Ellis v. Comm'r of Internal Revenue, No. 14-1310 (8th Cir. 2015)Annotate this Case
In 2005 Ellis formed CST, to engage in the business of used automobile sales in Harrisonville, Missouri. CST's members were Ellis's self-directed IRA and Brown, an unrelated full-time CST employe. Ellis’s IRA was to provide an initial capital contribution of $319,500 in exchange for a 98 percent ownership and Brown would purchase the remaining interest for $20. Ellis was the general manager, with “full authority to act on behalf of” the company. Ellis subsequently established the IRA with First Trust, received money from a 401(k) established with his previous employer, and deposited that amount in his IRA. He directed First Trust to acquire shares of CST. Ellis reported the transfers from his 401(k) to the IRA as non-taxable rollover contributions. CST paid Ellis a salary of $9,754 in 2005 and $29,263 in 2006, which was reported as income on the Ellises’ joint tax returns. The IRS sent the Ellises a notice of deficiency, identifying a $135,936 income-tax deficiency for 2005 or, alternatively, a $133,067 deficiency for 2006; it imposed a $27,187 accuracy penalty for 2005 or, alternatively, a $26,613 accuracy penalty and $19,731 late-filing penalty for 2006. The Commissioner determined that Ellis engaged in prohibited transactions under 26 U.S.C. 4975(c) by directing his IRA to acquire an interest in CST with the expectation that CST would employ him, and receiving wages from CST, so that the account lost its IRA status and its entire fair market value was treated as taxable income. The tax court and Eighth Circuit agreed.