A taxpayer attempted to argue that an LLC into which he had Chase distribute funds from his SEP-IRA was part of a “conduit agency arrangement” via which he had the funds invested in loans on behalf of the IRA in the case of Ball v. Commissioner, T.C. Memo 2020-152.[1]  Unfortunately, the Tax Court found that he had full control of the funds at all times, making the entire $209,600 a taxable premature distribution to Mr. Ball.

The transactions began when Mr. Ball had funds transferred from his Chase IRA account to an account in the name of an LLC he had formed:

During 2012 and 2013, petitioner participated in a SEP-IRA the custodian of which was JP Morgan Chase Bank, N.A (Chase). On two occasions in 2012, petitioner requested and received distributions from the SEP-IRA account, of $170,000 and $39,600, respectively (collectively, distributions). On each occasion, to effect the distribution, petitioner executed a Traditional IRA Withdrawal Request form that requested that Chase pay him the designated amount. He checked a box on each form indicating that the withdrawal was an early distribution with no known exceptions to being taxable. He further instructed Chase to make the distribution into a Chase business checking account that he had opened in the name of a Nevada limited liability company, The Ball Investment Account, LLC (Ball LLC).

Petitioner was the sole owner of Ball LLC and its managing member. The Ball LLC checking account (Ball LLC account) was not a retirement account.[2]

Immediately upon each transfer of funds to the LLC, Mr. Ball had the funds transferred out to fund two loans.  Both loans were titled to indicate the lender was the Ball SEP Account.[3]

As the loans were paid off, Mr. Ball deposited the funds into the Chase IRA account, indicating that the amounts represented rollover contributions or, in some cases, current year contributions.

At the end of 2012 Mr. Ball received a Form 1099-R from Chase indicating he had received a distribution from his IRA account of $209,600 that was an early distribution for which no known exception applied.  As well, the Form 5498 that Chase issued for 2012 showed as the balance in the IRA amounts excluding the remaining balances on the loans.[4]

Mr. Ball reported $209,600 of gross IRA distributions on his 2012 individual income tax return, with none of the distributions treated as taxable distributions on his return.[5]

The IRS noticed that Mr. Ball’s reporting on his return did not match up with the information returns they had received and issued a Notice CP 2000, notifying Mr. Ball that he owed additional tax of $67,031 and a substantial underpayment penalty of $13,406.[6]

The taxpayer disputed the IRS’s view that he had received a distribution at all, arguing that the funds remained as part of his IRA.  As the opinion describes the taxpayer’s defense:

He argues that “the essential question in this case” is whether the movement of funds from the SEP-IRA through the Ball LLC account to, and then back from, Development LLC and Svarga LLC described a “conduit agency arrangement.” Under that theory, Ball LLC acted as a mere facilitator, transferring funds between the SEP-IRA and the two other LLCs.[7]

The opinion notes that the concept of a conduit agency arrangement has been upheld by the Court in the past, but only if certain conditions are met:

This Court has previously found in certain circumstances that an otherwise taxable IRA distribution was not includible in a taxpayer’s gross income when the taxpayer was acting as an agent or conduit on behalf of the IRA’s custodian to carry out an investment. See, e.g., Ancira v. Commissioner, 119 T.C. 135, 138 (2002); McGaugh v. Commissioner, T.C. Memo. 2016-28. But we have also found that, when a distributee had unfettered control over an IRA distribution, he could not claim that he was acting as a mere conduit or an agent for the IRA custodian with respect to the distributed funds. Vandenbosch v. Commissioner, T.C. Memo. 2016-29.[8]

But the opinion finds that Mr. Ball’s situation does not meet the requirements to be a conduit agency relationship:

Our difficulty with petitioner’s argument is that we cannot conclude that Ball LLC was acting as an agent or conduit on behalf of Chase (as custodian of the SEP-IRA) when Ball LLC received and made use of the distributions. Chase had no knowledge of the disposition of the $209,600 that it deposited into the Ball LLC account other than that it made the deposits at petitioner’s direction. Petitioner controlled Ball LLC, and nothing in the record convinces us that he did not have unfettered control over the $209,600 Ball LLC received from Chase. Yes, petitioner caused Ball LLC to lend the distributions nominally for the benefit of “The Ball SEP Account”, but he could just as well have made the loans in Ball LLC’s name or in his own name. The facts of this case are closer to those of Vanderbosch than to those of Ancira and McGaugh. Ball LLC was not a conduit or agent for Chase.[9]

To put it simply, Chase’s lack of knowledge or approval of what Mr. Ball was doing makes it difficult to accept the idea he was acting as an agent of Chase. Nothing in this case indicates he made any effort to inform Chase of what he was doing or that he sought their approval to act for them—an approval it’s unlikely Chase would have given, presuming the account was being held as a standard consumer IRA account rather than via a specialized trust arrangement (with significantly higher fees than would be charged for an account holding Chase bank accounts and/or publicly traded securities).

Having lost on this issue, the taxpayer tries to argue that the amounts shouldn’t be taxable to him since none of the checks were deposited into his personal accounts.  But the Court found that where he deposited the checks Chase sent to him wasn’t a relevant fact in determining if he owed tax on the distribution:

Alternatively, petitioner argues that because the funds were deposited into the Ball LLC account, rather than petitioner’s own checking account, the distributions were not income to him. We disagree. Amounts paid or distributed out of an IRA are “included in gross income by the payee or distributee * * * in the manner provided under section 72.” Sec. 408(d)(1). And while neither the statute nor the regulations define the terms “payee or distributee”, we have said: “Generally, the payee or distributee of an IRA is the participant or beneficiary who is eligible to receive funds from the IRA.” Roberts v. Commissioner, 141 T.C. 569, 576 (2013). In some cases the general rule is inapplicable. See, e.g., id. at 582 (holding that a taxpayer is not a payee or distributee within meaning of section 408(d)(1) with respect to improper withdrawals from his IRA account without his knowledge by his soon-to-be divorced spouse). However: “[T]he mere fact that the distribution is made by the plan administrator to A rather than to B does not make A the distributee.” Darby v. Commissioner, 97 T.C. 51, 58 (1991). Petitioner was the distributee, and that is sufficient for us to conclude that the distributions were an item of gross income to him for 2012 even though he directed the distributions be deposited into the Ball LLC account.[10]

[1] Ball v. Commissioner, TC Memo 2020-152, 11/10/20, https://www.ustaxcourt.gov/UstcInOp2/OpinionViewer.aspx?ID=12353 (retrieved November 14, 2020)

[2] Ball v. Commissioner, TC Memo 2020-152, pp. 3-4

[3] Ball v. Commissioner, TC Memo 2020-152, p. 4

[4] Ball v. Commissioner, TC Memo 2020-152, p. 5

[5] Ball v. Commissioner, TC Memo 2020-152, p. 5

[6] Ball v. Commissioner, TC Memo 2020-152, p. 6

[7] Ball v. Commissioner, TC Memo 2020-152, p. 8

[8] Ball v. Commissioner, TC Memo 2020-152, pp. 8-9

[9] Ball v. Commissioner, TC Memo 2020-152, p. 9

[10] Ball v. Commissioner, TC Memo 2020-152, pp. 9-10