1 Unless otherwise indicated, all section references are to

the Internal Revenue Code in effect for the year in issue. All

Rule references are to the Tax Court Rules of Practice and

Procedure.

T.C. Memo. 1996-224

UNITED STATES TAX COURT

RICHARD L. AND MARJORIE A. FREESE, Petitioners v.

COMMISSIONER OF INTERNAL REVENUE, Respondent

Docket No. 26363-93. Filed May 16, 1996.

Richard L. Freese, pro se.

Joanne B. Minsky, for respondent.

MEMORANDUM OPINION

GOLDBERG, Special Trial Judge: This case was heard pursuant

to section 7443A(b)(3) and Rules 180, 181, and 182.1 Respondent

determined a deficiency in petitioners' Federal income tax for

1990 in the amount of $793. The sole issue for decision is
2

2 The record does not provide a clear explanation as to why

petitioner's contract was signed nearly 2 weeks after he

commenced employment.

whether petitioners are entitled to a deduction of $2,834 for

contributions to their individual retirement accounts.

Some of the facts have been stipulated and are so found. 

The stipulation of facts and attached exhibits are incorporated

by this reference. Petitioners resided in Fort Meyers, Florida,

at the time their petition was filed. References to petitioner

in the singular refer to Richard L. Freese.

On October 22, 1990, petitioner commenced employment with

the office of the Morrow County Prosecuting Attorney in Ohio as

the coordinator of a new program established to (1) notify

victims and witnesses of hearings and prepare them for trial, (2)

explain the criminal justice system, and (3) coordinate physical

and psychological treatment (the program). Petitioner's

employment contract, signed on November 2, 1990,2 provides in

relevant part:

3. The Coordinator shall be subject to PERS [Public

Employees Retirement System] and shall be entitled to other

fringe benefits as afforded Morrow County employees.

The Public Employees Retirement System of the State of Ohio

(PERS) requires that a percentage of a public employee's

compensation be withheld by the employer for contribution to a

retirement plan. Ohio Rev. Code Sec. 145.01 and 145.47 (Baldwin

1996). Under section 145.03 of the Ohio Revised Code, membership
3

in PERS is compulsory upon being employed, with some exceptions

not relevant herein. During 1990, an aggregate of $133.88 was

withheld from petitioner's wages and contributed to PERS.

As the result of an extremely poor working relationship

between petitioner and his direct supervisor, the Director of the

program, petitioner chose to resign from his position effective

February 1, 1991. At such time, he requested a full refund of

his contributions to PERS. On or about October 22, 1991,

petitioner rolled over the refund of $283.07 into an individual

retirement account (IRA).

Prior to April 15, 1991, petitioners opened two IRAs and

made total contributions thereto of $2,834. Petitioners deducted

this amount on their 1990 joint Federal income tax return and

reported adjusted gross income for 1990 of $59,632.15.

In the notice of deficiency, respondent disallowed the

entire deduction of $2,834 on the ground that petitioner was an

"active participant" in a plan established for employees of a

State or political subdivision or agency thereof during the year

at issue. As such, the limitation of section 219(g) on IRA

contribution deductions was applicable and resulted in the total

disallowance of the amount claimed by petitioners. Petitioner

argues that he was not an active participant within the meaning

of section 219(g)(5) because PERS is a deferred compensation plan

and serves as a substitute for Social Security in the State of

Ohio. Petitioner further argues that it would be inequitable to
4

disallow his IRA contribution because he was an involuntary

member of PERS, was a member of PERS for less than 3 months in

1990, and when he withdrew his contribution from PERS, he became

ineligible for any benefits, and, as such, could not obtain

double tax benefits arising from pension plans in 1990. 

Determinations of respondent are presumed correct, and the burden

of proof is on petitioners to show otherwise. Rule 142(a); Welch

v. Helvering, 290 U.S. 111, 115 (1933).

