73 T.C. 700">*700 The Commissioner determined the following deficiencies in the petitioners' Federal income taxes:

The issues for decision are: (1) Whether distributions under an 73 T.C. 700">*701 employer-sponsored plan providing for payment of the educational expenses of children of certain key employees represent income received by such employees as dividends or compensation; and (2) if such distributions represent compensation, whether the deductibility of the employer contributions under the plan is governed by section 162(a) of the Internal Revenue Code of 1954² or by section 404(a)(5). The resolution of the latter issue will determine whether such contributions are deductible when made or when the distributions are received by the children.

1980 U.S. Tax Ct. LEXIS 202">*206 FINDINGS OF FACT

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

The petitioners, Charles A. Norris and Robert Lavender and Sharon Lavender (husband and wife), all maintained their legal residences in Chicago, Ill., at the time they filed their petitions in this case. The petitioners, Robert Krewer and Dolores Krewer, husband and wife, maintained their legal residence in Mt.Prospect, Ill., at the time they filed their petition in this case. The petitioners, Robert L. Flink and Doris Flink, husband and wife, maintained their legal residence in Lake Forest, Ill., at the time they filed their petition in this case. The petitioner, Grant-Jacoby, Inc. (Grant or the company), is a Delaware corporation which had its principal place of business in Chicago, Ill., at the time it filed its petition in this case. Mr. Norris filed his individual Federal income tax returns for 1973 and 1974 with the Internal Revenue Service Center, Kansas City, Mo. Mr. and Mrs. Krewer and Mr. and Mrs. Flink filed their joint Federal income tax returns for 1973 and 1974 with the Internal Revenue Service Center, Kansas City, Mo. Mr. and Mrs. Lavender filed their joint Federal income tax1980 U.S. Tax Ct. LEXIS 202">*207 return for 1974 with the Internal Revenue Service Center, Kansas City, Mo. Grant used a taxable year ending August 31, and we shall identify its taxable year by the calendar year in which it ends. It filed its corporate Federal income tax returns for 1973 and 1974 with the Internal Revenue Service Center, Kansas City, Mo. Messrs. Norris, Krewer, 73 T.C. 700">*702 Lavender, and Flink will sometimes be referred to as the petitioners.

Throughout the years in issue and up to the time of the trial in this case, Grant was engaged in the advertising business. It emphasized business and corporate communications in the field of annual reporting. The company employed about 50 or 60 people during the years in issue.

The petitioners were all executive employees of Grant. During 1973 and 1974, Grant had six officers, who were:

The members of the board of directors of Grant during such years were Robert L. Flink, Robert Krewer, Charles A. Norris, Bruce I. Carlson, Robert Lavender, and Walter O. Grant. 1980 U.S. Tax Ct. LEXIS 202">*208 The shareholders of Grant during such years and the number and percentage of shares owned by each of them were as follows:

As a means of remaining competitive in the advertising business, and of attracting new talent to the company and maintaining its top creative employees, the board of directors of Grant decided to adopt an educational benefit plan for certain employees. The officers of the company had been considering various ways of maintaining the loyalty of its important employees, and its public accounting firm recommended the adoption of such a plan as a means of helping to tie the most valuable employees to the company. On August 27, 1973, Grant entered into an agreement with Educo, Inc. (Educo), whereby Educo would administer an "Educo plan" (the plan) which would 73 T.C. 700">*703 1980 U.S. Tax Ct. LEXIS 202">*209 provide funds for the college education of the children of certain Grant employees, and the board of directors approved the adoption of the plan on August 30, 1973.

Educo, a Delaware corporation organized in 1967, has been engaged since its inception in designing, implementing, and administering college educational benefit plans for corporate employers. In December 1969, Educo entered into a trust agreement with the Continental Illinois National Bank & Trust Co. of Chicago (the trustee) with respect to the funding of Educo plans. Under the terms of the plan adopted by Grant, the company agreed to make payments to the trustee of the plan in accordance with the amounts determined by Grant and Educo. The trustee would hold and disburse the funds pursuant to the plan, and the contributions made by Grant were not refundable to it under any circumstances.

The board of directors of Grant designated the employees who were eligible to have their children participate in the plan. Such employees were selected on the basis of their value to the company as determined by the board, and an employee was not included if his services, in the opinion of the board, could be replaced. Those employees1980 U.S. Tax Ct. LEXIS 202">*210 who were not eligible were not informed of the plan. There was no limit on the number of children of an eligible employee who could participate in the plan. However, if an eligible employee terminated his employment with Grant by reason other than retirement, death, or disability, then the children of such employee could no longer receive benefits under the plan. The only employees of Grant who were eligible under the plan from the time the company adopted the plan in 1973 through August of 1977 were: Bruce I. Carlson, Robert L. Flink, Robert Krewer, Robert Lavender, and Charles A. Norris.

