Former shareholders held liable for corporate tax debt.

• Author: Beavers, James A.

The Tax Court held that the four former shareholders of a corporation were liable as transferees for a portion of the tax debts of the corporation arising from a land sale that occurred before they sold their stock in the corporation to a third party.

Background

William Stuart, Arnold Walters Jr., James Stuart Jr., and Robert Joyce (the taxpayers) were the shareholders of Little Salt Development Co. (Little Salt), a Nebraska C corporation. Little Salt owned 160 acres of saline wetlands on the outskirts of Lincoln, Neb., that it sold to the City of Lincoln on June 11,2003, for $472,000. After it sold the land, Little Salt's only asset was cash. Little Salt realized a gain of $432,148 on the land sale, and, after the sale, the company did not engage in any business activity.

The taxpayers then entered into an agreement to sell their stock in Little Salt to MidCoast Investments Inc. for a price equal to the cash held by Little Salt on the date of sale closing reduced by 64.92% of the company's combined state and federal corporate income tax liability for its current tax year (i.e., its tax liability related to the sale of the land). As part of the transaction, Little Salt was required to transfer on or before the closing date its cash on hand (which was not to be less than $467,721) to MidCoast's attorneys' trust account.

MidCoast agreed to "cause" Little Salt to file its returns for 2003 and to pay its federal and state tax liabilities arising from the land sale. According to their later testimony in Tax Court, before they signed off on the sale agreement, none of the taxpayers made any real effort to understand the terms of the agreement, and none of them knew why MidCoast was purchasing Little Salt or what it planned to do with the corporation after the purchase.

Pursuant to the sale agreement, on Aug. 7,2003, the attorney for the taxpayers wired the cash held by Little Salt at that time ($467,721) to MidCoast's attorney, and minutes later MidCoast's attorney wired back to the taxpayers the agreed-upon purchase price for the stock ($358,826, or the total cash reduced by 64.92% of Little Salt's tax liability). The following day, the taxpayers' attorney distributed the cash from the purchase to them pro rata. MidCoast's attorney distributed the cash transferred to him from Little Salt to an account in the name of Little Salt and on the next day to an account held by MidCoast. Little Salt treated the transfer of funds on its books at the end of its fiscal year on Sept. 30,2003, as a shareholder loan...