Ralston Purina Co. v. Comm'r of Internal Revenue
| Decision Date | 10 September 2008 |
| Docket Number | No. 7357–00.,7357–00. |
| Citation | 131 T.C. No. 4,131 T.C. 29 |
| Parties | RALSTON PURINA COMPANY AND SUBSIDIARIES, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent. |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
P, a Missouri corporation, claimed a deduction under I.R.C. sec. 404(k) for payments made to its employee stock ownership plan in redemption of P's preferred stock owned by the plan, where the proceeds of that payment were distributed to employees terminating their participation in the plan. R argues that payments to redeem stock are not deductible under either I.R.C. sec. 404(k)(1) or (5), or in the alternative that deduction of these payments is barred by the provisions of I.R.C. sec. 162(k).
Held: I.R.C. sec. 162(k) renders the payments nondeductible because the payments are in connection with a redemption of stock. The result to the contrary reached by the U.S. Court of Appeals for the Ninth Circuit on almost identical facts in Boise Cascade Corp. v. United States, 329 F.3d 751 (9th Cir.2003), respectfully will not be followed.
Kenneth A. Kleban, for petitioner.
Lawrence C. Letkewicz and Dana E. Hundrieser, for respondent.
Before the Court are petitioner's and respondent's cross-motions for summary judgment pursuant to Rule 121.
Unless otherwise indicated, all Rule references are to the Tax Court Rules of Practice and Procedure, and all section references are to the Internal Revenue Code in effect for the years in issue.
Rule 121(a) provides that either party may move for summary judgment upon all or any part of the legal issues in controversy. Full or partial summary judgment may be granted only if it is demonstrated that no genuine issue exists as to any material fact and that the legal issues presented by the motion may be decided as a matter of law. See Rule 121(b); Sundstrand Corp. v. Commissioner, 98 T.C. 518, 520, 1992 WL 88529 (1992), affd. 17 F.3d 965 (7th Cir .1994). As to the issues presented on these cross-motions for summary judgment, we conclude that there is no genuine issue as to any material fact and that a decision may be rendered as a matter of law.
The sole issue remaining for decision is whether petitioner may claim deductions for amounts paid in redemption of preferred stock held by its employee stock ownership plan (ESOP) for its 1994 and 1995 tax years. This issue was raised for the first time by petitioner in its second amendment to petition (second amendment). All other issues, of which there were many, have been settled. Respondent consented to the filing of the second amendment.
The parties filed an extensive stipulation of facts with accompanying exhibits which forms the factual setting for their respective arguments and which provides the basis for our Background discussion.
Petitioner is a Missouri corporation and had its principal place of business in St. Louis, Missouri, when its petition was filed. In 1989 petitioner amended its Savings Investment Plan (SIP or plan) for employees, adding an employee stock ownership plan (ESOP). Boatmen's Trust Co. (Boatmen's) was trustee of the ESOP portion of the SIP. Vanguard Fiduciary Trust Co. was named recordkeeper for the SIP and was responsible for making distributions to plan participants. The trust fund under the SIP was exempt from income tax under section 501(a). For convenience, references hereinafter to the SIP include, where appropriate, the trust fund under the SIP.
The managers of the SIP created a Benefits Policy Board (BPB) comprising employees appointed by petitioner's chief executive officer. They also created an Employee Benefit Asset Investment Committee (EBAIC), the members of which were appointed by petitioner's board of directors. Petitioner's board of directors, the BPB, the EBAIC, and the trustees were among the fiduciaries responsible for the administration of the SIP.
Boatmen's trust agreement provided that Boatmen's would make distributions from the SIP in cash or in kind to such person, in such amounts, at such times, and in such manner as directed by the EBAIC. The EBAIC could, at its sole discretion, direct Boatmen's to pay any cash dividends on shares of preferred stock (see below for definition) directly to plan participants. The EBAIC could also decide how any payments to plan participants would be funded. Petitioner could not use amounts in the SIP for any purpose other than the benefit of the SIP participants.
In connection with the creation of the ESOP, petitioner's board authorized the issuance of 4,600,000 shares of newly created convertible preferred stock (preferred stock). These shares could be issued only in the name of an ESOP trustee and were not readily tradable on an established market. Shares of the preferred stock were entitled to receive, when, as, and if declared by petitioner's board, cumulative cash dividends (stated dividends) in an amount per share equal to $7.48 per annum, payable semiannually, one-half on June 29 and one-half on December 30 of each year commencing June 29, 1989.