In order to receive benefits under Grant's educational plan, a child of an eligible employee had to be accepted by an accredited school and had to maintain a level of performance sufficient to stay in school. The child did not have to pursue any particular course of study, nor was a child required to show financial need in order to be selected; a child had selected to participate in the plan solely because of the father's employment with Grant. The expenses which were covered under the plan included those for tuition, books, meals, lodging, medical care, and any other expense which Grant deemed1980 U.S. Tax Ct. LEXIS 202">*211 necessary, reasonable, and related 73 T.C. 700">*704 to the education of the child. To receive reimbursement for educational expenses under the plan, the child submitted a request for payment directly to Educo, and Educo requested the trustee to issue a check either to the child or to the educational institution attended by the child. A child of an eligible employee was required to use some of the educational funds available to him or her before reaching the age of 21 or within 4 years after completing the 12th grade of school. The participation of any child under the plan terminated after he or she attained the age of 30 years.

Under the terms of its agreement with Educo, Grant's plan would terminate if the company failed to make payments to the trustee, if there were no longer any child or children to be covered under the plan, or if Grant elected to terminate the agreement upon 30 days written notice to Educo. Any amounts remaining in the trust at the termination of the plan were to be applied to any unpaid educational expenses incurred before such termination, or were to be distributed on a pro rata basis to the children enrolled in the plan at that time, or to a child or children1980 U.S. Tax Ct. LEXIS 202">*212 selected by Grant, or to any qualifying school, hospital, or charity.

The board of directors of Grant established the maximum benefits payable to a child and the contributions to be made by Grant under the plan. The original agreement executed by Grant provided for total benefits of $ 8,000 per child, with a maximum of $ 2,000 distributable per year. On July 12, 1974, Grant executed a new enrollment schedule which increased the total benefits per child to $ 12,000, with a maximum of $ 3,000 distributable per year. ³ The company increased its contributions to the trust to cover the increased benefits under the plan. Both the original and subsequent enrollment schedules executed by Grant provided that it would make payments of specified amounts to the trustee from 1973 through 1988. The new enrollment schedule provided for payments by Grant in the following amounts: 73 T.C. 700">*705

Grant contributed $ 11,704 to the plan in 1973 and $ 17,796 in 1974.

1980 U.S. Tax Ct. LEXIS 202">*213 The children of the petitioners who participated in the Grant educational plan received the following amounts during the years in issue:

The petitioners did not include the amounts received by their children under the plan as income on their Federal income tax returns during the years in issue. With only two exceptions, each child was over the age of 18 at the time of receiving the first payment under the plan. ⁴ However, each of the petitioners claimed each child who received such payments as a dependent during the years in issue.

Grant has used the plan as part of its recruitment program to obtain talented employees. 1980 U.S. Tax Ct. LEXIS 202">*214 In 1977, the company informed Richard W. Scott, whom it was interested in hiring, that his children could participate in the plan if he worked for Grant. Mr. Scott subsequently went to work for the company, and the participation of his children in its educational plan was part of his reason for doing so. Mr. Scott was not a shareholder of Grant as of August 31, 1977, even though, later in that year, his son received disbursements under the plan. Moreover, as of the time 73 T.C. 700">*706 of trial, the top employees at Grant, who were eligible under the plan since its adoption, have remained with the company. However, none of the petitioners could have bargained with the company to receive a larger salary in place of his eligibility in the plan, and none of the petitioners received a decrease in salary because of such eligibility. The salaries of the executive employees of Grant, including the petitioners, are established by the president and the board of directors of the company. Grant has never declared a dividend since its incorporation.

Grant had taxable income of $ 122,702 in 1973 and $ 151,653 in 1974. For its 10 years ending in 1977, Grant's books and records show that it had1980 U.S. Tax Ct. LEXIS 202">*215 net income (or loss) and retained earnings at the end of the year as follows:

On its corporate Federal income tax returns for the years in issue, Grant deducted as business expenses the amounts it contributed to the trustee under its educational plan. In his statutory notice of deficiency to Grant, the Commissioner disallowed such deductions. In his notices of deficiencies to the petitioners, the Commissioner determined that the amounts received by their children under the plan constituted unreported dividends from Grant. In the alternative, he determined that such amounts were unreported compensation from the company.

OPINION

First, we shall consider whether the petitioners are taxable on the distributions made to their children under Grant's Educo plan. The Commissioner contends that such distributions are taxable to the petitioners either as dividends or as compensation. The petitioners1980 U.S. Tax Ct. LEXIS 202">*216 maintain that such distributions do not represent 73 T.C. 700">*707 income received by them in any event and that such distributions are neither dividends nor additional compensation.

