a lease by a company (LLC) 49% owned by an IRA to a company (S) which
is a disqualified person with respect to that IRA is a prohibited
transaction where the manager of the LLC is an officer of S. Whether
29 CFR 2509.75-2 makes the transaction an indirect prohibited transaction
and whether it makes the transaction a violation of the Internal Revenue
Code's exclusive benefit rule.
January 6, 2006
Debra C. Buchanan, Esq.
Guidant Legal Group, PLLC
225 Commerce Street, Suite 450
Tacoma, WA 98402
Dear Ms. Buchanan,
is in response to your request for an advisory opinion as to whether
the following proposed transaction would be prohibited under section
4975 of the Internal Revenue Code (the “Code”), 26 U.S.C. § 4975.(1)
represent that Salon Services and Supplies, Inc. is a Washington state “S” Corporation (“S Company”) which is 68% owned by Miles and Sydney Berry, a marital community (M). The
other 32% is owned by a third-party, George Learned (“G”). Miles Berry (Berry) proposes to create a limited liability corporation (“LLC”) that will purchase land, build a warehouse and lease the property to S Company.
The investors in the LLC would be Berry’s individual retirement account (“IRA”) (49%), Robert Payne’s (“R”) IRA (31%) and G (20%). R is the comptroller of S Company. R and G will manage
the LLC. You represent that S Company is a disqualified person with
respect to Berry’s IRA under section 4975(e)(2) of the Code. You represent that R and G are independent
of Berry. You also represent that the LLC does not contain plan assets
because it is a “real estate operating company” (REOC) as defined by 29 C.F.R. § 2510.3-101(e).
state that an independent qualified commercial real estate appraiser
has appraised the rental value of the lease and has found that the
terms of the lease are not less favorable to the LLC and its IRA investors
than those obtainable in an arm’s length transaction between unrelated parties. Finally, the custodian for Berry’s and R’s IRAs has reviewed the LLC operating agreement and has approved the investment
for those two self-directed IRAs.
4975(c)(1)(A) of the Code prohibits any direct or indirect sale, exchange
or leasing of any property between a plan and a “disqualified person.” Section 4975(c)(1)(D) of the Code prohibits any direct or indirect transfer
to, or use by or for the benefit of, a disqualified person of the
income or assets of a plan. A “disqualified person” is defined under section 4975(e)(2)(A) of the Code to include a person who is
a fiduciary. Code section 4975(e)(3) defines the term “fiduciary” to include, in pertinent part, any person who exercises any discretionary authority
or discretionary control respecting management of such plan or exercises
any authority or control respecting management or disposition of its
assets. Section 4975(c)(1)(E) prohibits a fiduciary from dealing with
the income or assets of a plan in the fiduciary’s own interest or for his or her own account. Section 4975(e)(1)(B) of the Code
defines the term “plan” to include an individual retirement account described in Code section 408(a).
first address the proposed lease as it relates to Berry’s IRA. Berry is a fiduciary to his own IRA because he exercises authority or
control over its assets and management. 26 U.S.C. § 4975(e)(3). As a fiduciary, Berry is a disqualified person under section 4975(e)(2)(A)
of the Code. You represent that S Company is a disqualified person
under section 4975(e)(2) of the Code. R, the comptroller of S Company,
is a disqualified person with respect to Berry’s IRA under section 4975(e)(2)(H) as an officer of S Company. R, as an employee
of S Company, a company 68% owned by M, cannot be considered independent
upon your representations, it is the opinion of the Department that
a lease of property between the LLC and S Company would be a prohibited
transaction under Code section 4975, at least as to Berry’s IRA. The lease constitutes a prohibited transaction regardless of whether the
LLC qualifies as a REOC under the Department’s plan assets regulation. 29 C.F.R. § 2510.3-101.
Department’s regulation at 29 C.F.R. § 2509.75-2(a) (Interpretative Bulletin 75-2), explains that a transaction between
a party in interest under ERISA(2) (or disqualified person under the
Code, in this case S Company) and a corporation in which a plan has
invested (i.e., the LLC) does not generally give rise to a prohibited
transaction. However, in some cases it can give rise to a prohibited
transaction. Regulation section 2509.75-2(c) and Department opinions
interpreting it have made clear that a prohibited transaction occurs
when a plan invests in a corporation as part of an arrangement or
understanding under which it is expected that the corporation will
engage in a transaction with a party in interest (or disqualified
to your representations, it appears that Berry’s IRA will invest in the LLC under an arrangement or understanding that anticipates
that the LLC will engage in a lease with S Company, a disqualified
person. Therefore, the lease would amount to a transaction between
Berry’s IRA and S Company that Code section 4975(c)(1)(A) and (D) prohibits. Additionally,
the proposed lease, if consummated, may also constitute a violation
by Berry, a fiduciary, of Code section 4975(c)(1)(D) and (E).
we note the express emphasis in 29 C.F.R. § 2509.75-2(c) that the Department considers “a fiduciary who makes or retains an investment in a corporation or partnership
for the purpose of avoiding the application of the fiduciary responsibility
provisions of the Act to be in contravention of the provisions of
section 404(a) of the Act.”
the proposed lease, which would violate section 4975(c)(1) of the
Code, would also have to be referred to the Internal Revenue Service
for a determination as to whether it would consider the transaction
a violation of the exclusive benefit rule of section 401(a)(2) of
the Code, which is the Code’s analogue to the fiduciary responsibility provisions of section 404(a) of ERISA.
we have concluded that the proposed lease would constitute a prohibited
transaction with respect to Berry’s IRA, the issue of whether the Code prohibits the lease as it relates to R’s IRA is moot, and does not need to be addressed.
letter constitutes an advisory opinion under ERISA Procedure 76-1,
41 Fed. Reg. 36281 (1976). Accordingly, this letter is issued subject
to the provisions of that procedure, including section 10 thereof,
relating to the effect of advisory opinions.
Louis J. Campagna
Chief, Division of Fiduciary Interpretations
Office of Regulations and Interpretations
Reorganization Plan No. 4 of 1978, effective December
31, 1978 [5 U.S.C. App. at 214 (2000 ed.)], the
authority of the Secretary of the Treasury to issue
interpretations regarding section 4975 of the Code
was transferred, with certain exceptions not here
relevant, to the Secretary of Labor. As a result,
citations to section 406 of the Employee Retirement
Income Security Act (ERISA), 29 U.S.C. § 1001 et seq. and applicable regulations also refer to the parallel citations
of section 4975 of the Code.
3(14) of ERISA defines the term “party in interest” for purposes of Title I of ERISA, including the prohibited transaction provisions
of ERISA section 406.
29 C.F.R. § 2509.75-2(c); Opinion No. 75-103 (Oct. 22, 1975); 1978 WL 170764 (June 13, 1978).
Further, prior to the promulgation of the Department’s plan assets regulation, 29 C.F.R. § 2510.3-101, the Department had issued Interpretive Bulletin 75-2 which discusses
certain prohibited transactions under section
406 of ERISA or section 4975 or the Code. As
indicated in the preamble to the plan assets
regulation, part of Interpretive Bulletin 75-2
was revised to coordinate it with the final regulation
(51 Fed. Reg. 41278). The remainder of the Interpretive
Bulletin 75-2, published at 29 C.F.R. § 2509.75-2(c), remains in force and was not affected by the plan assets regulation.
Regulation section 2509.75-2(c) sets forth that
a transaction between a party in interest and
a corporation in which a plan has invested may
constitute a prohibited transaction under certain
circumstances. Such transactions are prohibited
regardless of whether or not they meet the plan