## Facts

- KTA-Tator, Inc. (KTA) was a closely held corporation whose president, Kenneth Tator, and his wife owned all corporate stock.
- The Tators undertook two construction projects to expand KTA’s headquarters and build a new office building; the Tators (not KTA) owned the real estate and planned to lease the finished properties to KTA.
- KTA’s board authorized advancing corporate funds to the Tators for construction-related expenses.
- During construction, KTA made more than 100 advances to the Tators, each paid by separate corporate checks, used to pay contractors and other project costs.
- When the advances were made, there were no written loan agreements, no written repayment terms, and no stated interest provisions.
- After construction was completed, the parties adopted repayment schedules for each project calling for monthly payments over 20 years at 8% interest.
- KTA did not report interest income on its 1992 and 1993 corporate returns relating to the advances.
- The IRS issued a notice of deficiency for 1992 and 1993, asserting KTA had unreported imputed interest income under I.R.C. § 7872 on shareholder advances.

## Issues

1. Whether KTA’s advances to its controlling shareholders were bona fide loans with adequate stated interest or “below-market loans” subject to I.R.C. § 7872.
2. Whether, if § 7872 applied, KTA was required to recognize imputed interest income for 1992 and 1993.

## Decision

- The Tax Court held for the Commissioner.
- The advances were treated as below-market corporate-shareholder loans within the scope of I.R.C. § 7872.
- The later-adopted 20-year, 8% repayment schedules did not retroactively supply adequate stated interest for the years when the advances were made.
- KTA was required to include imputed interest income attributable to the shareholder advances for 1992 and 1993.
- The Court sustained the asserted deficiencies.

## Legal Principles

- I.R.C. § 7872 applies to below-market loans between a corporation and its shareholders and can impute interest based on the applicable federal rate when stated interest is insufficient or absent.
- A transaction’s loan terms are evaluated based on contemporaneous documentation and arm’s-length indicia; post hoc formalization does not cure the absence of terms at the time of advances for § 7872 purposes.
- Where repeated advances are made to finance long-term shareholder-owned projects and later consolidated into long-term repayment arrangements, the advances may be treated as term loans for § 7872 analysis.
- For a corporate lender, § 7872 can result in deemed interest income to the corporation (and may also involve a deemed transfer to the shareholder equal to foregone interest).

## Conclusion

The Tax Court treated KTA’s undocumented shareholder construction advances as below-market loans under I.R.C. § 7872 and sustained deficiencies because KTA failed to report the resulting imputed interest income for 1992 and 1993.


KTA-Tator, Inc. v. Commissioner, 108 T.C. 100 (1997)