Another IRA prohibited transaction by a taxpayer blows up yet another IRA
James and Judith Thiessen wanted to obtain the assets of a metal fabrication business. To enable that acquisition, they rolled over their tax-deferred retirement funds into newly formed Individual Retirement Accounts. Those IRAs then acquired the initial stock of a newly formed corporation, Elsara. Elsara then bought the assets of the metal fabrication company James and Judith wanted. James and Judith then guaranteed the repayment of a loan that Elsara received from the seller as part of the acquisition price.
The IRS asserted that the Thiessens’ guaranties were prohibited transactions that resulted in deemed distributions of the IRAs’ assets to the couple.
Because the Thiessens had not indicated on their tax returns that they had guaranteed the loan, they were liable for a $180,129 deficiency attributable primarily to unreported IRA distributions.
Self Dealing in IRAs (i.e. an IRA Prohibited Transaction) Abuses the Rules
The Thiessens tried to use the IRA to help them acquire business assets. While true you can buy some odd things with your IRA – including a business – you must keep these assets at arms length. Therefore, the IRA owner can’t control a business. Furthermore, the IRA owner can not personally guarantee loans in relation to the IRA investment. This creates an IRA Prohibited Transaction. Here’s how LISI’s Steve Leimberg describes what happened:
Ancona Job Shop was an unincorporated business that specialized in the design, fabrication, and installation of metal products. Its owner, Polk Investments, Inc. wanted to sell the business. The Thiessens were told by Jay Hoyal, a business broker, that they could use the funds in their retirement accounts to acquire Ancona. Specifically, he stated they could roll over their retirement funds into IRAs, cause the IRAs to acquire the initial stock of a newly formed C corporation, and cause the C corporation to acquire Ancona (“IRA funding structure”). They were also told an acquisition of an existing business should be structured to include a loan from the seller so that the seller would have an interest in helping the buyer in the future.
Being a Penny Pincher Blows Up Another IRA
There are many other rules here. But instead of working with an IRA expert, the Thiessens appeared to take the advice of the selling business broker (and an unconservative CPA). Perhaps they were eager and excited to buy this business? Which then they made a poor decision. And this cost them a lot of money when the Tax Court ruled against them. Eagerness and excitement are good. But so is having a sober advisor around. One who is not caught up in emotions.
IRA Prohibited Transaction – Bottom Line
If you’re even thinking of doing something different with your IRA – if you read something online or your uncle tells you about an idea, please consult with someone who DOES know what they’re doing before you try one of these moves.
Interestingly, I have heard about some people who are breaking these rules. Including an attorney who should know better! The problem with getting caught is any IRA affected “blows up.” Meaning it becomes fully taxable in the year of the mistake. No recourse usually either.
This often results in a big tax bill and a bigger headache. Save yourself the trouble.
Do you have questions about your IRA? Want to make smarter choices about your money? Inquire about working with Retirement Management Analyst (RMA) and retirement expert Chris Grande by clicking HERE.
Feature Image courtesy of Iwan Gabovitch