On February 1, 1989, the SIP purchased 4,511,414 shares of preferred stock from petitioner at $110.83 per share. To finance this purchase, the SIP borrowed $500 million from institutional lenders. Petitioner guaranteed the ESOP loans. The loans matured in approximately 10 years with principal and interest payable semiannually.
The SIP purchased an additional 88,586 shares of preferred stock during the years 1990–92, also at $110.83 per share. The SIP funded these purchases through employee contributions.
Plan participants could make contributions to the ESOP up to 6 percent of their before-tax income. Any contributions in excess of 6 percent were invested outside the SIP in investment funds of the participant's choosing. Participants were not permitted to invest any after-tax income in the ESOP. Participants' basic matched contributions were fully vested at all times. Company matching contributions became vested over a period of 4 years. These matching contributions also included payments by petitioner to the ESOP preferred stock fund in amounts necessary to make ESOP loan amortization payments.
Employee participation in the SIP ended upon termination of employment for any reason. Terminated participants had the option, among others, to cash out their investment in the ESOP. The SIP could, in its sole discretion, require petitioner to redeem shares of preferred stock at any time upon notice, when and to the extent necessary to provide required distributions to terminated participants electing to cash out their investments, or to make payments on the ESOP loan. The payment by the SIP to terminated participants could be made, at the SIP's option, in cash or shares of petitioner's common stock. The SIP also had the option to satisfy distributions to terminated participants without forcing petitioner to redeem stock.
At all relevant times the plan year of the SIP was the calendar year. For plan years 1989 through 1993 the SIP made distributions to terminated participants using cash otherwise available to it.
The first relevant redemption by petitioner of preferred stock held by the SIP occurred in August 1994. Petitioner redeemed 28,224 shares of preferred stock for $3,128,066. The SIP distributed that entire amount to terminated participants by December 31, 1994. During this period the SIP also made $1,589,696 in distributions to terminated participants out of cash otherwise available.
In February 1995 petitioner redeemed another 56,645 shares of preferred stock from the SIP for $6,277,965. All of the proceeds were distributed to terminating participants from February 21 through July 20, 1995. During this period the SIP made additional distributions of $1,927,624 from cash otherwise available.
Petitioner timely filed consolidated Forms 1120, United States Corporation Income Tax Return, for its taxable years ending September 30, 1994 and 1995. Respondent issued a statutory notice of deficiency to petitioner dated April 6, 2000, pertaining to petitioner's 1993, 1994, and 1995 tax years. Petitioner filed a petition contesting many of the adjustments respondent made in the notice of deficiency, none of which concerned petitioner's ESOP. Petitioner filed an amendment to petition on February 24, 2003, and the second amendment on December 9, 2003. In the second amendment petitioner asserted for the first time that it was entitled to an additional deduction, under section 404(k), for amounts it paid to the SIP to redeem its preferred stock that were then distributed to plan participants.
Petitioner claims as deductions its payments in redemption of preferred stock held by the SIP the proceeds of which the SIP subsequently distributed to terminating employees. Petitioner contends these payments are essentially equivalent to dividends within the meaning of section 302(b)(1) (redemption dividends). Respondent does not challenge this contention—rather that the redemption dividends are deductible. The SIP used the redemption dividends to make distributions to the employee participants in the SIP who had terminated their participation because of retirement or for some other reason.
Petitioner asserts that the redemption dividends qualify as applicable dividends under section 404(k)(2). For the taxable years at issue, section 404(k) provided in relevant part:
SEC. 404(k). Deduction for Dividends Paid on Certain Employer Securities.—
(1) General rule.—In the case of a corporation, there shall be allowed as a deduction for a taxable year the amount of any applicable dividend paid in cash by such corporation during the taxable year with respect to applicable employer securities. Such deduction shall be in addition to the deductions allowed under subsection (a).
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...its name during the relevant years—could not deduct payments for cash distribution redemptive dividends. Ralston Purina Co. v. Comm'r, 131 T.C. 29, 2008 WL 4159698 (2008). Ralston appeals. Having jurisdiction under 26 U.S.C. § 7482, this court In 1989, Ralston established an employee stock ......