Abusive Insurance and Retirement Plans: Single-Employer Section 419 Welfare Benefit Plans Are the Latest Incarnation in Insurance Deductions the IRS Deems Abusive

EXECUTIVE SUMMARY * Some of the listed transactions CPA tax practitioners are most likely to encounter are employee benefit insurance plans that the IRS has deemed abusive. Many of these plans have been sold by promoters in conjunction with life insurance companies, * As long ago as 1984, with the addition of IRC [section][section] 419 and 419A, Congress and the IRS took aim at unduly accelerated deductions and other perceived abuses. More recently, with guidance and a ruling issued in fall 2007, the Service declared as abusive certain trust arrangements involving cash-value life insurance and providing post-retirement medical and life insurance benefits. * The new likely than not penalty standard for tax preparers under IRC [section] 6694 raises the stakes for CPAs whose clients may have maintained or participated in such a plan. Failure to disclose a listed transaction carries particularly severe potential penalties. ********** [ILLUSTRATION OMITTED] Many of the listed transactions that can get your clients into trouble with the IRS are exotic shelters that relatively few practitioners ever encounter. When was the last time you saw someone file a return as a Guamanian trust (Notice 200061)? On the other hand, a few listed transactions concern relatively common employee benefit plans the IRS has deemed tax-avoidance schemes or otherwise abusive. Perhaps some of the most likely to crop up, especially in small business returns, are arrangements purporting to allow deductibility of premiums paid for life insurance under a welfare benefit plan. Some of these abusive employee benefit plans are represented as satisfying section 419 of the Code, which sets limits on purposes and balances of asset accounts for such benefits, but purport to offer deductibility of contributions without any corresponding income. Others attempt to take advantage of exceptions to qualified asset account limits, such as sham union plans that try to exploit the exception for separate welfare benefit funds under collective-bargaining agreements provided by IRC [section] 419A(f)(5). Others try to take advantage of exceptions for plans serving 10 or more employers, once popular under section 419A(f)(6). More recently, one may encounter plans relying on section 419(e) and, perhaps, defined-benefit pension plans established pursuant to the former section 412(i) (still so-called, even though the subsection has since been redesignated section 412(e)(3)). See sidebar, Defined-Benefit 412(i) Plans Under Fire. PROMOTERS AND THEIR BEST-LAID PLANS Sections 419 and 419A were added to the Code by the Deficit Reduction Act of 1984 in an attempt to end employers' acceleration of deductions for plan contributions. But it wasn't long before plan promoters found an end run around the new Code sections. An industry developed in what came to be known as 10-or-more-employer plans. The promoters of these plans, in conjunction with life insurance companies who just wanted premiums on the books, would sell people on the idea of tax-deductible life insurance and other benefits, and especially large tax deductions. It was almost, How much can I deduct? with the reply, How much do you want to? Adverse court decisions (there were a few) and other law to the contrary were either glossed over or explained away, The IRS steadily added these abusive plans to its designations of listed transactions. With Revenue Ruling 90-105, it warned against deducting certain plan contributions attributable to compensation earned by plan participants after the end of the taxable year. Purported exceptions to limits of sections 419 and 419A claimed by 10-or-more-employer benefit funds were likewise proscribed in Notice 95-34. Both positions were designated listed transactions in 2000. At that point, where did all those promoters go? Evidence indicates many are now promoting plans purporting to comply with section 419(e). …