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Taxpayer's Return Did Not Offer the Necessary "Clue" to Limit Statute to Three Years.

(Parker Tax Publishing July 15, 2015)

The six-year statute of limitations period under Code Sec. 6501(e)(1)(A) applied to the taxpayer's 2003 tax return because he did not adequately disclose on that return a distribution from his employee stock ownership plan. Heckman v. Comm'r, 2015 PTC 191 (8th Cir. 2015).


Thomas Heckman owned KC Investment Management, Inc. (KCIMI), an S corporation, until 2001. In January 2001, KCIMI established an employee stock ownership plan (ESOP), and the ESOP acquired 100 percent of KCIMI's stock, which was its only asset. Heckman participated in the ESOP beginning in 2001, along with one other participant. In December 2002, KCIMI liquidated and transferred all of its assets and liabilities to the ESOP. In February 2003, Prairie Capital, LLC, and SMR Holdings, LLC, were formed. Each received a 50 percent undivided interest in each of the ESOP's assets.

In 2003, the ESOP distributed the Prairie Capital interest to its participants' traditional individual retirement accounts (IRAs). Heckman received a distribution of almost $138,000 from the ESOP that year. Heckman did not include this ESOP distribution on his 2003 tax return, nor did he explicitly reference either the ESOP distribution to his IRA or his IRA's membership interest in Prairie Capital on his 2003 return or in any statement attached thereto. For tax year 2003, Prairie Capital filed a Form SS-4, Application for an Employer Identification Number, and a Form 1065. The forms identified Heckman and Heckman's IRA account, respectively, as members of Prairie Capital.

The IRS learned of the plan distribution through oral and written statements that Heckman provided during an unrelated audit in April 2007. In July 2010, more than three years but fewer than six years after Heckman filed his 2003 return, the IRS issued Heckman a notice of deficiency for 2003 based on the fact that the ESOP was not eligible for favorable tax treatment under Code Sec. 401(a), and that the distribution constituted taxable income to Heckman in 2003. Heckman disagreed with the assessment, arguing that under Code Sec. 6501(a), the IRS was required to assess the deficiency within three years after the relevant tax return was filed and thus the assessment was untimely. The IRS countered that, under Code Sec. 6501(e)(1)(A), the limitations period for Heckman was extended to six years because he had omitted from gross income an amount in excess of 25 percent of the gross income stated on the return.

Heckman took his case to the Tax Court, arguing that the notice of deficiency was untimely under the three-year statute of limitations in Code Sec. 6501(a). The Tax Court sided with the IRS and held that the six-year limitations period applied and the deficiency notice was therefore timely. Heckman appealed to the Eighth Circuit.


Before the Eighth Circuit, Heckman argued that Code Sec. 6501(e)(1)(A)'s six-year limitations period did not apply because the IRS gained actual knowledge of the ESOP distribution during the unrelated audit in 2007, which was within three years of the date when he filed his 2003 tax return. His argument was premised on language in Colony, Inc. v. Comm'r, 357 U.S. 28 (1958), which construed former Code Sec. 275(c) of the Internal Revenue Code of 1939, a provision which was superseded by Code Sec. 6501(e)(1)(A). In Colony, the Supreme Court noted that, in enacting former Code Sec. 275(c), Congress intended to give the IRS additional time to investigate tax returns in cases where, because of a taxpayer's omission to report some taxable item, the IRS was at a special disadvantage in detecting errors. According to Heckman, the IRS was not at a special disadvantage in detecting Heckman's error within the ordinary three-year limitations period because the IRS obtained actual knowledge of the distribution before the three-year period expired; thus, the longer limitations period did not apply.

Alternatively, Heckman argued that his distribution from the plan was disclosed in Prairie Capital's 2003 tax filings and that was sufficient to limit the statute to three years. In doing so, he relied on the Eighth Circuit's holding in Benderoff v. U.S., 398 F.2d 132 (1968), a case in which the taxpayers disclosed their status as shareholders in a corporation and reported their respective shares of undistributed corporate income on their individual tax returns, but failed to include a corporate distribution that they received. In that case, the Eighth Circuit reasoned that the corporate information return should be considered along with the individual returns in analyzing the statute of limitations because the purpose of the corporate information return was to allow the IRS to verify the accuracy of the shareholders' individual returns, and because the individual returns made adequate reference to the corporate information return.

Heckman also argued that Rev. Rul. 55-415 applied to his situation. In that ruling, the IRS held that any partner's share of the gross income reported in a partnership information return should be considered as having been reported by the taxpayer, as such information return is a return by or on behalf of each partner.

The Eighth Circuit affirmed the Tax Court's holding and held that the six-year statute applied. In response to Heckman's first argument, the court stated that Colony construed a different statute that was superseded by Code Sec. 6501(e)(1)(A). Like the 1939 statute, the court observed, the successor statute provides for an extended statute of limitations when a taxpayer omits an amount from gross income that exceeds 25 percent of the reported gross income. But unlike the 1939 statute, Code Sec. 6501(e)(1)(A) spells out precisely what amounts should be taken into account in determining the amount omitted from gross income. Specifically, the court said, Code Sec. 6501(e)(1)(A)(ii) provides that an amount is excluded in determining the amount omitted from gross income only if the amount is disclosed in the return, or in a statement attached to the return. There is no provision, the court noted, that says an amount is excluded if the IRS is not "at a special disadvantage" in detecting the error, or if the IRS learns of the amount within the ordinary three-year limitations period. According to the court, the Code provides only two statutes of limitations: three years or six years after the return is filed, not three years after the acquisition of actual knowledge.

With respect to Heckman's reliance on Benderoff, the court contrasted the facts in Heckman's situation with the situation in Benderoff, noting that Heckman's return contained no reference to Prairie Capital or to the distribution; thus, the holding in Benderoff did not apply.

Finally, with respect to the argument that the holding in Rev. Rul. 55-415 applied, the court said that ruling interpreted the 1939 Code and did not address whether income disclosed in a partnership return is disclosed "in the return" or "in a statement attached to the return" for purposes of the later-enacted Code Sec. 6501(e)(1)(A)(ii), where "the return" refers to the return filed by the individual taxpayer. In any event, the court noted, no return filed by Prairie Capital for the 2003 tax year disclosed the distribution from the ESOP to Heckman's individual retirement account.

The Eighth Circuit affirmed the Tax Court, finding it correctly concluded that the distribution that Heckman received from his employee stock ownership plan was an "amount omitted from gross income" that triggered the extended six-year statute of limitations under Code Sec. 6501(e)(1)(A).

For a discussion of the rules relating to the appropriate statute of limitations time periods, see Parker Tax ¶ 260,130. (Staff Editor Parker Tax Publishing)

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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