Get sued using a captive or 412(i) plan, The IRS fine is $200,000 for material advisors Options

[VEBAPLAN]

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Captive Insurance and Other Tax Reduction Strategies – The Good, Bad, and Ugly

By Lance Wallach May 14, 2008


Every accountant knows that increased cash flow and cost savings are critical for businesses in 2008. What is uncertain is the best path to recommend to garner these benefits.

Over the past decade business owners have been overwhelmed by a plethora of choices designed to reduce the cost of providing employee benefits while increasing their own retirement savings. The solutions ranged from traditional pension and profit sharing plans to more advanced strategies.

Some strategies, such as IRS section 419 and 412(i) plans, used life insurance as vehicles to bring about benefits. These code sections were created by the IRS to help build savings and benefits for employees and employers alike. Unfortunately, the high life insurance commissions (often 90% of the contribution, or more) fostered an environment that led to aggressive and noncompliant plans.

The result has been thousands of audits and an IRS task force seeking out tax shelter promotion. For unknowing clients, the tax consequences are enormous. For their accountant advisors, the liability may be equally extreme.

Recently, there has been an explosion in the marketing of a financial product called Captive Insurance. These so called “Captives” are typically small insurance companies designed to insure the risks of an individual business under IRS code section 831(b). When properly designed, a business can make tax-deductible premium payments to a related-party insurance company. Depending on circumstances, underwriting profits, if any, can be paid out to the owners as dividends, and profits from liquidation of the company may be taxed at capital gains.

While captives can be a great cost saving tool, they also are expensive to build and manage. Also, captives are allowed to garner tax benefits because they operate as real insurance companies. Advisors and business owners who misuse captives or market them as estate planning tools, asset protection vehicles, tax deferral or other benefits not related to the true business purpose of an insurance company face grave regulatory and tax consequences.

A recent concern is the integration of small captives with life insurance policies. Small captives under section 831(b) have no statutory authority to deduct life premiums. Also, if a small captive uses life insurance as an investment, the cash value of the life policy can be taxable at corporate rates, and then will be taxable again when distributed. The consequence of this double taxation is to devastate the efficacy of the life insurance and, it extends serious levels of liability to any accountant recommends the plan or even signs the tax return of the business that pays premiums to the captive.

The IRS is aware that several large insurance companies are promoting their life insurance policies as investments with small captives. The outcome looks eerily like that of the 419 and 412(i) plans mentioned above.

Remember, if something looks too good to be true, it usually is. There are safe and conservative ways to use captive insurance structures to lower costs and obtain benefits for businesses. And, some types of captive insurance products do have statutory protection for deducting life insurance premiums (although not 831(b) captives). Learning what works and is safe is the first step an accountant should take in helping his or her clients use these powerful, but highly technical insurance tools.



Lance Wallach speaks and writes extensively about VEBAs, retirement plans, and tax reduction strategies. He speaks at more than 70 conventions annually, writes for 50 publications, and was the National Society of Accountants Speaker of the Year. Contact him at 516.938.5007 or visit www.vebaplan.com.
The information provided herein is not intended as legal, accounting, financial or any other type of advice for any specific individual or other entity. You should contact an appropriate professional for any such advice.

National Society of Accountants

[Greg Y]

So what happens to the employer should they realize they were swindled into an uncompliant 412(i)? What type of negotiations with the IRS are possible prior to audit if any? Aside from getting a specialized attorney, how should the business owner proceed and what should he expect to have happen?

Also, so the agent that placed the 412(i) is subject to a $200,000 fine?

[GMK]

email lawallach@aol.com or call Lance Wallach 516 9385007 for answers to your questions.

The idea, Mr. Wallach, is to post the answers (if you actually know the answers) here on these boards, rather than using the boards for advertising (but then, you know that, don't you).

[VEBAPLAN]

I guess 928 readers of this post do not agree with you, and about 25 of them called me for more help. uh get it probably not. Oh and I do not charge for phone call help. get it probably not.

[ishi]

903 of those were for a humorous diversion ...

[vebaguru]

A direct answer to Greg's questions:
So what happens to the employer should they realize they were swindled into an uncompliant 412(i)?
Nothing, unless they are audited by IRS.

What type of negotiations with the IRS are possible prior to audit if any?
Short of Appeals Division, IRS is not currently negotiating on these cases. They have hired a bunch of new auditors and only partially trained them with the charge, "Go and disallow." They are not trained to negotiate or settle cases.

Aside from getting a specialized attorney, how should the business owner proceed and what should he expect to have happen?
He should: (1) Engage a tax litigator to represent the company. (2) Make sure that he has filed IRS form 8886 for participation in a listed transaction. If the plan is not a listed transaction, he can do a protective filing. (3) Expect IRS to disallow deductions. (4) Expect the IRS agent to be unable or unwilling to make a reasonable settlement. (5) Take his case to Appeals with the expectation that the Appellate Conferee (whose job it is to keep cases from going to court unnecessarily) will come up with a reasonable settlement. And, if not, he should (6) be prepared to go to tax court, or at least force IRS to decide if they really want to spend the resources to litigate the matter rather than drop it. And finally, (7) he should sue the SOB that got him into the plan plus every company with deep pockets associated with the transaction in any way.

Also, so the agent that placed the 412(i) is subject to a $200,000 fine?
Yes, either for promoting or for aiding and abetting the promotion of the transaction. However, the client doesn't want the agent to be fined because the client wants the agent to reimburse him (the client) for damages suffered rather than his paying the the IRS.

[VEBAPLAN]

I do not fully agree with Ron. Sam Susser is the best at this and has been very successful. He was with IRS for 37 years and is also a college prof. and a CPA EA and MBA. His phone number is 561 6490390. I am not sure if he is taking more cases at this time. He has a lot now, and also does a lot, and fixes a lot of protective filing.

[vebaguru]

Apparently your "not fully agree" comment is limited to the fact that I said to file form 8886 and you said to contact Sam Susser.

[VEBAPLAN]

Sam has been doing a great job with this stuff, and have been cheaper than the others. He also returns phone calls etc.

[VEBAPLAN]

Right on andy man

[vijendrasnv]

Hi,

What type of negotiations with the IRS are possible prior to audit.

Most of the users disagree with you.

Thanks.

[vebaguru]

What type of negotiations with the IRS are possible prior to audit.
The date, time and place of the audit, and those to be in attendance.