American Stores Company and Subsidiaries v. Commissioner , 108 T.C. No. 12 ( 1997 )

108 T.C. No. 12UNITED STATES TAX COURT
AMERICAN STORES COMPANY AND SUBSIDIARIES, Petitioner v.
COMMISSIONER OF INTERNAL REVENUE, Respondent
Docket No. 19182-94. Filed March 31, 1997.
P made contractually required monthly
contributions to 39 multiemployer pension plans. P
also provided vacation pay benefits to its employees
under various plans. For its TYE Jan. 31, 1987 (8701),
P obtained an extension of the time within which to
file its U.S. consolidated corporate income tax return
to Oct. 15, 1987. For its TYE Jan. 30, 1988 (8801), P
obtained an extension of the time within which to file
its U.S. consolidated corporate income tax return to
Oct. 17, 1988. On its return for TYE 8801 P deducted,
in addition to the 12 monthly contributions based on
units of service worked during the taxable year,
contributions based on units of service worked during
months after the last day of TYE 8801 but before the
due date of the return as extended. On its returns for
TYE 8701 and TYE 8801 P also deducted, in addition to
its vacation pay liabilities based on units of service
worked during those years, vacation pay liabilities
based on units of service worked during months after
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the last days of the taxable years but before the due
dates of the returns as extended.
1. Held: pension contributions, based on units
of service worked after the close of TYE 8801 and
before Oct. 17, 1988, were not on account of P's TYE
8801, as required by sec. 404(a)(6), I.R.C., and are
therefore not deductible in that year. Lucky Stores,
Inc., & Subs. v. Commissioner, 107 T.C. 1 (1996),
supplemented by T.C. Memo. 1997-70, followed.
2. Held, further, vacation pay, based on units of
service worked after the close of TYE 8701 or TYE 8801
and before the due date of the return for such year as
extended, was not earned in TYE 8701 or TYE 8801, as
required by sec. 463(a)(1), I.R.C., and is therefore
not deductible in such year.
Frederick J. Gerhart, Thomas E. Doran, Stephen
DiBonaventura, and Scott D. Price, for petitioner.
Thomas R. Lamons, C. Glenn McLoughlin, and David L. Miller,
for respondent.
OPINION
NIMS, Judge: Respondent determined the following
deficiencies in petitioner's Federal income tax:
Taxable year ending (TYE) Deficiency
February 2, 1985 $3,704,320
February 1, 1986 726,452
January 31, 1987 43,266,274
January 30, 1988 29,480,791
Unless otherwise indicated, all section references are to
sections of the Internal Revenue Code in effect for the years at
issue, and all Rule references are to the Tax Court Rules of
Practice and Procedure.
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After concessions, the following 2 issues remain for us to
resolve in the present proceeding: (1) Whether petitioner, in
its taxable year ending January 30, 1988 (TYE 8801), properly
deducted certain contributions to multiemployer pension plans
attributable to services performed after the conclusion of that
tax year, and (2) whether petitioner properly deducted certain
vacation pay liabilities pursuant to section 463 in its taxable
year ended January 31, 1987 (TYE 8701) and in TYE 8801. The
amount of the disputed pension contribution deduction is
$37,839,040.20. The amounts of the disputed vacation pay
deductions are $24,171,499 in TYE 8701 and $17,927,808 in TYE
8801.
The facts have been fully stipulated and are found
accordingly. This reference incorporates the stipulated facts
and attached exhibits.
Petitioner is a Delaware corporation. At the time the
petition was filed, petitioner's principal place of business was
located in Salt Lake City, Utah.
Background
Petitioner is the common parent of an affiliated group of
corporations, and files a consolidated Federal income tax return
annually. Petitioner filed the petition on behalf of all
eligible members of the group. For Federal income tax purposes,
petitioner elected to file corporate income tax returns on the
basis of a 52-53 week fiscal year ending on the Saturday nearest
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January 31 of any given year. Petitioner requested and received
an extension to October 15, 1987, to file its United States
consolidated corporate income tax return for TYE 8701.
Petitioner requested and received an extension to October 17,
1988, to file its United States consolidated corporate income tax
return for TYE 8801.
Petitioner, through its subsidiaries, primarily engages in
the retail sale of food and drug merchandise. Conjointly, the
subsidiaries represent one of the nation's leading retailers,
operating combination drug/food stores, super drug centers, drug
stores and food stores. During the years in question, petitioner
conducted its principal business activities through wholly owned
subsidiaries and operating divisions, including: Acme Markets,
Inc., Jewel Food Stores, Star Market, Jewel OSCO, Alpha Beta
Company, Skaggs Alpha Beta, and Buttrey Food.
Respondent issued a statutory notice of deficiency on July
26, 1994. After stipulations of agreement executed by the
parties, the remaining issues are: (1) Whether petitioner can
deduct in TYE 8801 certain contributions made to various
multiemployer pension plans in the months after January 30, 1988,
but before the extended due date for filing its return, and (2)
whether petitioner is entitled to certain vacation pay accrual
adjustments pursuant to section 463 for TYE 8701 and TYE 8801.
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I. The Deductions for Contributions to Collectively Bargained
Plans
Under applicable Internal Revenue Code provisions, employers
may enter into "qualified" deferred compensation arrangements,
which provide retirement and other benefits to employees and
their beneficiaries through single employer plans, multiple
employer plans, and multiemployer plans. Plans not established
pursuant to collective bargaining agreements are herein referred
to as Multiple Employer Plans. Plans established and maintained
pursuant to such agreements are henceforth referred to as
Multiemployer Plans or, alternately, as CBA Plans. In both
Multiple Employer Plans and Multiemployer Plans, the
contributions of participating employers are pooled and used to
provide benefits to all covered employees, former employees, and
their beneficiaries. Section 413(b) contains certain rules
exclusively applicable to CBA Plans, which are the plans involved
in the instant case.
At all relevant times, petitioner was obligated to
contribute money to 39 CBA Plans. These plans were defined
benefit pension plans. By stipulation of the parties, arguments
were limited to the 10 plans to which petitioner contributed the
largest amounts in TYE 8801 (the Top 10 Plans). The parties have
agreed to apply the Court's decision with respect to the Top 10
Plans to petitioner's contributions to the other 29 plans. The
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following schedule sets forth the the Top 10 Plans and their
respective annual accounting periods (plan years) for Federal tax
purposes:
CBA Plan Plan Year
Southern California UFCW Union & Food April 1 -
Employers Joint Pension Trust Fund March 31
UFCW Union and Participating Food Indus- January 1 -
try Employers Tri-State Pension Fund December 31
Northern California Retail Clerk Union January 1 -
& Food Employers Joint Pension Trust Fund December 31
Southern California Meat Cutters Union July 1 -
& Food Employers Pension Trust Fund June 30
UFCW Union Local 56 Retail Meat July 1 -
Pension Fund June 30
UFCW International Union Industry July 1 -
Pension Fund June 30
Western Conference of Teamsters January 1 -
Pension Trust December 31
Southern California Retail Clerks January 1 -
Union & Drug Employers Pension Fund December 31
Warehouse Employees Union Local 169 & January 1 -
Employers Joint Pension Fund December 31
UFCW Local 72 & Participating Employers January 1 -
Pension Fund December 31
During the calendar years 1986, 1987, and 1988, more than
1,000 employers made contributions on behalf of thousands of
unionized employees and their beneficiaries to many of the plans.
