990-07
|Docket Nº:||12990-07, 13022-07|
|Opinion Judge:||GOEKE, Judge|
|Party Name:||JOHN K. AND DANA G. GOYAK, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent JOHN K. GOYAK & ASSOCIATES, INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent|
|Attorney:||Mark D. Allison and Kenneth M. Barish, for petitioners. Alexander D. Devitis, Anne W. Durning, Roger P. Law, and Vanessa M. Hoppe, for respondent.|
|Case Date:||January 11, 2012|
|Court:||United States Tax Court|
MEMORANDUM FINDINGS OF FACT AND OPINION
With respect to John and Dana Goyak (Mr. and Mrs. Goyak), respondent determined deficiencies in Federal income taxes of $966, 155, $1, 848, 500, and $1, 217, 910 for tax years 2002, 2003, and 2004 respectively. Respondent also determined penalties under section 66621 of $193, 231, $369, 700, and $243, 582 for 2002, 2003, and 2004, respectively, as well as an addition to tax under section 6551(a)(1) of $42, 742 for 2002.
With respect to John K. Goyak & Associates, Inc. (Goyak & Associates), respondent separately determined deficiencies in Federal income taxes of $199, 503, $262, 692, $297, $374, 137, $276, 571, and $556, 223 for tax years 1997, 1998, 1999, 2000, 2001, and 2002, respectively. Respondent also determined penalties under section 6662 of $55, 314 and $111, 245 for 2001 and 2002, respectively, as well as additions to tax under section 6551(a)(1) of $1, 995, $11, 820, $74, and $41, 486 for 1997, 1998, 1999, and 2001, respectively.
These cases were consolidated for trial. As a result of settlements between the parties, all issues in taxable years other than 2002 have been resolved. The only remaining issues relate to a $1.4 million contribution Goyak & Associates paid in 2002 to the Millennium Multiple Employer Welfare Benefit Plan (Millennium Plan), a purported section 419A(f)(6) welfare benefit fund. The issues remaining for decision are:
(1) Whether Goyak & Associates may deduct the $1.4 million paid to the Millennium Plan under sections 162(a), 404(a)(5), 419, and 263. We hold that Goyak & Associates may not deduct the payment, as it is not an ordinary and necessary business expense under section 162(a);
(2) whether the $1.4 million paid to the Millennium Plan is taxable to Mr. Goyak, as either a constructive dividend under section 301 or nonqualified deferred compensation under section 402(b). We hold that the $1.4 million payment is taxable to Mr. Goyak as a constructive dividend; and
(3) whether Mr. and Mrs. Goyak and Goyak & Associates (collectively, petitioners) are liable for 20-percent accuracy-related penalties under section 6662. We hold that they are.
FINDINGS OF FACT
At the time their petition was filed, Mr. and Mrs. Goyak resided in Nevada. Goyak & Associates is a Nevada corporation which had its principal place of business in Nevada at the time its petition was filed.
1. Background of Petitioners and Their Advisers
Since its incorporation in 1997, Goyak & Associates has engaged in the business of consulting with defense contractors. Mr. Goyak owned 60 percent of the stock of Goyak & Associates during 2002 and was the president and chief executive officer. Mrs. Goyak owned the remaining 40 percent of the stock and was the primary manager of the financial affairs of Goyak & Associates until the end of 2002.
Before organizing Goyak & Associates, Mr. Goyak earned an undergraduate degree in English and a master's degree in English literature. He also completed most of the work towards a Ph.D. in criticism. During the course of his studies, he never took classes in accounting or tax. After leaving his Ph.D. program Mr. Goyak worked at Lockheed Martin for approximately 8 to 9 years, primarily in the business development area. He also served as vice president of planning and vice president of energy programs at SM&A Corp., an aerospace defense consulting firm.
On account of Mr. Goyak's efforts, the revenue of Goyak & Associates grew from $350, 000 to over $5 million per year. After adjusting for disallowed deductions (both those already settled and those decided in this opinion), Goyak & Associates had retained earnings and profits of over $4 million at the end of 2002. In 2002 Goyak & Associates employed Mr. and Mrs. Goyak and two other individuals. During that year Mr. Goyak traveled extensively and billed nearly 3, 000 hours, for which he received compensation of $1 million. Goyak & Associates has never paid a dividend to its shareholders.
