Richard Rocchio and his siblings inherited their mother’s half of the outstanding corporate stock in their New York S-Corporation. Their father was the other 50 percent shareholder. After several years, the father remarried, and bickering ensued. The father and his wife were using all of the corporation’s funds to support a life of luxury, not allowing the children to benefit from the success of the business.
In 2006, the children filed for judicial dissolution of the corporation under NY business corporate law. The father then made an election to purchase the children’s shares in 2007. They could not agree on the selling price of the shares, so the issue went before the courts. The father finally purchased the shares in August of 2009.
Richard received a K-1 for tax year 2007, but did not include the income on this individual tax return. He contended that since they had filed for judicial relief, and the father agreed to purchase their shares, he was no longer a shareholder for tax year 2007. He argued that he was not liable, since his interest was frozen under statute, and he never received the money for the income reported to him. The IRS and tax court disagreed.
Nothing in the NY statutes were specific on the cessation of ownership interest based on his filing. The NY supreme court held that a shareholder remains until payment is made for fair value of the shares. The courts ruled that an S-corp must report, and a shareholder must take into account, the shareholder’s pro rata share, whether or not it was distributed to them.