Other plans were smaller. At all times between January 1, 1986
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and December 31, 1988, each of the plans qualified as a
Multiemployer Plan within the meaning of the Employee Retirement
Income Security Act of 1974 (ERISA), Pub. L. 93-406, 88 Stat. 829and was a plan to which section 413(b) and Subtitle E of Title IV
of ERISA applied. Moreover, at all times during this period,
each of the plans qualified under section 401(a) as a pension
plan, and, accordingly, the trusts related to each CBA Plan were
exempt from taxation under section 501.
Generally, at the end of each month, petitioner calculated
the amount of its required contribution to each CBA Plan by
multiplying the hours or weeks (units of service) worked by
covered employees in such month by fixed monetary rates (the
contribution rate) set by the collective bargaining agreement.
Increases or decreases in the number of covered employees, along
with increases or decreases in the units of service worked by
covered employees, required petitioner to make a separate
calculation for its required contribution to each plan every
month. Contributions to each CBA Plan attributable to units of
service worked in a given month were due on the 30th of the month
after the units of service were worked. On occasion,
contributions to plans were made on a quarterly basis, based upon
covered services performed during the quarter.
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For taxable years prior to TYE 8801, petitioner's
subsidiaries computed their deductions for plan contributions in
one of 2 ways. Skaggs Alpha Beta and Jewel Food Stores (for one
of the plans to which it contributed) calculated the
contributions paid to the plans during the corporations' taxable
years (regardless of when the covered services related to the
contributions were performed) and claimed that total as their
deduction. Alpha Beta Company, Osco Drug Company, Acme Markets,
and Jewel Food Stores (for the other plans to which it
contributed) calculated the contributions related to covered
services performed during their taxable years (regardless of when
those contributions were paid) and claimed that total as their
deduction. For each subsidiary, and for each taxable year ending
prior to petitioner's TYE 8801, the total amount claimed as a
deduction for that year did not include any contributions
attributable to covered services performed after the end of that
taxable year.
For TYE 8801, Skaggs Alpha Beta (for the plans to which it
contributed) and Jewel Food Stores (for one of the plans to which
it contributed) computed their deductions for contributions to
the plans claimed on petitioner's Federal income tax returns by
adding together the contributions actually made during TYE 8801
and those contributions made after the end of TYE 8801, but
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before the due date for filing petitioner's return (i.e., October
17, 1988). Jewel Food Stores calculated its deduction for
contributions to 2 other plans by adding together contributions
calculated with reference to covered services performed in TYE
8801 and those contributions calculated with reference to covered
services performed after TYE 8801 that were made before the due
date for filing petitioner's return. Alpha Beta Company, Osco
Drug Company, and Acme Stores each calculated its deduction for
contributions to the plans by adding together the contributions
made with reference to covered services performed in TYE 8801 and
those contributions which were related to covered services
performed after TYE 8801 and were made after the end of TYE 8801
but before the due date for filing petitioner's return.
Petitioner claimed a deduction for contributions to the plans of
$101,787,413. Of that amount, $57,607,463 was reflected on
petitioner's books as a TYE 8801 expense, and $44,179,950 was
reflected on Schedule M-1 as an adjustment to petitioner's book
income.
Of the $44,179,950 deducted by petitioner on the Schedule M-
1, $116,285 pertained to amounts contributed by Skaggs Alpha Beta
and Star Markets in February 1988 (and thus was attributable to
covered services performed during TYE 8801). The remaining
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$44,063,665 deducted by petitioner on Schedule M-1 related to
covered services performed after the end of TYE 8801.
For taxable years after TYE 8801, petitioner reported
deductions based upon contributions attributable to covered
services performed during the taxable year (but not previously
deducted for tax purposes), as well as contributions attributable
to covered services performed after the close of the taxable
year, where the contributions were made before the filing date
for petitioner's Federal income tax return. In contrast to TYE
8801, for taxable years before and after TYE 8801, petitioner
deducted only contributions calculated with reference to covered
services performed over a 12-month period. At no time did
petitioner file a Form 3115 (Application for Change in Accounting
Method) concerning the method used to arrive at its deduction for
contributions to the plans claimed on its return for TYE 8801.
In her notice of deficiency, respondent disallowed the
$44,179,950 Schedule M-1 adjustment upon determining that
petitioner could not properly deduct contributions attributable
to covered services performed after the close of the taxable year
as so-called grace period contributions. Respondent did not
disallow the $57,607,463 deduction representing contributions
made by petitioner to the plans attributable to covered services
performed during TYE 8801.
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The parties subsequently agreed that petitioner improperly
calculated the amount of the "grace period contributions".
Petitioner admits that it overstated its deduction for "grace
period contributions" by $6,224,901.16, and acquiesces in the
adjustments made by respondent to that extent. Thus, after that
concession, the amount remaining in dispute in regard to
contributions made by petitioner after January 30, 1988, and
before October 15, 1988, was $37,955,325.20. Respondent concedes
that contributions in the amount of $116,285 (which were
attributable to amounts contributed by Skaggs Alpha Beta and Star
Markets in February 1988 for covered services performed in
January 1988) were properly deductible. As a result, the portion
of the "grace period contributions" remaining at issue is
$37,839,040.20.
The administrator of each plan was a party independent of
petitioner and was appointed by the Board of Trustees of the
plan. Under the terms of the collective bargaining agreements,
the plans were entitled to collect interest and/or late fees on
delinquent contributions from employers. At all times during the
relevant period, each CBA Plan administrator had procedures to
monitor the actual dates of receipt of each employer's required
contribution.
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As required by ERISA sections 104 and 4065, 88 Stat. 847,
1032, and sections 6057(b) and 6058(a), after the close of each
plan year the administrator of each CBA Plan filed Annual Reports
(Forms 5500) and accompanying schedules with the IRS. On
Schedule B of Form 5500, each CBA Plan reported for its plan year
only those contributions paid under the applicable agreement for
units of service worked during that particular year. Only a
defined benefit plan subject to the minimum funding standards of
section 412 and ERISA section 302, 88 Stat. 869, is required to
file a Schedule B. One purpose of the completion of the Schedule
B is to demonstrate compliance or noncompliance with such minimum
funding standards. At all times during the relevant periods,
each CBA Plan satisfied the minimum funding requirements of
section 412 and ERISA section 302. Petitioner's subsidiaries'
monthly contributions to each CBA Plan were reported on Schedule
B for that plan year in which the related units of service of the
covered employees had been worked.
While nothing in the collective bargaining agreements
prohibited petitioner from contributing more than the amount
required, or contributing amounts in advance of the date that
such amounts became due, no provision explained how the plan
administrator should credit an advance contribution from an
employer. Generally, advance pension contributions were not made
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to the plans and, with the exception of advance contributions
made with respect to vacation time and severance pay, petitioner
did not make any such contributions during the taxable years at
issue. No contributions were made by petitioner to any of the
CBA Plans during the relevant period that were not required by
collective bargaining agreements.
