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[ Corporate Tax - Intermediate Sanctions Excise Taxes ]

Suggested Answers : Case Study #12 - Use of Penn Property
Intermediate Sanctions :|: Case Studies of Potential Excess Benefit Transactions

  1. Identify, if any, disqualified persons and/or organization managers.

    Disqualified person
    Dr. Shirley Wondergirl is a disqualified person for purposes of this transaction because she manages a discrete segment or activity of the organization that represents a substantial portion of its activities, assets, income, and expenses, as compared to the University as a whole. Assuming that Dr. Shirley’s new biomedical company is a legal entity, since she owns 45% of the company it would also meet the definition of a disqualified person since it is a controlled entity.

    Organization managers
    Dr. Shirley is likely also to be an organization manager for purposes of this transaction by virtue of her ability, on behalf of the organization, to exercise certain approval powers similar to those of an organization officer. Dr. Shirley had been given a great deal of autonomy by the leadership of the University over how she manages her department, so it is reasonable to assume that she would regularly exercise general authority to make administrative or policy decisions on behalf of the organization. This behavior meets the definition of an organization manager.

  2. Describe any potential excess benefit transaction(s).

    The rent free use of the lab facilities by Dr. Shirley’s new biomedical company is clearly a problem. Although the case was not specific, it states that if Dr. Shirley had to pay for access to similar laboratory facilities, it could easily cost thousands per month if she could even find such facilities available for rent. Notwithstanding that the facilities were excess capacity to the University, the fair rental value of say, for discussion purposes, $3,000 per month would either be additional compensation to Dr. Shirley or an excess benefit to the new biomedical company. The excess benefit would be based on the market rental value of the laboratory facilities, not based on the stated fact that Dr. Shirley’s use did not cost the University a cent since the facilities were already there. In addition, it is stated that the new biomedical company received uncompensated services from some of the University’s students. The IRS might argue that the value of those student’s services would also qualify as an excess benefit.

  3. Who would be liable for any potential excise taxes and how much would they be?

    If the IRS argued that the free use of the laboratory facilities and student services should be treated as additional compensation to Dr. Shirley, it would be deemed an excess benefit to Dr. Shirley, a disqualified person, by virtue of the fact that nothing in the case study even remotely suggests that Dr. Shirley had any intention of timely reporting the amount as additional compensation. Any unreported compensation to a disqualified person is an excess benefit transaction. If, on the other hand, the IRS chose to argue that the free rent and services were an excess benefit to the new biomedical company, then the company would be exposed to the tax liability. Either way, the excess benefit would be the total value of the free rent for the period of time the facilities were used plus the total uncompensated student services. The 25% Intermediate Sanctions excise tax rate would apply. In addition, the excess benefit would have to be paid back to the University.

    Dr. Shirley, as an organization manager who approved the transaction, could also be liable for the 10% tax against the excess benefit (subject to the $10,000 maximum).

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