Armantrout v. Commissioner, 67 T.C. 996">67 T.C. 996 (1977), affd. per curiam 570 F.2d 210">570 F.2d 210 (7th Cir. 1978), involved a similar Educo plan, and we held that the distributions under such plan constituted additional compensation received by the employees who were the fathers of the children receiving the distributions. Our holding was based on the findings that the right to receive the benefits was linked to the continued employment of the father, that the eligibility of an employee to have the benefits paid to his children depended upon the value of the services performed by the employee, that the plan was adopted to provide greater motivation for key employees, and that the availability of the plan was used to recruit desired employees. In part, we said:

It is fundamental that anticipatory arrangements designed to deflect income away from the proper taxpayer will not be given effect to avoid tax liability. United States v. Basye, 410 U.S. 441">410 U.S. 441 (1973);1980 U.S. Tax Ct. LEXIS 202">*217 Lucas v. Earl, 281 U.S. 111">281 U.S. 111 (1930). In substance, by commencing or continuing to be employed by Hamlin, petitioners have allowed a portion of their earnings to be paid to their children. Petitioners have acquiesced in an arrangement designed, at least in part, to shift the incidence of tax liability to third parties unconnected in any meaningful way with their performance of services. [67 T.C. 996">67 T.C. 1005.]

The petitioners contend that this case is distinguishable from Armantrout because in that case, the Court found that the taxpayers had entered into "anticipatory arrangements" and that the plan was clearly a substitute for salary. They also contend that, unlike the record in Armantrout, the record in this case shows that the petitioners could not have bargained with Grant for the inclusion or exclusion of their children from the plan or for a larger salary or bonus in lieu of their children's participation in the plan. We are not convinced that there is any practical difference between the educational plan in Armantrout and the plan presented in this case.

As in Armantrout, it is clear that the opportunity1980 U.S. Tax Ct. LEXIS 202">*218 to have their children participate in the Educo plan of Grant was a valuable incident or reward for services rendered to Grant. Only those employees considered most valuable were eligible under the plan, and a child's participation in the benefits under the plan depended upon the father's continued employment by Grant. The existence of the plan was used to recruit and retain 73 T.C. 700">*708 valuable employees, the benefits were substantial, and they served to motivate employees to become valuable to Grant. Thus, an eligible employee who began or continued to work for Grant with the knowledge that his children would receive benefits under the plan was in effect making an "anticipatory arrangement."

It is true that in Armantrout, the Court found that the plan was a substitute for additional compensation and pointed out that there had been no showing that the employer and the employees could not have bargained for compensation in some different form. Yet, as we read the Armantrout opinion, those considerations were not determinative of the Court's final conclusion. A reading of the Court's entire opinion makes it clear that it would have reached the same conclusion irrespective1980 U.S. Tax Ct. LEXIS 202">*219 of the presence of those facts.

Similarly, the fact that the petitioners in this case could not bargain for eligibility in the Grant plan does not warrant a conclusion different from that in Armantrout. The opportunity to have the educational expenses of a child paid under the plan was a privilege which the petitioners received by reason of their employment by Grant, and as such, it represents additional compensation ( Commissioner v. LoBue, 351 U.S. 243">351 U.S. 243 (1956)); it merely represents the payment of compensation in a different "form" ( Commissioner v. Smith, 324 U.S. 177">324 U.S. 177 (1945)). The existence of the plan was a part of the total package of compensation offered by Grant to recruit and retain certain key employees; had Grant not offered such plan, it would have been required to provide additional compensation in some other form to remain competitive as an employer. Many employees have no opportunity to bargain for compensation plans designed to their particular wishes: Pension or other benefits may be provided for employees even though a particular employee may not desire the particular benefit; nevertheless, he is taxable1980 U.S. Tax Ct. LEXIS 202">*220 on the benefits that he receives as a result of his employment. United States v. Basye, 410 U.S. 441">410 U.S. 441 (1973).

Moreover, all four of the petitioners were officers of the company and constituted four of the six members of its board of directors during the years in issue. As members of the board, the petitioners not only effectively controlled their own salaries, but also designated the employees who were eligible under the plan and the amount payable to each participating child. Hence, the 73 T.C. 700">*709 petitioners were in a position to allow a portion of their compensation to be paid to their children. It is irrelevant that the petitioners could not have bargained with the company about their exclusion from the plan and the receipt of a larger salary. The fact remains that they controlled their membership in the plan and the benefits paid to their children.