Petitioner's subsidiaries, for public financial reporting
purposes, accounted for their contributions to the CBA Plans in
one of 2 ways. Skaggs Alpha Beta (for the plans to which it
contributed) and Jewel Food Stores (for one of the plans to which
it contributed) calculated contributions paid to the plans during
the corporations' taxable years (regardless of when the covered
services related to the contributions were performed) and
included that total as their contributions expense. For the
other plans to which Jewel Food Stores contributed, and for the
plans to which Alpha Beta Company, Osco Drug Company, and Acme
Markets contributed, the contributions related to covered
services performed during the corporations' taxable years were
treated as contributions expenses (regardless of when those
contributions were paid). For each of the subsidiaries, and for
each taxable year, the amount included as a contributions expense
did not include contributions attributable to covered services
performed after the end of the taxable year.
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The taxable year of a contributing employer need not match
the plan year of a plan to which such employer contributes.
Administrators of Multiemployer Plans are not cognizant of the
taxable years adopted by contributing employers. Moreover, under
the terms of the collective bargaining agreements, petitioner was
not required to report to the plan administrators the deductions
it claimed for contributions.
In preparing its funding standard account under section 412
for each plan year, no CBA Plan considered contributions made by
contributing employers for hours worked by covered employees
following such plan year. Under each CBA Plan for all relevant
periods, the earning, crediting, and vesting of a participant's
benefit remained independent of the making of any specific
contribution of an employer.
The parties stipulated that, if called to testify by
petitioner, the employee of petitioner most familiar with its
subsidiaries' contribution obligations to each of the plans would
state that, as of January 31, 1988, he had no reason to believe
that the amount of any of the subsidiaries' monthly contribution
obligation to any such plan would significantly decrease in the
8-month period following January 31, 1988. Furthermore, the
amount of total employer contributions actually paid to each of
the plans relating to covered services performed during each plan
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year is an amount which the plan administrator could have, as of
the beginning of such plan year, reasonably anticipated to be
made by employers with respect to covered services performed
during such plan year.
Petitioner consulted with an accounting firm, Ernst &
Whinney, about accelerating deductions for contributions to the
CBA Plans made after the end of a tax year and before the due
date of the tax return for that year (herein for convenience
referred to as grace period contributions). The parties
stipulated that Ernst & Whinney marketed this type of
acceleration to certain clients that were making required
contributions to multiemployer defined benefit pension plans
during this period.
Petitioner was never notified by any plan representative
that the statutory deduction limit was exceeded with respect to
any plan for any relevant period. Petitioner did not notify any
plan representative that the monthly contributions calculated
with reference to covered services performed after January 31,
1988, were to be applied to months ending on or before January
31, 1988.
II. The Vacation Pay Deductions
Petitioner provides many of its approximately 130,000
employees with job-related benefits, including vacation pay and
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other types of compensated leave. A number of factors determine
the type and amount of vacation pay available to an employee,
such as: (1) The employing company; (2) the employee's job
classification; (3) the employee's tenure with the employing
company; and (4) the employee's status as a union or non-union
worker.
Petitioner deducted $78,110,485 attributable to its vacation
pay liability on its return for TYE 8701, $24,171,499 of which is
in dispute in the instant case (the 1987 Vacation Pay).
Petitioner deducted $62,841,617 attributable to its vacation pay
liability on its return for TYE 8801, $17,927,808 of which
remains in dispute (the 1988 Vacation Pay).
A. The Terms of the Vacation Benefits Plans
Petitioner provided vacation pay benefits to its employees
under three basic plans: (1) The American Stores Co. general
vacation plan and other plans providing similar benefits (herein
collectively referred to as the General Plan); (2) the Star
Markets Non-Union Plan (the Star Markets Plan); and (3) the Acme
Markets Union Plans (the Acme Markets Plans).
1. The General Plan
The General Plan is the vacation benefit plan most widely
used by petitioner. Under this plan, once a covered employee
reaches the first anniversary of his initial hire date, he has
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the right to take one week of paid vacation. Following an
employee's first year of continuous service, the plan operates
somewhat differently. As of each January 1, an employee's
vacation pay benefits are determined based on the next
anniversary of his initial hire date. This calculated amount is
referred to as the employee's "leave entitlement". Only those
individuals continuously employed by petitioner for the 12-month
period ending on December 31 of each year obtain a leave
entitlement. The General Plan permits an employee to take his
entire leave entitlement as of January 1. Thus, for example, an
employee who worked for petitioner since July 1, 1985, had the
right to take 1 week of vacation upon reaching July 1, 1986. On
January 1, 1987, the same employee was able to take 2 weeks of
leave, since the employee was expected to have 2 years of service
by July 1, 1987.
The following schedule reflects the leave entitlement
available to employees under the General Plan:
Salaried
1 week after 1 year of service
2 weeks after 2 years of service
3 weeks after 5 years of service
4 weeks after 10 years of service
5 weeks after 20 years of service
Hourly
1 week after 1 year of service
2 weeks after 2 years of service
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3 weeks after 5 years of service
4 weeks after 12 years of service
5 weeks after 20 years of service
The General Plan calculates years of service using the
anniversary of an employee's date of hire (the anniversary date).
The plan uses an employee's job category (salaried or hourly
worker) as of January 1 of each year to calculate the amount of
the employee's leave entitlement for the calendar year. Leave
entitlements generally must be used by the end of the calendar
year; no full week increments of leave may extend beyond that
time. Moreover, employees do not receive compensation for the
portion of their leave entitlement which remains unused at the
end of the calendar year.
Leave entitlement for employees covered by the General Plan
vests ratably over the 1-year period between successive
anniversary dates. Consequently, an employee's leave entitlement
as of January 1 normally includes both vested and nonvested
portions. The vested portion is coextensive with services which
have already been performed by the employee. The nonvested
portion of the leave entitlement will vest (on a weekly or
monthly basis) as future services are performed by the employee.
Thus, an employee with an anniversary date of July 1 of a given
year will be vested in one-half of his vacation pay for that year
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as of January 1. The other half of the leave entitlement will be
nonvested at that time.
Although the General Plan enables a covered employee to take
his entire leave entitlement anytime after January 1, if an
employee leaves his job prior to reaching his anniversary date,
he must reimburse petitioner for any used portion of the
nonvested leave entitlement. Moreover, if a covered employee
retires or voluntarily terminates employment with unused leave
entitlement, petitioner will only pay the employee for the vested
leave entitlement. The employee does not have a right to receive
payment for any unused nonvested leave entitlement.
An employee receives vacation pay under the General Plan
equal to the salary he would normally receive when the vacation
is actually taken. Vacation pay is not based on the employee's
salary at the beginning of the calendar year.
2. The Star Markets Plan
Star Markets provides vacation pay benefits to certain non-
union employees under a plan which differs from the General Plan.
Star Markets permits an employee to take 1 week of vacation after
1 year of continuous service, and 2 weeks of vacation after 2
years of continuous service. The plan also permits employees
with 5 years or more of continuous service to take additional
vacation pay benefits. The actual amount of vacation for which
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an employee qualifies hinges on the employee's anniversary date
with Star Markets. The following shows the vacation schedule for
employees who qualify for 1 week of vacation under the Star
Markets Plan:
If Anniversary Date falls Vacation may be taken between:
between:
January 1 & April 30 May 1 & October 31
May 1 & December 31 Upon reaching Anniversary
The Star Markets Plan permits an employee on the payroll as
of April 30 to take 2 weeks of vacation after completing 2 years
of continuous service with Star Markets. The following shows the
vacation schedule for employees who qualify for 2 weeks of
vacation under the Star Markets Plan:
If Anniversary Date falls Vacation may be taken between:
between:
January 1 & April 30 May 1 & October 31
May 1 & December 31 First Week: Between
May 1 & October 31
Second Week: Upon
reaching Anniversary
The parties have stipulated that, by the end of TYE 8701 and
TYE 8801, employees satisfied three-quarters of the service
necessary under the Star Markets Plan to qualify for 1 or 2 weeks
of vacation, regardless of their respective anniversary dates.
