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contractcorporation

corporation

Related Cases

Grojean v. C.I.R., T.C. Memo. 1999-425, 1999 WL 1261489, 2000-1 USTC P 47,828, 78 T.C.M. (CCH) 1249, T.C.M. (RIA) 99,425

Facts

Petitioner, Thomas F. Grojean, organized Schanno Acquisition, Inc. to acquire Schanno Transportation, Inc. and borrowed $13.2 million from American National Bank to finance the purchase. Grojean borrowed $1.2 million from the bank and purchased a participation interest in the loan to Schanno. However, the court found that Grojean's participation was structured in a way that effectively made him a guarantor of the loan rather than a direct lender, as he did not make a cash outlay and had no direct contractual relationship with Schanno.

Petitioner graduated from the University of Notre Dame in 1960 with a B.S. in accounting. After college, he worked at Price Waterhouse as a certified public accountant.

Issue

Whether petitioner's basis in his S corporation stock under section 1366(d) includes his participation interest in a loan between a bank and his S corporation.

Whether petitioner's basis in his S corporation stock under section 1366(d) includes his participation interest in a loan between a bank and his S corporation. We hold it does not.

Rule

A taxpayer must make an actual economic outlay to increase their basis in an S corporation under section 1366(d). The indebtedness must run directly to the shareholder, and acting as a guarantor does not qualify for basis purposes unless the shareholder pays part or all of the obligation.

A taxpayer must make an actual economic outlay. See Underwood v. Commissioner, 535 F.2d 309 (5th Cir.1976).

Analysis

The court analyzed the transactions and determined that Grojean's participation interest was essentially a disguised guaranty of Schanno's debt to American. The circular nature of the transactions, where Grojean borrowed from American and then returned the funds to purchase a participation interest, indicated that he did not make an actual economic outlay. The court emphasized that the substance of the transaction controlled over its form, leading to the conclusion that Grojean was not entitled to a basis increase.

Here, the interrelated transactions show petitioner was in substance a guarantor of the indebtedness between Schanno and American.

Conclusion

The court concluded that Grojean was not entitled to include the $1.2 million participation interest in his basis for tax purposes and upheld the additions to tax for his untimely returns.

We hold petitioner is not entitled to basis under section 1366(d) for his participation interests in the Schanno note and the credit note totaling $1.2 million.

Who won?

The Commissioner of Internal Revenue prevailed in the case, as the court ruled that Grojean could not include the participation interest in his basis and was liable for the tax additions due to late filing.

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Keywords

Related Cases

Helvering v. Eubank, 311 U.S. 122, 61 S.Ct. 149, 85 L.Ed. 81, 40-2 USTC P 9788, 24 A.F.T.R. 1063, 1940-2 C.B. 209

Hubert Enterprises, Inc. v. C.I.R., 230 Fed.Appx. 526, 2007 WL 1244314, 99 A.F.T.R.2d 2007-2528, 2007-1 USTC P 50,494

Keller v. Commissioner of Internal Revenue, 312 U.S. 543, 61 S.Ct. 651, 85 L.Ed. 1032, 41-1 USTC P 10,030, 25 A.F.T.R. 1186, 1941-1 C.B. 433

Demirjian v. Commissioner of Internal Revenue, 54 T.C. 1691

General Utilities & Operating Co. v. Helvering, 296 U.S. 200, 56 S.Ct. 185, 80 L.Ed. 154, 35-2 USTC P 9658, 36-1 USTC P 9012, 16 A.F.T.R. 1126, 1936-1 C.B. 214