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Steelerfan

VEBA for Retiree Medical

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I have an employer considering using a VEBA to fund post retirement medical benefits, which are currently being paid on an as you go basis by the ER, with FAS 106 liabilities being booked. All covered individuals are already retired, ie, no active employees are eligible for retiree medical. Employer already has a VEBA set up for other welfare benefits, such as LTD, so adding this benefit would not be a major problem or hassle--my questions relate to whether or not using the VEBA would be the best solution.

Questions:

1. Under 419A, if the employer funds the VEBA with cash equal to present value of benefits (being that the remaining working lives of all the retirees is "0"), would income accumulation on the assets in the reserve be subject to UBIT?

2. If so, does funding the VEBA with life or health insurance solve that problem?

3. Is a VEBA really necessary, or would a taxable welfare benefit trust or full insurance essentially provide the same result as a VEBA.

Anyone have any insight--the goal is to reduce the FAS 106 liability and obtain maximum tax benefits?

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steelerfan:

The answer to number one is no.

The amount can be deducted in the year the reserve is created (Wells Fargo v. Comm., 120 TC 69 (2003).

If insurance is purchased, as opposed to self-funding, it appears that premiums are not deductible.

Letter Ruling 200404055.

Don Levit

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1. Yes, unless the group for which benefits were provided was a collective bargaining group.

2. Yes. Life insurance permits tax-free inside buildup and health insurance would use up the premiums without generating income. Favorable experience is rewarded with better rates in a subsequent year.

3. A VEBA gives you no real advantage since the tax-exempt nature of a VEBA does not apply to medical accumulations.

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vebaguru:

How can you have UBIT if there are no more years in which to accumulate income, and the assumptions are within reasonable parameters?

Why do you think premiums were not deducted in the Letter Ruling?

A VEBA does apply to medical accumulations, if individual accounts are set up.

Don Levit

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How can you have UBIT if there are no more years in which to accumulate income, and the assumptions are within reasonable parameters?

See IRC 512(a)(3)(E) et seq.

Why do you think premiums were not deducted in the Letter Ruling?

Premiums are only deductible in the year in which paid, per section 419.

A VEBA does apply to medical accumulations, if individual accounts are set up.

This doesn't mean anything.

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vebaguru:

IRC 512 (a)(3)(E) does not address this issue.

Could you put your opinion in words, and provide the proper citation?

Individual accounts to help pay medical expenses means a lot.

If these individual accounts are cash values of life insurance policies, it means that the accumulations are disallowed.

Don Levit

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Don

Maybe the IRS can explain 512(a)(3)(E) better:

http://www.irs.ustreas.gov/irm/part7/ch12s05.html

You might also want to look at Treas Regs 1.512(a)-5T which shuld still be valid, but even if not, it gives an explanation and some clarification of the issues.

*****************

Also, I get the impression that I do not understand what you mean by "individual accounts" and how they work as related to the application of the IRC and Treas Regs. To me, in the context of this discussion, "individual accounts" are record keeping facilitators and have no connection to UBTI, qualified asset accounts, asset accumulation, or deductibility etc. What do you mean?

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George:

Please provide specific wording from the text you want to look at.

I read 512(a)(3)(E), and do not see where UBIT would apply.

Individual accounts in a VEBA are savings accounts dedicated to various benefits, such as medical expenses.

They are separate accounts which can be funded by employees.

They are like HSAs, without the mandatory high deductible health plan.

Don Levit

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Don-thanks for the ltr Rul.

Vebaguru-thanks that's what I suspected, but wanted some verification as these statutes are almost incomprehensible to me--I've done lots of qualified plan work in the past so you'd think I'd be used to it.

There's one other potential problem I see with this scenario. The TRA '84 conference reports indicate that a retiree health plan that exclusively covers only retirees cannot get the deduction for funding a reserve for post retirement medical under code sec 419 and 419A because such a plan is really deferred compensation and deductions are covered by sec 404.

A remaining question I have is whether you're ok if the plan at one time covered active employees. In other words, are you alright if everyone covered by the plan is now retired and no other active employees are covered if the retirees had coverage when they were employed. Or does this portion of the legislative history mean that when the last covered employee retires, you cannot accelerate the deduction and now must start treating the plan as deferred comp?

One other comment on deducting the insurance premiums. I thought the idea was to deduct the contribution to the VEBA and have the VEBA pay the premiums, so who cares about deducting the premiums?

