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Pizza Company Liable for Excise Taxes on Excess Contributions to Pension Plan

(Parker Tax Publishing May 2018)

The Eighth Circuit affirmed the Tax Court and held that a business owed excise taxes and penalties because it made excessive contributions to its defined benefit pension plan. The court also held that the Tax Court correctly concluded that the taxpayer did not make a valid election regarding the excess contributions. Pizza Pro Equipment Leasing, Inc. v. Comm'r, 2018 PTC 116 (8th Cir. 2018).


In 1995, Pizza Pro established a defined benefit pension plan (the Plan). The Plan's only participant was the corporation's president. The IRS determined that portions of the contributions to the plan were nondeductible, and thus subject to the 10 percent excise tax under Code Sec. 4972 because the plan's funding didn't fully account for reductions under Code Sec. 415(b)(2)(C) for benefits beginning before age 62, and those contributions were in excess of the Code Sec. 404 limitations. The IRS also imposed penalties for the failure to file an excise tax return and to timely pay the excise tax owed.

The Tax Court agreed and held that Pizza Pro was liable for the excise taxes and penalties and Pizza Pro appealed to the Eighth Circuit.

Limitation on Deductible Contributions to a Qualified Plan

Code Sec. 404(a) provides that an employer's contributions to a pension plan are deductible if they would otherwise be deductible, subject to certain limitations. In computing the amount of an allowable deduction, Code Sec. 404(j)(1)(A) provides that, in the case of a defined benefit plan, there cannot be taken into account any benefits for any year in excess of any limitation on such benefits under Code Sec. 415 for such year.

Code Sec. 415(a)(1)(A) provides that a defined benefit plan pension trust cannot be a qualified plan under Code Sec. 401 if it provides for the payment of benefits to a participant exceeding the limitations imposed by Code Sec. 415(b). A benefit exceeds the limitation if, when expressed as an annual benefit, that benefit is greater than the lesser of the annual inflation-adjusted limitation or 100 percent of the plan participant's average compensation for his highest three years. Under Code Sec. 415(b)(2)(A), an annual benefit is one that is "payable annually in the form of a straight life annuity (with no ancillary benefits)". If the benefit is in any other form, it must be adjusted so that it is equivalent to a benefit payable annually in the form of a straight life annuity. However, any ancillary benefit not directly related to retirement income benefits is not taken into account, nor is any qualified joint and survivor annuity as defined in Code Sec. 417. Code Sec. 417(b) defines a "qualified joint and survivor annuity" for purposes of Code Sec. 417 and 401(a)(11) (which requires joint and survivor annuities to be qualified) as an annuity "for the life of the participant with a survivor annuity for the life of the spouse which is not less than 50 percent of (and is not greater than 100 percent of) the amount of the annuity which is payable during the joint lives of the participant and the spouse," and "which is the actuarial equivalent of a single annuity for the life of the participant." Thus, even though certain joint and survivor annuities are not taken into account under Code Sec. 415(b)(2)(B), under Code Sec. 417(b) they nonetheless must be actuarially equivalent to straight life annuities.

Code Sec. 415(b)(2)(C) provides that if the retirement benefit under a plan begins before age 62, the annual inflation-adjusted limitation should be reduced so that such limitation (as so reduced) equals an annual benefit (beginning when such retirement income benefit begins) which is equivalent to a $160,000 annual benefit beginning at age 62.

Code Sec. 4972(c)(7) provides that in determining the amount of nondeductible contributions for any tax year, an employer may elect for such year not to take into account any contributions to a defined benefit plan except to the extent that such contributions exceed the full-funding limitation.

Arguments before the Eighth Circuit

The key question before the Eighth Circuit was whether the IRS applied mortality adjustments appropriately to reduce the maximum benefits under Code Sec. 415(b)(2)(C) for a retirement age before age 62 in the Pizza Pro's Plan, where the Plan did not provide for forfeiture of the participant's benefits at his death.

Pizza Pro contended that the Plan's annual benefit never exceeded the applicable limitation and that the Tax Court erred in holding that the word "equivalent" in Code Sec. 415(b)(2)(C) should be read as "actuarially equivalent." Relying on recommendations to the IRS from two actuarial groups, Pizza Pro also argued that failing to file the excise tax form should be considered sufficient evidence that Pizza Pro made an election under Code Sec. 4972(c)(7) and should thus not be penalized for failing to file the excise tax return.

Eighth Circuit's Decision

The Eighth Circuit affirmed the Tax Court and upheld the tax deficiency and penalties assessed against Pizza Pro. With respect to Pizza Pro's argument that the Tax Court erred in holding that the word "equivalent" in Code Sec. 415(b)(2)(C) should be read as "actuarially equivalent, the Eighth Circuit said that the court merely applied Reg. Sec. 1.415-3(e), which states that a plan benefit beginning before the normal retirement age is adjusted to "the actuarial equivalent" of a benefit beginning at the normal retirement age. The Eight Circuit noted that Pizza Pro had not challenged the regulation.

The Eighth Circuit said that, because Reg. Sec. 1.415-3(e) does not define "actuarial equivalence," the Tax Court was right to look to general practice within the field of actuarial science to ascertain the proper method for determining the limitation on the annual benefit. The Eighth Circuit found the IRS's report which was introduced in the Tax Court proceedings and which was prepared by an actuary employed by the IRS to be in line with actuarial practice. The court discounted Pizza Pro's report, saying it was not prepared by an actuary and did not accord with actuarial practice. Because the Tax Court did not clearly err in this finding, Pizza Pro's challenge to the deficiencies and additions failed.

With respect to Pizza Pro's argument regarding the election under Code Sec. 4972(c)(7), the court noted that the IRS did not adopt the suggestions made by the actuarial groups that filing no return was, in essence, the same as making the election. The court also noted that, in Young v. Comm'r, 783 F.2d 1201 (5th Cir. 1986), the Fifth Circuit had rejected a similar argument in another context. The Eighth Circuit noted that Pizza Pro's failure to file the requisite form stemmed from its belief that it made no excess contributions and owed no excises taxes, not its intent to make an election. Because it failed to inform the IRS in any manner, the court concluded that Pizza Pro did not make an election.

For a discussion of the limitation on contributions to a qualified plan, see Parker Tax ¶130,517.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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