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Does IRS disallow deductions for ALL group term life ins premiums?


Guest Tax Atty
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Guest Tax Atty

Please tell me if I am nuts but only after you read the referenced revenue ruling carefully. In Rev Rul 2007-65 the IRS was aiming at abusive welfare benefit plans and VEBAs that provided only pre-retirement death benefits. In a nutshell it prohibited the deduction for contributions to WBPs and VEBAs that provide death benefits funded with life insurance. It was concerned that certain abusive plans cropped up that took excessive deductions in inappropriate ways. The IRS got to its holding by applying sec 264(a)(1) that says no deduction is allowable for premiums on a life insurance policy if the employer paying the premium is directly or indirectly a beneificiary.

On its face, the ruling says this holding, based on sec 264, applies in the case of cash value life insurance; it also says it does not matter if the policy is held directly or in an irrevocable trust. But here is the rub. Nothing in sec 264 limits the application of sec 264 to cash value insurance. In other words, if the IRS is right--that sec 264 applies under those facts--then it applies to ALL life insurance, including group term held in an irrevocable trust, like a VEBA or a sec 79 plan. It does not have to be held for pre-retirement death benefits either.

So if I am right no company in the country--no matter the purpose of the plan or how small or large a company--can deduct the cost of life insurance for employees if it holds the policies directly or in a trust. Am I right? Did the IRS overshoot its target? Or is this a non-issue since companies are not taking this deduction anyway.

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  • 2 weeks later...
Guest parrot87
Please tell me if I am nuts but only after you read the referenced revenue ruling carefully. In Rev Rul 2007-65 the IRS was aiming at abusive welfare benefit plans and VEBAs that provided only pre-retirement death benefits. In a nutshell it prohibited the deduction for contributions to WBPs and VEBAs that provide death benefits funded with life insurance. It was concerned that certain abusive plans cropped up that took excessive deductions in inappropriate ways. The IRS got to its holding by applying sec 264(a)(1) that says no deduction is allowable for premiums on a life insurance policy if the employer paying the premium is directly or indirectly a beneificiary.

On its face, the ruling says this holding, based on sec 264, applies in the case of cash value life insurance; it also says it does not matter if the policy is held directly or in an irrevocable trust. But here is the rub. Nothing in sec 264 limits the application of sec 264 to cash value insurance. In other words, if the IRS is right--that sec 264 applies under those facts--then it applies to ALL life insurance, including group term held in an irrevocable trust, like a VEBA or a sec 79 plan. It does not have to be held for pre-retirement death benefits either.

So if I am right no company in the country--no matter the purpose of the plan or how small or large a company--can deduct the cost of life insurance for employees if it holds the policies directly or in a trust. Am I right? Did the IRS overshoot its target? Or is this a non-issue since companies are not taking this deduction anyway.

not getting into it too much, but think of rev ruling 2007-65 as an addendum to sec 264(a)(1). In laymens terms: 264 says if your an employer, you can't buy life insurance for your employees and name yourself the beneficiary.

2007-65 was to close up the abusive tax shelter that a VEBA + 419 could produce.

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Guest parrot87

true, but hey, not getting into this too much...takes way too much time. Anyway, if your looking for another option other than the veba/419 vehicle, theres a 412(i) which may or may not work for you or your client.

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Guest Tax Atty
Please tell me if I am nuts but only after you read the referenced revenue ruling carefully. In Rev Rul 2007-65 the IRS was aiming at abusive welfare benefit plans and VEBAs that provided only pre-retirement death benefits. In a nutshell it prohibited the deduction for contributions to WBPs and VEBAs that provide death benefits funded with life insurance. It was concerned that certain abusive plans cropped up that took excessive deductions in inappropriate ways. The IRS got to its holding by applying sec 264(a)(1) that says no deduction is allowable for premiums on a life insurance policy if the employer paying the premium is directly or indirectly a beneificiary.

On its face, the ruling says this holding, based on sec 264, applies in the case of cash value life insurance; it also says it does not matter if the policy is held directly or in an irrevocable trust. But here is the rub. Nothing in sec 264 limits the application of sec 264 to cash value insurance. In other words, if the IRS is right--that sec 264 applies under those facts--then it applies to ALL life insurance, including group term held in an irrevocable trust, like a VEBA or a sec 79 plan. It does not have to be held for pre-retirement death benefits either.