That is to say, the parties have stipulated that all employees
were on the payroll as of April 30. The three-quarters of the
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service satisfied (the 9-month span from May 1 to January 30 or
31) corresponds to an employee's "accumulated benefits" since,
contrary to the General Plan, vacation benefits do not vest
ratably under the Star Markets Plan. (Nonaccumulated benefits
consist of that one-quarter of the vacation entitlement measured
from the end of the relevant tax year (January 30 or 31) to the
applicable date of grant (April 30).)
For employees who qualify for 1 or 2 weeks of vacation pay,
the Star Markets Plan vacation season extends from May 1 through
December 31 of each year. Unless an individual terminates
employment prior to reaching his anniversary date, he becomes
fully vested in the first and second weeks of vacation as of the
date he is eligible to take his vacation under the plan (with the
exception of an employee starting between May 1 and December 31,
who can take his first week between May 1 and October 31, but
does not vest until his anniversary date).
All vacation under the Star Markets Plan must commence
within the calendar year in which an employee reaches his
anniversary date with Star Markets. No vacation benefits may be
accumulated from year to year. (The record does not disclose how
an employee whose anniversary date falls in the last week of
December is supposed to take his vacation. We presume that, as
long as his vacation commences before the end of that calendar
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year, it may continue into the next calendar year without
forfeiture.) As with the General Plan, the Star Markets Plan
calculates vacation pay benefits using an employee's rate of pay
in effect at the time the vacation is actually taken; vacation
pay is not premised on an employee's salary at the beginning of
the calendar year.
3. The Acme Markets Plans
Acme Markets offers vacation pay benefits to certain union
employees. The Acme Markets Plans' vacation season extends from
May 1 through September 30 of each year for the first and second
weeks of vacation, and May 1 through April 30 of the next
calendar year for the third, fourth, and fifth weeks of vacation.
In contrast with the Star Markets Plan, employees covered by the
Acme Markets Plans vest ratably in a specified amount of leave
for each month or each week they work for Acme Markets between
May 1 of one calendar year and April 30 of the next year. The
amount of leave in which an employee vests depends on the
employee's length of continuous service with Acme Markets. As of
May 1 of each year, an employee will be fully vested in the
vacation pay he is expected to take during the vacation season
beginning on that date.
All vacations under the Acme Markets Plans must be used
during the relevant vacation season; no vacation benefits accrue
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from one vacation season to the next. A covered employee who
terminates employment before reaching the May 1 start of a
vacation season retains the right to receive payment for vacation
pay benefits he has vested in since May 1 of the preceding year.
However, he has no right to receive vacation pay for nonvested
vacation benefits he would have vested in by the May 1 start of
the next vacation season. An employee receives vacation pay
under the Acme Markets plan equal to the salary he would normally
receive when the vacation is actually taken.
B. Petitioner's Section 463 Deductions
For the General Plan and the Acme Markets Plans, petitioner
included both the unused yearend vested and nonvested vacation
benefits in calculating its vacation pay accruals under section
463 for the relevant period. In some instances, petitioner
applied inflation factor adjustments to the unused yearend vested
and nonvested vacation benefits when calculating claimed accruals
under section 463. The parties agree that petitioner may include
the unused yearend vested vacation benefits and related
adjustments when calculating its vacation pay accruals under
section 463. Respondent disputes, however, petitioner's
inclusion of the unused yearend nonvested vacation benefits and
adjustments when calculating the vacation pay accruals under
section 463 for TYE 8701 and TYE 8801.
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Petitioner also included the yearend Star Markets
accumulated and nonaccumulated benefits when calculating the
claimed vacation pay accruals under section 463 for the relevant
period. Star Markets also applied inflation factor adjustments
to the yearend accumulated and nonaccumulated benefits when
calculating the claimed vacation pay accruals under section 463.
The parties agree that Star Markets may include the yearend
accumulated benefits and corresponding adjustments when
calculating its vacation pay accruals under section 463.
However, respondent disputes the inclusion of the nonaccumulated
benefits and adjustments when calculating accruals for TYE 8701
and TYE 8801.
Discussion
The issues we must decide are: (1) Whether petitioner
properly deducted contributions made to Multiemployer Plans
attributable to services performed after TYE 8801 on its return
for that year; and (2) whether petitioner properly deducted
certain nonvested or nonaccumulated vacation pay liabilities
pursuant to section 463 on its returns for TYE 8701 and TYE 8801.
For the following reasons, we hold that the timing of
petitioner's deductions was improper with respect to both issues.
Issue 1. The Deductions for Grace Period Contributions to
Multiemployer Plans
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During the relevant period, petitioner's subsidiaries made
monthly contributions to 39 CBA Plans on behalf of their
unionized employees. For each CBA Plan, the amount of the
monthly contribution was obtained by multiplying the units of
service worked by employees covered under the respective CBA Plan
by the contribution rate.
For each taxable year prior to TYE 8801, petitioner deducted
12 monthly contributions based on covered hours worked during
such year. Then, as to TYE 8801, petitioner changed its method
of calculating its deduction. For that year, petitioner obtained
an extension to October 17, 1988, of the time within which to
file its return. Between the date on which TYE 8801 ended and
the extended due date of the return, petitioner's subsidiaries
made 7 or in some cases 8 monthly contributions to the CBA Plans,
and claimed these grace period contributions as a deduction for
TYE 8801, in addition to the 12 monthly contributions.
Section 404(a) specifies that employer contributions to
exempt trusts under various types of qualified employee benefit
plans are not deductible under any other Code provision, but if
they would otherwise be deductible, they are deductible under
section 404, subject to articulated limitations as to the amount
deductible in any taxable year. The limitations on the amount
deductible are contained in section 404(a)(1)(A), which also
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refers to the deduction of contributions "In the taxable year
when paid". However, section 404(a)(1)(A) does not specify the
method by which the actual amount of the deduction may be
determined.
The applicable limitations on contributions to CBA Plans in
this case are contained in clauses (i) and (iii) of section
404(a)(1)(A), which together provide that the overall limitation
is the greater of the amount necessary to satisfy the minimum
funding standard of section 412(a) for plan years ending within
the employer's taxable year, and an amount equal to the normal
cost of the plan, augmented by any amount necessary to amortize
unfunded costs equally over 10 years. In addition, the flush
language at the end of subparagraph (A) of the foregoing section
provides, among other things, that the maximum amount deductible
for the taxable year is to equal the full funding limitation for
such year determined under section 412.