The petitioners also argue that they did not receive any income as a result of the distributions under the plan to their children because the petitioners never had any right to receive such distributions themselves and because the payment of the educational expenses of their children did not provide1980 U.S. Tax Ct. LEXIS 202">*221 an economic or financial benefit to them. They point to the facts that the petitioners never had a right to receive the educational benefits and that since under Illinois law, they were under no obligation to provide support for their children beyond the age of 18, the payment of the educational expenses of the children did not relieve the petitioners of any parental or other obligation. We reject such contentions since the payment of the educational expenses of the children provided a clear and substantial benefit for the petitioners resulting from their continued employment by Grant. Whether or not the petitioners had a legal obligation to furnish their children with a college education, it is clear that they felt a parental obligation to do so. Indeed, Mr. Krewer testified that one of the reasons why the company adopted the plan was to relieve its most valuable employees of the concern of providing a college education for their children. Also, two of the petitioners who testified, Messrs. Krewer and Flink, stated that they paid their children's college expenses before the adoption of the educational plan by Grant, and that they "possibly" or "probably" would have continued1980 U.S. Tax Ct. LEXIS 202">*222 to do so if the company had not adopted the plan. Moreover, all the petitioners claimed as dependents their children who received disbursements under the plan. To conclude that the petitioners did not receive a taxable benefit by reason of the plan because there was no legal obligation for them to support their children would exalt form over substance and would ignore the realities of parental relationships in our times.

We also do not accept the petitioners' contention that the Commissioner's determinations in this case deny them due process of law since the determinations seek to tax job-related "benefits" or "enjoyments" when the Commissioner does not 73 T.C. 700">*710 seek to tax all taxpayers on similar job-related benefits. For the reasons already given, we are convinced that the benefits under the Educo plan constituted additional compensation received by the petitioners in this case. Whether the Congress and the Commissioner have properly concluded that some other types of job-related benefits should not be subjected to taxation involves questions not now before us. We lack sufficient evidence concerning the other benefits to which the petitioners refer to judge whether those1980 U.S. Tax Ct. LEXIS 202">*223 other benefits are comparable and whether there are adequate reasons in fact or in policy for treating them differently under the tax laws. In any event, whether the legislative or administrative treatment of the other benefits is proper does not affect the tax treatment of the benefits received by the petitioners. See, e.g., Davis v. Commissioner, 65 T.C. 1014">65 T.C. 1014, 65 T.C. 1014">1022-1024 (1976). Our conclusion in this case is based solely on the record before us.

In Armantrout, there is no indication that the Commissioner took the position that the benefits under the Educo plan represented dividends received by the parents of children. Here, the Commissioner has adopted that position. Yet, we are satisfied that the plan was adopted for business reasons, namely, to improve the morale of the key employees, to retain them, and to recruit other key employees. Accordingly, we hold that the benefits under the Educo plan adopted by Grant do not represent dividends received by the petitioners but that such benefits do constitute additional compensation received by them. As we held in Armantrout, section 83 is applicable to such compensation, and since the petitioners1980 U.S. Tax Ct. LEXIS 202">*224 did not have vested rights in the contributions made by Grant to the trust under the plan, they are taxable when the funds are distributed to or on behalf of their children.

Next, we must decide what provision of the Internal Revenue Code governs the deductibility of Grant's contributions under the Educo plan. The regulations under section 83 take the position that such section is applicable to the benefits received under an educational benefit plan similar to an Educo plan. Sec. 1.83-3(c)(4), example (2), Income Tax Regs. Section 83(h) relates to the deductibility of compensation subject to such section, but section 1.83-6(a)(3), Income Tax Regs., provides in part:

In the case of a transfer to an employee benefit plan described in sec. 1.162-10(a) or a transfer to an employees' trust or annuity plan described in section 73 T.C. 700">*711 404(a)(5) and the regulations thereunder, section 83(h) and this section do not apply.

Neither party has challenged the validity of such provision of the regulations; nor has either taken the position that the deductibility of Grant's contributions is governed by section 83(h). They both treat the issue as one of deciding whether section 404(a)(5)1980 U.S. Tax Ct. LEXIS 202">*225 or section 162 is applicable, and for purposes of deciding this case, we accept that presentation of the issue and express no opinion about the possible application of section 83(h) to educational benefit plans.

Section 404(a) provides in part:

(a) General Rule. -- If contributions are paid by an employer to or under a stock bonus, pension, profit-sharing, or annuity plan, or if compensation is paid or accrued on account of any employee under a plan deferring the receipt of such compensation, such contributions or compensation shall not be deductible under section 162 (relating to trade or business expenses) or section 212 (relating to expenses for the production of income); but, if they satisfy the conditions of either of such sections, they shall be deductible under this section, subject, however, to the following limitations as to the amounts deductible in any year:

* * * *

(5) Other plans. -- If the plan is not one included in paragraph (1), (2), or (3), in the taxable year in which an amount attributable to the contribution is includible in the gross income of employees participating in the plan, but, in the case of a plan in which more than one employee participates only1980 U.S. Tax Ct. LEXIS 202">*226 if separate accounts are maintained for each employee.