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BenefitsLink > Q&A Columns >

Who's the Employer?

Answers are provided by S. Derrin Watson, JD, APM

Trusts and Losing Businesses

(Posted September 10, 2003)

Question 259: Two companies are owned by two separate trusts. Each trust has the same beneficiaries with virtually identical beneficial interests. One of the companies has gone out of business after a period of operating at a negative net worth. If the value of the business is a negative number, is it accurate to say that the beneficiaries have no actuarial interest in the failed entity and as a result a brother-sister controlled group does not exist due to the fact that there can be no attribution of ownership from the trust?

Answer: No, it would not be accurate at all. And there may be another way of dealing with things. In responding to your question, I will refer to my book, Who's the Employer?. (Subscribers can click to view online the text of references to sections in the book.)

Two corporations are in a controlled group if the same 5 or fewer individuals, estates or trusts own (or are deemed to own) "effective control" and a "controlling interest" over both of them. (See WTE 6:04.) Control can occur by holding a certain percentage of a company's voting power or by holding a certain percentage of the value of its shares. (See WTE 6:08.) If the trust holds 100% of a company's voting power, its beneficiaries hold their pro rata share of that voting power based on their actuarial interest in the trust. (See WTE 7:12.) Voting power has nothing at all to do with valuation questions. So your line of reasoning will not let you escape controlled group status (although you get an E for Effort!).

There is a way out, if the losing business will be terminated soon. In 1982 the Tax Court decided a case involving three businesses: two losers and one profitable. (Robert D. Sutherland, 78 T.C. 395.) The profitable business set up a plan excluding the employees of the unprofitable businesses. The losing businesses folded within 2 years after the company set up the plan, while the determination letter application was pending before the IRS. The Tax Court held that neither losing business could set up a "permanent" plan, as the law requires, because they were going out of business, and that it would be a "cruel hoax" to inform the employees (who would soon be out in the snow, figuratively speaking) that a plan was being set up for their retirement. On those facts, the court was willing to let the profitable business establish a qualified plan without regard to the controlled group rules. (See WTE 11:10.) Although the facts are unusual and the court's reasoning is flawed (because the question should be whether the profitable business could establish a permanent plan and provide benefits for the soon to be departed-- and it clearly could), the case is on the books and gives an indication that a court might be willing to bend under some circumstances.

Important notice:

Answers are provided as general guidance on the subjects covered in the question and are not provided as legal advice to the questioner or to readers. Any legal issues should be reviewed by your legal counsel to apply the law to the particular facts of this and similar situations.

The law in this area changes frequently. Answers are believed to be correct as of the posting dates shown. The completeness or accuracy of a particular answer may be affected by changes in the law (statutes, regulations, rulings, court decisions, etc.) that occur after the date on which a particular Q&A is posted.

Copyright 1999-2017 S. Derrin Watson
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