As a further refinement of the section 404(a) limitations on
the deductibility of contributions, section 413 provides certain
rules that apply exclusively to "Collectively bargained plans,
etc." Section 413(a) provides that subsection (b) applies to any
plan (and any trust thereunder) maintained pursuant to a CBA;
i.e., a CBA Plan. Various paragraphs of subsection (b) provide
rules that relate to CBA Plans, but the relevant paragraph for
- 27 -
the instant matter is paragraph (7), which furnishes a blueprint
for applying section 404(a) limitations insofar as they relate to
CBA Plans. Section 413(b)(7) states:
Deduction Limitations.-- Each applicable limitation
provided by section 404(a) shall be determined as if
all participants in the plan were employed by a single
employer. The amounts contributed to or under the plan
by each employer who is a party to the agreement, for
the portion of his taxable year which is included
within such a plan year, shall be considered not to
exceed such a limitation if the anticipated employer
contributions for such plan year (determined in a
manner consistent with the manner in which actual
employer contributions for such plan year are
determined) do not exceed such limitation. If such
anticipated contributions exceed such a limitation, the
portion of each such employer's contributions which is
not deductible under section 404 shall be determined in
accordance with regulations prescribed by the
Secretary.
Petitioner concedes in its brief that the facts and the
issue before us are "essentially identical" to that of a case
before the Court at the time the briefs were filed, which we have
since decided in favor of the Commissioner. See Lucky Stores,
Inc., & Subs. v. Commissioner, 107 T.C. 1 (1996) (Lucky Stores
I). Many of the arguments petitioner poses in the instant case
were discussed at length in Lucky Stores I, or in the
Supplemental Memorandum Opinion, Lucky Stores, Inc., & Subs. v.
Commissioner, T.C. Memo. 1997-70 (Lucky Stores II), and we need
not retread the same ground here. However, we shall address
certain of petitioner's arguments pertaining to the deduction
- 28 -
limitations of section 404(a)(1)(A) and section 413(b)(7), and
their relation to section 404(a)(6).
For the reasons detailed below, we conclude that petitioner,
by its misguided attempt to use the expanded time of payment
provision of section 404(a)(6) to augment its current
contribution deduction, has run afoul of the deduction limits for
individual employer contributors imposed by sections 404(a)(1)(A)
and 413(b)(7). See Lucky Stores, Inc., & Subs. v. Commissioner,
107 T.C. at 12.
Sections 404(a)(1)(A) and 413(b)(7) place limits on the
overall amount that may be deducted by all contributing employers
to a CBA Plan for portions of their respective tax years included
in a plan year. They do not detail the method by which the
actual amount of the deduction of an individual employer
contributor may be calculated. Nevertheless, in the absence of
regulations promulgated by the Secretary, we think these sections
outline the approach that should be taken to determine the
permissible amount of each employer's deductions for
contributions to a CBA Plan. The dominant themes we extrapolate
from section 413(b)(7) to aid us in this regard are those of
consistency and predictability.
Section 413(b)(7) provides a necessary fiction for employer
contributors to ascertain whether they will exceed the overall
- 29 -
deduction limitation of section 404(a)(1)(A) for a given plan
year since: (1) They cannot know the exact amount of their
required contributions for a plan year until the units of service
are actually completed by their employees; (2) their tax years do
not necessarily correspond with one another; and (3) employer
contributors are not required to report to plan administrators
the deductions they claim for contributions. Section 413(b)(7)
states that all employers' contributions for a plan year will not
exceed the overall limit imposed by section 404(a)(1)(A) if the
total anticipated contributions for the plan year do not exceed
such limit. Anticipated contributions for a plan year must be
determined in a manner consistent with that in which actual
contributions are determined. Sec. 413(b)(7). Actual
contributions are calculated by plan administrators based on
units of service worked within the 12-month plan year.
Petitioner presumes that, once the total anticipated
contributions are found not to exceed the overall deductible
limit, it can thereafter elect to augment the amount of its
actual contributions for its tax year pursuant to section
404(a)(6) to take advantage of any leftover overall limitation
for the corresponding plan year (the difference between full
funding under section 412 and all anticipated employer
contributions for that plan year). Any other approach,
- 30 -
petitioner contends, in effect recalculates anticipated
contributions, which defeats Congress' intent in using the word
"anticipated". Petitioner is mistaken on 2 counts. First,
except to the limited extent discussed below, none of
petitioner's contributions qualify for section 404(a)(6)
treatment. Second, petitioner fails to comply with the
individual deduction limits of section 404(a)(1)(A) and section
413(b)(7).
Section 404(a)(6) states:
Time When Contributions Deemed Made.-- For purposes
of paragraphs (1), (2), and (3), a taxpayer shall be
deemed to have made a payment on the last day of the
preceding taxable year if the payment is on account of
such taxable year and is made not later than the time
prescribed by law for filing the return for such
taxable year (including extensions thereof). [Emphasis
added.]
If a taxpayer fulfills the above conditions, section 404(a)(6)
automatically applies; no election is required or contemplated
under the statute. The operative language is "shall".
In arguing that it has complied with the foregoing
conditions, petitioner relies heavily on Rev. Rul. 76-28, 1976-1
C.B. 106, which offers guidelines to interpret the meaning of the
phrase "on account of". In pertinent part, the ruling states:
a payment made after the close of an employer's taxable
year to which amended section 404(a)(6) applies shall
be considered to be on account of the preceding taxable
year if (a) the payment is treated by the plan in the
same manner that the plan would treat a payment
- 31 -
actually received on the last day of such preceding
taxable year of the employer, and (b) either of the
following conditions is satisfied.
(1) The employer designates the payment in
writing to the plan administrator or trustee as a
payment on account of the employer's preceding taxable
year, or
(2) The employer claims such payment as a
deduction on his tax return for such preceding taxable
year * * *. [Rev. Rul. 76-28, 1976-1 C.B. at 107;
emphasis added.]
The underscored language above illustrates that Rev. Rul. 76-28
offers those employers to which it applies the opportunity for
what is in effect an election under section 404(a)(6). In Lucky
Stores I, we did not need to address the weight to be afforded
Rev. Rul. 76-28 in the context of CBA Plans. Lucky Stores, Inc.,
& Subs. v. Commissioner, 107 T.C. at 13-14. We held that, in any
event, grace period contributions based on services performed
after the close of the taxable year were not "on account of" the
earlier tax year in that the taxpayer had not proven that the
"same treatment requirement" of Rev. Rul. 76-28 was satisfied.
Id. (The only grace period contributions that we find to be "on
account of" TYE 8801 and which, consequently, must be deducted in
that year, are any delinquent payments and the payments for
services performed in the last month of TYE 8801 but not paid
until the first month of TYE 8901.)
- 32 -
We think that an individual employer's contributions and
ensuing deductions for its tax year, in order to comport with
anticipated contributions for the plan year on which the section
413(b)(7) deduction limit is based, must be limited to those
contributions attributable to services performed over a 12-month
period. Lucky Stores, Inc., & Subs. v. Commissioner, 107 T.C. at
14. Section 413(b)(7) states that each limit under section
404(a) shall be determined as if all plan participants were
employed "by a single employer", which mandates uniformity of tax
treatment for employer contributors even as their tax years are
widely disparate. As a result, petitioner may not unilaterally
and arbitrarily expand its deduction limitation, and thereby
increase the amount of its deduction for its tax year, by
including contributions in its tax year in a manner at odds with
how anticipated contributions previously had been determined for
the plan year in which its tax year falls. Id. (In response to
one of petitioner's arguments, we recognize that, in certain
limited situations, where the same plan year includes both the
last day of an employer's tax year and the entire 8-1/2 month
grace period that follows the tax year, the use of section
404(a)(6) in the manner advocated by petitioner, if permitted,
would have no effect on an individual employer's anticipated
contributions for the plan year. However, many employer
- 33 -
contributors would not fall under this category due to their
widely varying tax years. Since these employer contributors
could not also use section 404(a)(6) without impermissibly
distorting their anticipated contributions, the requirement of
uniform tax treatment would be violated if the individual
employer whose anticipated contributions would be unaffected were
able so to use section 404(a)(6). Sec. 413(b)(7).)