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Steelerfan:

According to PLR 9834037 it states, "The Committee report for DEFRA (1984) states no deduction for advance funding is to be allowed with regard to a plan which provides medical or life insurance benefits exclusively for retirees, because such a plan would be considered a plan of deferred compensation rather than a welfare benefit plan. Of course, if a plan maintained for retirees is merely a continuation of a plan maintained currently or in the past for active employees, then the retiree plan would not be considered a plan of deferred compensation because medical benefits would have been provided without the necessity of retirement or other separation from service."

Don Levit

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Of course the Committee Reports are referring to an immediate deduction. Deferred compensation is deductible as compensation when the benefits are not subject to a risk of forfeiture in any event.

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Of course the Committee Reports are referring to an immediate deduction. Deferred compensation is deductible as compensation when the benefits are not subject to a risk of forfeiture in any event.

In the context of retiree health, the benefits typically are not subject to forfeiture or the employer would likely have ceased coverage (most employers I know of anyway). In this context, my interpretation is that it would flip you back to rule that benefits are deductible when paid or made available (the same as 404 timing rule), which is the time that they would be included in the employees gross income if they were not excludible under 104 or 105.

I thought that statement in the committee reports was retarded. Without explanation they said if a plan only covers retirees it's deferred compensation. Who would do that anyway, and it makes no sense as a blanket statement? It created (in my feeble mind) the question of what happens when the last person covered retires and then everone covered is a retiree.

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Retiree medical benefits are subject to forfeiture in the event that no post-retirement medical treatments are rendered. They are an unpredictible contingent event and therefore not vested until the medical expense is incurred. At that point they are taxable unless there is a specific exemption (which there is for 213(d) medical expenses).

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vebaguru:

I agree with you on the forfeitability of benefits.

We were discussing before about an individual savings account dedicated to medical benefits.

This account is subject to forfeiture if the employee dies before using up the benefits.

If no eligible dependents remain, the balance is forfeited to the VEBA.

However, if the beneficiaries can also collect the balance as a death benefit, the funds are not subject to forfeiture, and thus, ineligible as a dual medical-death benefit.

Agree or disagree?

Don Levit

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(regardless of vebas issues) many employers are locked into continuing post retirement medical because the plans themselves were found to have created vested benefits under ERISA. Absent bankruptcy, there is no way out I know of if benefits are found to be vested.

Other than that, I agree they are generally forfeitable.

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Despite state courts holding to the contrary. the only ERISA vested rights created for welfare benefit plans are those benefits that are in pay status (ie, claims already incurred). It is possible (but generally not politically expedient) to terminate promised retiree medical benefits, even for retirees. And it has been done many times.

Those benefits may be "vested" under state contract or employment law concepts, but will not be for purposes of ERISA.

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vebaguru:

You are correct that employers can, generally, change, modify, or terminate benefits.

However, if the plan explicitly vests medical benefits, to terminate those benefits would violate the plan.

Are you suggesting that regardless of the wording in the plan, that employers can even modify a vested medical benefit?

Can you cite a federal court case in which this was decided?

Don Levit

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Read my statement: If a plan explicitly vests medical benefits, it still does not become an ERISA provision. It would be a matter of state law (either contract or labor) that would not be pre-empted by ERISA.

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vebaguru:

Can you cite a federal court case in which vested retiree medical benefits were terminated by an employer who was not in bankruptcy?

Don Levit

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Here is one of many articles which names some companies who have terminated or changed retiree health benefits. You can find the court cases at your leisure. I do not know why you would think that they all have to be Federal cases, many are not, but here it is, see what you find. If you need more names, Google works very well.

http://www.aarp.org/bulletin/yourmoney/broken_promises.html

http://protectseniors.org/Lost-retiree-Healthcare_news.htm

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George:

We would have to analyze the plans to see if benefits could legally be changed, as well as the employee contributions.

Apparently, the employers cited could legally, unilaterally make the changes to retiree health benefits.

I asked for a federal court case, for I am curious if an employer who could not legally make these type of changes, was given an okay by a federal court.

Don Levit

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Don

You are once again being confusing. You wrote :

"I am curious if an employer who could not legally make these type of changes, was given an okay by a federal court."

Why would a court okay an illegal activity? Have you ever seen that happen?

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George:

You are right.

The question was incorrectly stated.

Do you know of an option outside bankruptcy, that an employer could unilaterally change retiree benefits that have vested?

Don Levit

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Yes. It is called changing your mind.

Read the articles and look up more detailed articles on each mentioned case and you will see that almost all did not involve bankruptcy. The plans allowed for changes and the change was to either do something that would cause the retirees to drop coverage because of affordability, accessibility or otherwise, or just eliminate the coverage.

Also look up more articles for more cases such as Visteon. There are dozens. I think Hewitt did a survey and reported the large numbers. I think this was mentioned in the AARP article.

See also the AARP action against EEOC for another aspect.

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