IRA Owner Can Act as Conduit for IRA Investments

D uring 1998, M maintained a self-directed IRA. P was the IRA custodian; H was the investment adviser. M could request that the IRA funds be invested in specific assets (specific mutual funds, stocks, etc.). These requests were typically made by telephone to H; P would then execute them.

In September 1998, M requested that his IRA invest $40,000 in the stock of S Corp. H informed M that P would not purchase the stock because it was not publicly traded. M contacted S and was informed that its stock was available for direct purchase. M and H then determined that the IRA could invest in S if P issued a check payable directly to S. H gave M a "Distribution Request Form" from P to facilitate issuance of the check. The form stated that its use would result in a distribution reportable to the IRS. On Sept. 14, 1998, M executed the form and P issued a $40,000 check payable to S, drawn on M’s IRA account. P sent the check to M, who forwarded it directly to S.

On Dec. 1, 1998, S issued a stock certificate stating that M was the owner of 714.28 shares. For reasons that are not clear, the stock was not immediately transferred to P or to M, who was unaware that P did not have the stock until much later. When M learned that the stock had not been transferred to P (after a deficiency notice was issued), he contacted S and had the certificate sent to him. M then delivered the stock to P; the stock was placed in M’s IRA account. P issued M a Form 1099-R, indicating that a $40,000 distribution had been made to M, but M did not report this $40,000 transaction on his 1998 return.

The IRS determined that the $40,000 check issued by P to M was an IRA distribution includible in income under Secs. 408(d) and 72, and imposed a Sec. 72(t) 10% penalty tax.

Analysis

Sec. 408(d)(1) provides that "any amount paid or distributed out of an individual retirement plan shall be included in gross income by the...distributee...in the manner provided under Section 72." Neither the Code nor the regulations specify whether an amount is considered to have been "paid or distributed out of an individual retirement plan" in the circumstances here. If, on M’s instructions, P had paid the $40,000 to S (or a broker) for its stock, there simply would have been an investment in an asset of the IRA, with no question about whether a distribution had occurred. The question is whether M received a distribution when P delivered the check made out to S to M, who in turn delivered it to S to purchase the stock for the IRA account.

The soundest view of this case is that M acted as a conduit for P by both arranging the stock purchase and ensuring that the check was delivered to S. No provisions of the Code, applicable regulations or case law bar a taxpayer from acting as a conduit for an IRA trustee under the circumstances presented here. In addition, it cannot be argued cogently that M was in constructive receipt of the assets represented by the transaction. Specifically, under Louisiana law, M was not a holder of and could not negotiate the check. M’s actions as a conduit for the IRA trustee in these limited circumstances violated no prohibition on a taxpayer's relationship to his IRA and, thus, did not result in a distribution.

The IRS argues that the transaction is controlled by Lemishow, 110 TC 110 (1998). In Lemishow, the taxpayer made withdrawals from retirement accounts, invested the distributions in stock and contributed the stock to a new IRA. That transaction did not qualify as a tax-free rollover of qualified plan assets, because the character of the property transferred to the new IRA was different from the character of the property distributed to the taxpayer. But, in this case, M received no cash.

The fact that S did not immediately deliver the shares to P is insignificant. At all times, the IRA, not M, was the owner of the shares even though it may not have been in physical possession of the stock certificate. The failure to deliver the stock certificate would not invalidate the transaction.

Robert Ancira, 119 TC No. 6