Under the 12-month limitation discussed above, anticipated
contributions are easily forecast at the outset of a plan year;
no recalculation is ever required. In order to arrive at
anticipated employer contributions, each employer can examine
prior years' Forms 5500 which indicate actual contributions to a
plan for units of work performed during a plan year.
Alternatively, an employer can ask the plan administrator to
indicate the amount of contributions it expects to be due for
units of service performed under the plan during the year.
Petitioner acknowledges that section 413(b)(7) establishes a
means "whereby the party with the most information (i.e., the
multiemployer plan) can determine in advance whether employer
contributions will exceed the deductible limit." Yet, under
petitioner's theory, a plan administrator could make no such
determination. If an employer contributor could arbitrarily
expand its actual contributions for its tax year by "electing" to
- 34 -
do so under section 404(a)(6), anticipated contributions for the
corresponding plan year would become indeterminate and,
therefore, unreliable. They would no longer approximate the
amount of actual contributions for a plan year. This, in turn,
would cause the section 413(b)(7) fiction to become unworkable,
leading to the inability of a plan to prospectively determine
whether the overall limit would be exceeded.
Petitioner attempts to finesse this point by positing that,
whereas section 404(a)(6) deems a contribution to be made in an
earlier tax year, section 413(b)(7) measures employer
contributions that are expected to be actually made to a
Multiemployer Plan during its plan year. Under this reasoning,
the treatment of contributions pursuant to section 404(a)(6) does
not affect the limits under section 413(b)(7). Petitioner
asserts that section 404(a)(6) "expressly limits this deemed
treatment" of grace period contributions in the preceding tax
year to section 404(a). Petitioner then concludes that the tax
year in which a contribution is deducted is "wholly irrelevant"
under section 413(b)(7).
We disagree with the preceding disjunctive analysis.
Petitioner ignores that section 413(b)(7) is merely an amplifying
refinement of section 404(a) in the context of CBA Plans. See
Lucky Stores, Inc., & Subs. v. Commissioner, 107 T.C. at 11.
- 35 -
Section 413(b)(7) even refers directly to section 404(a): "Each
applicable limitation provided by section 404(a) shall be
determined". As such, sections 404(a) and 413(b)(7) cannot be
read separately. Together, they enable individual employer
contributors to determine their deduction limits in the tenebrous
context of overlapping tax and plan years. Consequently, section
404(a)(6), by its reference to section 404(a)(1) through (3), has
an impact on section 413(b)(7).
Petitioner maintains that, if an individual employer's tax
treatment of its contributions affects the deductibility of all
contributions, administrators and other contributing employers
could never know whether a contribution was in fact deductible.
That would no doubt be true under petitioner's approach, in which
an employer's tax treatment is subject to its unilateral
allocation of grace period contributions. However, such a
problem never arises if an employer contributor premises its
deduction on services performed in its 12-month tax year.
Petitioner argues that the rationale of Airborne Freight
Corp. v. United States, 76 AFTR 2d 95-7497, 96-1 USTC par. 50,004
(W.D. Wash. 1995), should prevail in the instant case. However,
as we noted in Lucky Stores II, the District Court did not
directly confront the question of section 404(a) deduction
limitations. Lucky Stores, Inc., & Subs. v. Commissioner, T.C.
- 36 -
Memo. 1997-70. Rather, the court summarily opined that, because
the taxpayer was late in filing its 1989 tax return, it could not
have interfered with the ability of other employers to calculate
and claim their deductions. Airborne Freight Corp. v. United
States, 76 AFTR 2d 95-7497, at 95-7499, 96-1 USTC par. 50,004, at
83,015 (W.D. Wash. 1995). The District Court held that, since
the "plan-wide deductible limit" had not been exceeded, the
disputed deductions were permissible. Id. Such a conclusion can
only be reached retrospectively, which is precisely what
petitioner (correctly) opposes as contrary to Congress' intent.
In addition, this holding does not recognize an employer
contributor's individual deduction limit. We respectfully
disagree with the District Court's analysis.
In our view, limiting each employer's deductions to
contributions based on services performed in its 12-month tax
year leads to the following salubrious results: (1) Deductions
are predictable since they do not hinge on section 404(a)(6); and
(2) no employer can usurp a greater share of a plan year's
overall deduction limit at another's expense based on the
vagaries of when its tax year ends in relation to that of other
employers or when it files its return. Cf. Airborne Freight
Corp. v. United States, 76 AFTR 2d 95-7497, at 95-7499, 96-1 USTC
par. 50,004, at 83,015 (W.D. Wash. 1995) ("It seems only fair to
- 37 -
require that those employers who choose to file their tax returns
later must accept the risk of possible limitations on their
ability to claim deductions.").
Finally, sections 404(a) and 413(b)(7) offer employers a
powerful incentive to participate in qualified plans. Employers
obtain the significant tax advantage of a deduction for plan
contributions in many cases years before the corresponding income
is recognized by their employees. (In general, employee
participants are not taxed until the time they receive
distributions from a qualified plan, whereas an employer's
contributions to a qualified plan are deductible when paid to the
trust. In contrast, for nonqualified plans, an employer's
contributions are not deductible when paid; they are deductible
only when the employee participant reports the amount of the
contribution as income. Sec. 404(a)(5).) However, sections
404(a) and 413(b)(7) impose restraints which cannot be
disregarded. Petitioner baldly seeks to garner an additional tax
benefit, permanent tax deferral, by its one-time bunching of up
to 20-1/2 months of deductions in TYE 8801 for each of the 39
Multiemployer Plans to which it contributed. See Lucky Stores,
Inc., & Subs. v. Commissioner, T.C. Memo. 1997-70. We are not
convinced that Congress intended section 404(a)(6) to be read so
expansively, or in a manner inconsistent with section 413(b)(7),
- 38 -
in furtherance of such a dubious goal. We therefore hold that
pension contributions, based on units of service worked after the
close of TYE 8801 and before October 17, 1988, were not "on
account of" TYE 8801, as required by section 404(a)(6), and are
therefore not deductible in that year.
Issue 2. The Vacation Pay Deductions
We now turn to the issue of whether certain vacation
benefits were "earned" pursuant to section 463 by the end of TYE
8701 and TYE 8801 such that petitioner could take deductions for
vacation pay liabilities in those years. Section 463 was
repealed by section 10201(a) of the Omnibus Budget Reconciliation
Act of 1987, Pub. L. 100-203, 101 Stat. 1330-387, effective for
taxable years beginning after December 31, 1987.