In general, a taxpayer is entitled to deduct amounts

contributed to an IRA. Sec. 219(a); sec. 1.219-1(a), Income Tax

Regs. The deduction in any taxable year, however, may not exceed

the lesser of $2,000 or an amount equal to the compensation

includable in the taxpayer's gross income for such taxable year.

Sec. 219(b)(1). The maximum amount that may be deducted is also

limited where the taxpayer or spouse of the taxpayer is an

"active participant" in a retirement plan qualified under section

401(a). Sec. 219(g)(1). An "active participant" is defined by

section 219(g)(5) as an individual:

(A) who is an active participant in--

(i) a plan described in section 401(a) which includes 

a trust exempt from tax under section 501(a),

(ii) an annuity plan described in section 403(a),

(iii) a plan established for its employees by the

United States, by a State or political subdivision thereof,

or by an agency or instrumentality of any of the foregoing,

(iv) an annuity contract described in section 403(b),

or
5

3 As relevant herein, modified adjusted gross income means

adjusted gross income computed without regard to any deduction

for an IRA.

(v) a simplified employee pension (within the meaning

of section 408(k)), or

(B) who makes deductible contributions to a trust described

in section 501(c)(18).

The determination of whether an individual is an active

participant shall be made without regard to whether or not

such individual's rights under a plan, trust, or contract

are nonforfeitable. An eligible deferred compensation plan

(within the meaning of section 457(b)) shall not be treated

as a plan described in subparagraph (A)(iii).

In the case of a taxpayer who files a joint return, the deduction

is reduced using a ratio that is a function of the taxpayer's

modified adjusted gross income (modified AGI).3 Sec. 219(g)(2)

and (3). This provision results in a total disallowance of the

IRA deduction where the total modified AGI reported on a joint

return exceeds $50,000. See Felber v. Commissioner, T.C. Memo.

1992-418, affd. without published opinion 998 F.2d 1018 (8th Cir.

1993).

Petitioner contends that he is entitled to a deduction for

his entire IRA contribution because PERS is an eligible deferred

compensation plan. Petitioner argues, therefore, that he is not

an "active participant" within the meaning of section 219(g)(5). 

As relevant herein, a deferred compensation plan is defined

by section 457 as a plan established and maintained by a State,

political subdivision of a State, agency, or instrumentality

thereof, or any other nongovernmental organization exempt from
6

tax, that permits employees to contribute a portion of their

monthly salary through payroll deductions. The annual amount an

employee may contribute is limited, and contributions are not

includable in an employee's gross income in the year earned, but

is deferred until paid out or made available to the employee. 

Sec. 457(a). We discussed the distinctions between section

401(a) qualified plans and section 457 plans in Rheal v.

Commissioner, T.C. Memo. 1989-525:

Qualified plans are required to comply with numerous

eligibility standards set forth in section 401(a). These

include nondiscrimination standards and minimum

participation, funding, and vesting standards. Sections

401(a)(3), (4), (7); 411 and 412. Section 457 plans,

however, are not subject to these requirements in general

and are, therefore, referred to as a type of nonqualified

plan. The litany of distinctions between a section 457 plan

and qualified plans is too extensive to warrant exhaustive

discussion here. One significant distinction noted is that

a qualified plan requires employees' benefits to be held in

an employees' trust and in all events an employee's right to

his accrued benefit derived from his own contributions must

be nonforfeitable. Sections 401(a)(7) and 411(a). By

contrast, a section 457 plan is not required to utilize an

employee's trust and by definition is prohibited from

establishing an employee's trust which provides for nonforfeitable benefits. A section 457 plan, therefore, does

not constitute a qualified plan because it necessarily

violates qualified plan requirements. [Fn. ref. omitted.]