Despite the rapid growth in business, Goyak & Associates was run as a "Mom and Pop" company until the latter part of 2002. The books of the company became deficient, and tax returns for 1997 through 2001 were not filed until November 2002. Many of Mr. and Mrs. Goyak's personal tax returns were also filed years late. Mr. and Mrs. Goyak each participated in the ClassicStar Mare Lease Program, as a result of which they claimed millions of dollars in farming expense deductions in 2001 and reported no Federal tax liability for that year.
In mid-2002 Mr. and Mrs. Goyak were introduced to representatives of Private Consulting Group (PCG). Mr. Goyak understood that PCG had provided counsel to some of the 400 wealthiest families in the United States. Two of the PCG representatives who met Mr. Goyak were Bob Holt (Mr. Holt) and Gary Thornhill (Mr. Thornhill). Mr. Holt managed a PCG office and did financial planning while Mr. Thornhill specialized in insurance. Mr. Thornhill had sold 17 section 419 welfare benefit plans since 1989. Neither Mr. Holt or Mr. Thornhill had significant experience with tax issues.
In July 2002 Mrs. Goyak contacted Mr. Holt seeking assistance in resolving Goyak & Associates' financial issues. Mr. Thornhill was brought into the meetings to discuss insurance planning. By the end of 2002 Mr. Thornhill and Mr. Holt had entered into a consulting arrangement with Goyak & Associates to serve as financial advisers. Mr. Thornhill also introduced Mr. Goyak to David Lieberman (Mr. Lieberman). Mr. Lieberman was an accountant and was hired by Goyak & Associates as a consultant in late 2002 to get its records in order. In July 2003 Mr. Lieberman became Goyak & Associates' full-time chief financial officer (CFO). Before coming to work for Goyak & Associates, Mr. Lieberman had performed no tax planning work and had not specialized in tax return preparation, although he had done some small tax returns.
2. Background and Operation of the Millennium Plan
A. History and Structure of the Millennium Plan
The Millennium Plan was established on November 1, 2002, as a purported section 419A(f)(6) welfare benefit plan. In short the Millennium Plan provides certain benefits to covered employees, such as death, medical, and involuntary severance benefits. The Millennium Plan was sponsored by the Millennium Marketing Group (MMG). The Millennium Plan grew to 531 covered employees representing over 300 employers at the end of 2005; however, the number of covered employees contracted to 459 by the end of 2008.
Before establishment of the Millennium Plan, Kathleen Barrow (Ms. Barrow) and her law firm, Karger, Key, Barnes & Lynn, P.C., were retained to provide legal advice, including advice regarding section 419A(f)(6). Ms. Barrow drafted the core operating documents of the Millennium Plan, including the Millennium Plan Master Plan (master plan), which is the core operating document, and the Guidelines for Claims Administration (plan guidelines). Ms. Barrow continued to act as outside counsel for the Millennium Plan after its establishment. On June 1, 2004, Ms. Barrow became the president and chief counsel of MMG and was employed by MMG in this capacity until July 31, 2006. After leaving her position as president and chief counsel, Ms. Barrow continued to provide consulting services to the Millennium Plan.
Republic Bank & Trust (Republic Bank) in Norman, Oklahoma, has served as the trustee of the Millennium Plan from the plan's inception to the present. As trustee, Republic Bank holds the Millennium Plan's assets for the benefit of the plan's participants and keeps certain records. Other records were kept by the plan's third-party administrator (TPA), who made the initial decisions on benefit requests. Another company had served as the initial TPA but was terminated in 2005 following an audit. SecurePlan Administrators, LLC (SecurePlan), was the successor TPA and is the current TPA of the Millennium Plan. SecurePlan is an operating subsidiary of Republic Bank, the plan's trustee.
Both the TPA and the trustee of the Millennium Plan are directed by the Millennium Plan's Plan Committee (plan committee) which has been functional since the beginning of 2004. The plan committee functions like a corporate board of directors and is the governing body of the Millennium Plan. It consists of certain participating employers acting as nonpaid voting members. Since at least 2008 the plan committee has also had a nonvoting chairman who is employed and paid by the Millennium Plan. The primary duties of the plan committee are to ensure the Millennium Plan complies with section 419A(f)(6) and related regulations and to hear benefit appeals from plan participants. The plan committee also reviewed a small portion of requests to withdraw from the Millennium Plan by "voiding" (discussed further below) before 2008.
MMG retained Milliman USA (Milliman) for actuarial assistance with the Millennium Plan. Milliman is one of the largest actuarial firms in the United States and is not related to the Millennium Plan or MMG. Milliman has served as the Millennium Plan's actuary from 2002 to the present. Milliman assisted in the creation of participant risk pools, otherwise known as rating groups, with the goal of compliance with the requirements of section...
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