Prior to repeal, section 463 provided as follows:
(a) Allowance Of Deduction.-- At the election of a
taxpayer whose taxable income is computed under an
accrual method of accounting, if the conditions of
section 162(a) are otherwise satisfied, the deduction
allowable under section 162(a) with respect to vacation
pay shall be an amount equal to the sum of--
(1) a reasonable addition to an account
representing the taxpayer's liability for vacation pay
earned by employees before the close of the taxable
year and paid during the taxable year or within 8 1/2
months following the close of the taxable year * * *
* * * * * * *
Such liability for vacation pay earned before the close
of the taxable year shall include amounts which,
because of contingencies, would not (but for this
- 39 -
section) be deductible under section 162(a) as an
accrued expense. * * * [Emphasis added.]
The Tax Reform Act of 1986, Pub. L. 99-514, sec. 1165(a), 100
Stat. 2511, amended section 463(a)(1) for tax years beginning
after December 31, 1986. Prior to the amendment, the section
read "and expected to be paid during the taxable year or within
12 months following the close of the taxable year" in lieu of the
underscored language above.
For our present purposes, it is helpful to review the
history of vacation pay liability deductions antedating the
enactment of section 463 by the Act to Amend the Tariff Schedules
of the United States, Pub. L. 93-625, sec. 4(a), 88 Stat. 2108,
2109, for taxable years beginning after December 31, 1973. Prior
to 1954, in 2 published rulings under the 1939 Code, I.T. 3956,
1949-1 C.B. 78 and G.C.M. 25261, 1947-2 C.B. 44 (no date given),
the IRS ruled that liability for vacations with pay may, with
respect to some employees, be terminated, if the employment
relationship is severed prior to the scheduled vacation period.
Nevertheless, it is stated that this contingency should not
preclude "the accrual of vacation pay at the end of the taxable
year in which the services are performed, since, with respect to
the individual employee at the end of such year, the employer
would be justified in anticipating that the liability will be
paid". I.T. 3956, 1949-1 C.B. 78 (emphasis added).
- 40 -
Despite the existence of these taxpayer-friendly rulings,
courts imposed a stricter standard for the accrual of vacation
pay liabilities in instances where earned vacation pay
entitlements were forfeitable due to post-yearend contingencies.
E.g., E.H. Sheldon & Co. v. Commissioner, 19 T.C. 481 (1952),
affd. in part and revd. in part 214 F.2d 655 (6th Cir. 1954);
Tennessee Consol. Coal Co. v. Commissioner, 15 T.C. 424 (1950).
In light of these decisions, the IRS issued Rev. Rul. 54-
608, 1954-2 C.B. 8, which revoked I.T. 3956 and modified G.C.M.
25261, 1947-2 C.B. 44. The ruling stated that employers must
"clearly establish" the fact of liability to individual employees
by the end of a tax year to accrue vacation pay in that year.
Rev. Rul. 54-608, 1954-2 C.B. at 9-10. Consequently, if an
employee had to remain employed beyond the end of the year and
until the scheduled vacation period in order to fix the
employer's liability, respondent did not consider the liability
to be accruable.
To prevent hardship to taxpayers who had relied on I.T.
3956, Congress continually delayed the effective date of Rev.
Rul. 54-608 while it studied the vacation pay issue. See Denver
& Rio Grande W. R.R. v. Commissioner, 38 T.C. 557, 575-576 nn.8,
9 (1962). Congress subsequently enacted section 463 in direct
response to the strict accrual doctrine set forth in the ruling.
- 41 -
The Senate report for Pub. L. 93-625 states that the repeal of
I.T. 3956 "creates hardships for taxpayers who have been accruing
vacation pay under plans which do not meet the requirements of
the strict accrual rules set forth in * * * [Rev. Rul. 54-608]."
S. Rept. 93-1357 (1974), 1975-1 C.B. 517, 521-522. The Senate
report further states that section 463 "has been developed as a
result of * * * [Congress' study of this problem] and insofar as
accrued vacation pay is concerned the committee believes it
represents the permanent legislation promised by the committees."
Id. at 9, 1975-1 C.B. at 522.
Section 463 permitted taxpayers to elect to establish a
reserve account for the accrual of vacation benefits. It
authorized a yearend deduction for "earned" but unpaid vacation
benefits which otherwise failed to satisfy the strict accrual
test due to the existence of contingencies which could result in
the forfeiture of leave entitlement. Sec. 463(a)(1). To qualify
for deduction, the benefits also had to be payable to employees
within 12 months after the end of the tax year (a period later
reduced to 8-1/2 months for tax years beginning after December
31, 1986). Sec. 463(a)(1).
Petitioner accrued and deducted all vacation benefits that
it expected to pay within 12 months of the close of TYE 8701 and
within 8-1/2 months of the close of TYE 8801. The parties agree
- 42 -
that petitioner is entitled to the deductions, but they part
company on the proper timing. Respondent contends that the 1987
vacation pay should have been deducted in TYE 8801 and the 1988
vacation pay ought to have been deducted in TYE 8901.
Although the term "earned" is not expressly defined in the
statute or the legislative history, the parties both maintain
that vacation pay is earned if it pertains to services performed
before the close of a taxable year. The gravamen of the dispute,
therefore, lies in whether vacation benefits under the General
Plan, the Star Markets Plan and the Acme Market Plans were in
fact attributable to services performed before the close of the
taxable year for which the deductions were sought.
For reasons which follow, we hold that the vacation benefits
were not earned before the end of each taxable year within the
meaning of section 463. Consequently, the deductions must be
taken in the subsequent taxable years.
A. Vacation Benefits Are Partially Based on Services Performed
After the End of the Taxable Years
1. The General Plan
Petitioner argues that the only service requirement for
receiving leave entitlement under the General Plan is employment
for the 12 consecutive months preceding the grant date.
Respondent, on the other hand, asserts that employees earned
their respective vacation benefits only as services were rendered
- 43 -
over the 12-month period between consecutive anniversaries of the
employees' initial dates of employment.
It is true for the General Plan that the granting of leave
entitlement is conditioned on the performance of services during
the 12 consecutive months preceding the date of grant (January
1). Nevertheless, as petitioner concedes, despite the employee's
eligibility to take vested and nonvested leave after January 1,
"the amount of the Leave Entitlement is based on the next
anniversary of the employee's date of hire." As such, the leave
entitlement is partially attributable to services performed after
the end of the tax year. Thus, while an employee may have had to
work the 12 months before January 1 to qualify for any vacation
benefits, the extent of the benefits received upon satisfying
that precondition hinged upon the years of service he was
expected to complete on his next anniversary date. As evidence
of this, vacation pay benefits are calculated using an employee's
rate of pay at the time the vacation is actually taken, rather
than the rate of pay at the end of the taxable year.
Furthermore, petitioner's own vacation plan brochures used the
term "earned" in the same manner as respondent does here.
2. The Star Markets Plan and Acme Markets Plans
That vacation pay benefits are partially based on services
performed after the end of the relevant taxable year is even more
- 44 -
apparent under the Star Markets Plan and Acme Markets Plans.
Unlike the General Plan, the Star Markets Plan and Acme Markets
Plans provide no advance leave in the form of leave entitlement
to employees. Rather, employees are not permitted to take any
leave until all of the plans' service requirements are fulfilled.
This occurs, at the earliest, on May 1 (the grant date), which is
3 months after the close of petitioner's taxable year.
Moreover, as with the General Plan, vacation pay benefits
under the Star Markets Plan and Acme Markets Plans are calculated
using an employee's rate of pay at the time the vacation is
actually taken, rather than the rate of pay at the end of the
taxable year.