In light of the foregoing, petitioner's contention that PERS

is a deferred compensation plan within the meaning of section 457

is without merit. The PERS member handbook states that PERS is a

qualified pension plan and notes that tax provisions exclusive to

distribution from qualified plans and trusts may be applicable to

distributions from PERS, including an early withdrawal penalty
7

4 See Rheal v. Commissioner, T.C. Memo. 1989-525 (5-year

averaging provision not available for distributions from deferred

compensation plans).

(section 72(t)), 5-year averaging (section 402(e)), and rollovers

(section 402(a)(5)).4 In addition, PERS expressly confines its

terms and provisions to the limitations established by section

415 of the Internal Revenue Code which prescribes limitations on

benefits and contributions under qualified plans, not deferred

compensation plans. Sec. 145.01, Ohio Rev. Code (Baldwin 1996). 

Finally, the State of Ohio maintains an eligible deferred

compensation plan in accordance with the requirements, and

subject to the limitations of section 457. The deferred

compensation plan is found in section 145.73 of the Ohio Revised

Code, and is separate and distinct from PERS. Therefore, we

conclude that PERS is not an eligible deferred compensation plan

within the meaning of section 457.

Petitioner further argues that participation in PERS should

not preclude a deduction of his IRA contribution in that PERS is

a substitute for Social Security in Ohio, and taxpayers that have

amounts withheld from their wages for Social Security are not

precluded from deducting IRA contributions. However, the Form W2 that petitioner received from the Morrow County Prosecuting

Attorney for 1990 reflects that $22.85 was withheld from his

wages as Social Security tax. As such, we find that petitioner's

argument is without merit.
8

5 In Eanes v. Commissioner, 85 T.C. 168 (1985), we rejected

any distinction based upon the absence of potential for double

tax benefits, the crux of the reversal of our decision by the

Seventh Circuit Court of Appeals in Foulkes v. Commissioner, 638

F.2d 1105 (7th Cir. 1981)(construing a prior version of sec.

219), revg. T.C. Memo. 1978-498. Eanes v. Commissioner, supra at

171; see also Johnson v. Commissioner, 661 F.2d 53 (5th Cir.

1981), affg. 74 T.C. 1057, 1060 (1980). 

Petitioner finally contends that because he was an

involuntary member of PERS, was only employed for 9 weeks during

1990, only contributed $133.88 in that time, and forfeited all

rights under PERS when he resigned effective February 1, 1991, it

is inequitable to disallow his IRA deduction. Under section

1.219-2(e) of the Income Tax Regulations, "If an employee makes a

voluntary or mandatory contribution to a [defined benefit] plan *

* * such employee is an active participant". The fact that

contributions made by petitioner to PERS were mandatory under

State law is irrelevant.

Moreover, a person can be an active participant even though

he had only forfeitable rights to plan benefits and those rights

were, in fact, forfeited prior to becoming vested. Eanes v.

Commissioner, 85 T.C. 168, 170 (1985) (citing Hildebrand v.

Commissioner, 683 F.2d 57, 58 (3d Cir. 1982), affg. T.C. Memo.

1980-532)); Wartes v. Commissioner, T.C. Memo. 1993-84.5 Eanes

involved a taxpayer who forfeited all rights under an employer's

retirement plan when he left after only 3 months. Despite the

short time the taxpayer worked, we held that he was an active

participant in his employer's plan and was not entitled to a
9

deduction under section 219. We stated: "While the result to

petitioner seems harsh, we cannot ignore the plain language of

the statute and, in effect, rewrite this statute to achieve what

would appear to be an equitable result." Eanes v. Commissioner,

supra at 171 (citing Hildebrand v. Commissioner, supra at 59). 

We apply this reasoning to the facts of the instant case.

Based on the foregoing, we conclude that PERS is a qualified

plan established by the State of Ohio and that petitioner was an

"active participant" in PERS during 1990. Accordingly, because

their modified AGI for 1990 exceeded $50,000, petitioners are not

entitled to a deduction of their IRA contributions. Sec.

219(g)(1) and (2). Respondent is sustained on this issue.

Decision will be entered

for respondent.