NJ Appeals Court Rules Against Deductibility of Employer Contributions to a Qualified Plan on Behalf of Partners
In Reck v. Director, Division of Taxation, the Superior Court of New Jersey, Appellate Division, recently reversed the decision of the New Jersey Tax Court which permitted a partner to deduct from New Jersey gross income employer contributions made on the partner's behalf to an Internal Revenue Code Section 401 qualified retirement plan. The Court ruled that such contributions were not deductible for New Jersey Gross (personal) Income Tax purposes because the contributions did not constitute deductible business expenses, and New Jersey allows a deduction only for Internal Revenue Code Section 401(k) contributions.
In reversing the Tax Court's decision, the Appellate Court noted that, in order for such contributions made on behalf of a partner to be deductible, they must represent costs or expenses incurred in the ordinary and regular course of the operation of the partnership's business. Citing the New Jersey Gross Income Tax regulations, the Court explained that employer contributions by a partnership to a qualified plan made on behalf of the partners are not a deductible business expense on the partnership return (in contrast to employer contributions made by the partnership on behalf of employees, which are deductible for federal income tax purposes and New Jersey Gross Income Tax purposes). Moreover, the Court noted that there is no provision in the New Jersey Gross Income Tax that permits a deduction for employer contributions on behalf of partners. Therefore, the Court held that it was reasonable for the Director of the New Jersey Division of Taxation to conclude that employer contributions to qualified plans made on behalf of partners constituted a portion of the partnership's profits otherwise distributable to the partners and not an ordinary business expense as provided in the Division's regulations. As a result, such amounts are included in a partner's gross income for New Jersey Gross Income Tax purposes.
Further, citing legislative history, the Court ruled that the New Jersey Legislature clearly indicated an intent to limit the deductibility of employer contributions by partnerships to qualified plans because the Legislature expressly authorized only the deduction of Internal Revenue Code Section 401(k) contributions knowing that such contributions are only one type of contribution permitted pursuant to qualified retirement plans.
As of the date of this UPDATE, the taxpayer has appealed this decision to the New Jersey Supreme Court. The New Jersey Supreme Court has not yet decided whether it will hear the case.