B. Respondent's Disallowance of Claimed Deductions Does Not
Render Section 463 Meaningless
1. The General Plan
Respondent contests petitioner's inclusion of the General
Plan unused yearend nonvested leave entitlements in its
calculation of vacation pay accruals under section 463 for TYE
8701 and TYE 8801. Petitioner asserts that vacation pay is
earned as of the end of a tax year even if employees must perform
additional services after the end of that year to absolutely fix
an employer's obligation to provide the vacation pay. Petitioner
posits that the fact that an individual employee did not have a
nonforfeitable right to such vacation pay at the close of the
- 45 -
taxable year determines only whether the pay is accrued or
vested, not whether it is earned. Petitioner submits that, when
stripped of its trappings, respondent's position is simply that
"earned" means accrued, which thereby renders section 463
meaningless.
Respondent, on the other hand, contends that nothing in
section 463 signals that vacation pay is earned simply because
the employer permits its employees to take vacations. Respondent
acknowledges that, under the terms of the General Plan, whether
vacation pay was earned happened to coincide with whether it had
vested. Nevertheless, she states that, in making her
determination, she was not swayed by inappropriate factors such
as whether the vacation benefits were vested, nonvested, or
contingent, or whether the vacation benefits were subject to
conditions subsequent or precedent.
The Court is persuaded that respondent did not rely on a
strict accrual doctrine in contravention of section 463 in
disallowing certain deductions for TYE 8701 and TYE 8801 under
the General Plan. Strict accrual would prohibit any deduction if
a possibility existed that the vacation benefits could be
forfeited after the end of the taxable year. See Rev. Rul. 54-
608, 1954-2 C.B. 8. Such a possibility exists even for the
taxable yearend "vested" benefits under the General Plan, because
- 46 -
of what is commonly called a "use-or-lose" provision in the plan.
This provision requires participants to use their allocated
vacation benefits by the end of the calendar year. If a
participant fails to use all of the allocated leave, he receives
no compensation for the unused leave remaining at the calendar
yearend, and it cannot be carried over to the next year. Indeed,
it appears to us that the principal reason for allowing an
employee to take all of his leave as of January 1 is to ensure
that all employees were able to take all of their leave
entitlement without creating scheduling conflicts and without
forfeiture. The use-or-lose provision applies to all leave
allocated to an employee and does not distinguish between taxable
yearend "vested" and "nonvested" benefits.
Due to the use-or-lose provision, there is no assurance as
of the close of the taxable year that all otherwise "vested"
vacation benefits will be used by participants by the end of the
calendar year. Nevertheless, while the mere possibility of
forfeiture would have precluded a deduction under the strict
accrual doctrine espoused in Rev. Rul. 54-608, supra, respondent
did not limit petitioner's deductions to yearend fixed and
nonforfeitable vacation benefits in the instant case. Rather,
she allowed deductions to the extent they were based on services
performed in that taxable year.
- 47 -
2. The Star Markets Plan
Star Markets included both the yearend accumulated and
nonaccumulated benefits in calculating its claimed vacation pay
accruals under section 463 for TYE 8701 and TYE 8801. Respondent
disputes petitioner's inclusion of the yearend nonaccumulated
benefits in its calculation of accruals under section 463.
Respondent claims she did not consider inappropriate factors such
as whether the vacation benefits were vested, nonvested,
contingent, or subject to conditions subsequent or precedent in
making her adjustments.
We are convinced that respondent properly focused solely on
whether the vacation pay was earned pursuant to section 463.
Respondent allowed petitioner a deduction based on three-fourths
of the unpaid yearend vacation benefits (May 1 through January 30
or 31), disallowing only the nonaccumulated benefits (January 30
or 31 to April 30), even though none of the benefits vested until
May 1, and employees could not take any leave before their
service requirements were met for the entire year.
3. The Acme Markets Plans
By the end of TYE 8701 and TYE 8801, employees covered by
the Acme Markets Plans would have vested in three-quarters of the
vacation benefits they anticipated receiving in the subsequent
taxable year. The remaining one-quarter of Acme Markets Plans
- 48 -
vacation benefits would fully vest by the May 1 following the end
of those taxable years. Respondent disputes Acme Markets'
inclusion of the nonvested benefits when calculating its vacation
pay accruals under section 463.
Respondent correctly focused solely on the services
performed by the end of the taxable year rather than the
substantive rights of plan participants at the close of such
year. To wit, respondent allowed petitioner a deduction based on
three-fourths of the unpaid yearend vacation benefits despite the
fact the plans did not permit employees to take leave before the
service requirements were fully met, and no benefits were
actually granted until 3 months after the close of petitioner's
taxable year.
For each of the plans, although respondent did not acquiesce
in petitioner's excessively broad interpretation of section 463,
neither did she disregard statutory language and legislative
history which sought to liberate accruals of vacation pay from
the strictures of Rev. Rul. 54-608.
C. Petitioner's Attempt To Equate the Deductions At Issue with
Deductions Allowed in I.T. 3956 Is Unavailing
We agree with petitioner that the legislative history
discussed supra makes clear that section 463 was meant to apply
to the type of vacation pay plan at issue in I.T. 3956, 1949-1
C.B. 78. However, we are not convinced by petitioner's
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comparison of the plans at issue in the instant case to the plan
in I.T. 3956, supra, despite some shared characteristics.
In I.T. 3956, supra, a calendar year employer negotiated a
vacation pay plan for its union employees pursuant to which
eligible employees received a vacation entitlement on January 1
if they had worked 160 days in the preceding calendar year. The
employer sought to deduct the vacation entitlement in the year in
which the 160 days had been worked. The agreement further
provided that vacations could be scheduled from January 1 to
December 31, and that vacation pay was calculated using an
employee's rate of pay at the time the vacation was actually
taken. Moreover, no vacation with pay was due an employee whose
employment relationship terminated prior to his scheduled
vacation period.
I.T. 3956 concerned the accrual and deduction of vacation
pay where the service requirements had already been fulfilled
during the preceding calendar year, but where other provisions
(such as termination of employment) could lead to the forfeiture
of the earned leave. See Latrobe Steel Co. v. Commissioner, 62
T.C. 456, 465 (1974); Oberman Manufacturing Co. v. Commissioner,
47 T.C. 471, 477 (1967); Denver & Rio Grande W. R.R. v.
Commissioner, 38 T.C. at 574. Although employees potentially had
to remain employed well after the year of deduction to prevent a
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forfeiture of their vacation entitlements, those entitlements
were based solely on the 160 days of service rendered in the
preceding calendar year. The ruling did not address the issue of
leave advances as provided by the General Plan.
Moreover, unlike I.T. 3956, for each of the plans at issue,
the service requirements had only been partially fulfilled by the
end of the respective taxable years. Consistent with I.T. 3956,
respondent disallowed petitioner's deductions only to the extent
that the qualifying services had not been performed by the last
day of TYE 8701 and TYE 8801. Consequently, we hold that
vacation pay, based on units of service worked after the close of
TYE 8701 and TYE 8801 and before the due dates of those returns
as extended, was not earned in TYE 8701 and TYE 8801, as required
by section 463(a)(1), and is therefore not deductible in those
years.
To reflect the foregoing and issues previously resolved,
Decision will be entered
under Rule 155.