So if I am right no company in the country--no matter the purpose of the plan or how small or large a company--can deduct the cost of life insurance for employees if it holds the policies directly or in a trust. Am I right? Did the IRS overshoot its target? Or is this a non-issue since companies are not taking this deduction anyway.

not getting into it too much, but think of rev ruling 2007-65 as an addendum to sec 264(a)(1). In laymens terms: 264 says if your an employer, you can't buy life insurance for your employees and name yourself the beneficiary.

2007-65 was to close up the abusive tax shelter that a VEBA + 419 could produce.

Thanks for the attempt but I am afraid this does not answer the question. I am fully apprised of how 264(a)(1) and 419 work, as well as the abuses with which the Service was concerned in 2007-65. If 264 were as simple as you make it then the problem would be even more apparent: the plan in the ruling contemplated a trust as owner and beneficiary of the policy, not the company, and the trust beneficiaries were employees. The company was neither owner nor beneficiaryof the policy or policy proceeds even indirectly. So it cannot be as simple as you make it or there would be no issue at all. Regrdless of this, the question remains--does this ruling mean that no company in the country, even the largest, paying for group term life insurance can deduct the costs if the policy is owned in an employee benefit trust of any sort?

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Guest parrot87

I took a quick look. By logical deduction, yes (unless there's a 264 update limiting the scope to non term life insurance). By practical reasoning, no. I attached the two documents if people would like to investigate.

In your heart of hearts, do you really think the IRS would go after every trust that writes off life insurance?

VEBA___Final_Rulings.pdf

revrul2007_65.pdf

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Matthew:

Thanks for providing the link to the IRS paper on VEBAs.

On the page discussing Multiple Employer Trusts, it states "Employees of one or more employers engaged in the same line of business in the same geographic locale share an employment related common bond.

However, the geographic locale limitation effectively denies exemption to national or statewide multiple employer trusts, unless they are established pursuant to a collective bargaining agrteement. This provision is intended to prevent IRC 501©(9) from being used as a tax exempt vehicle for offering insurance products to unrelated individuals scattered throughout the country that would then undermine those provisions of the IRC concerning insurance companies. In addition, where an organization such as a national trade association or business league exempt under 501©(6) operates a group insurance program for its members, the organization is engaged in unrelated trade or business. To allow trade organizations to provide insurance benefits through an IRC 501©(9) organization would facilitate circumvention of the unrelated trade or business income tax otherwise applicable in this situation."

Can we infer from this excerpt that "to undermine those provisions of the IRC concerning insurance companies," that the multiple employer VEBA is not intended to act as a commercial insurance company?

And, that "circumvention of the unrelated trade or business income tax otherwise applicable in this situation," means that by acting like a commercial insurer, you will incur UBIT, because you are a non commercial insurer?

Don Levit

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Guest Tax Atty
I took a quick look. By logical deduction, yes (unless there's a 264 update limiting the scope to non term life insurance). By practical reasoning, no. I attached the two documents if people would like to investigate.

In your heart of hearts, do you really think the IRS would go after every trust that writes off life insurance?

As the first line of the post that started this thread mentioned, a close careful read is recommended.

Perhaps as a practical matter the Service will not do this but if they do not and they focus only selectively on those situations it prefers to see (what it calls abusive) it opens itself up to claims of selective enforcement undermining its ability to enforce RR 2007-65 where it should be enforced. Furthermore, does a company (of whatever size) want to take this deduction based on the audit lottery because in its heart of heart it "believes" the IRS will not come come a-knocking? And doing so might give it listed transaction penalties ($200,000) depending on the type of policies? I think the Service stepped in it this time and will get an earful when this becomes more widely known.

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I don't believe that the problem is that IRS has gone too far, overgeneralized or attacked cash value life insurance. RR 2007-65 is limited to the facts and issues listed therein. The facts postulate a case where a trust, acting as a surrogate for the sponsoring corporation, purchases cash value life insurance and retains all rights to that life insurance except for the right to name the beneficiary of the death proceeds prior to retirement. It purchases cash value insurance without complying with the rules under Section 79 relative to permanent benefits (nor with the split dollar regulations).

I don't agree with the analysis provided in RR 2007-65 and believe that a portion of the contributions equal to the term cost for the rank and file employees would have been deductible by the employer (following the analysis of Judge Laro in the Neonatology cases), the facts are somewhat limiting. Moreover, a Revenue Ruling has no force of law behind it; it is simply a statement of the IRS's current position on a specific issue.

If this was to be new rules applying to welfare benefit plans, it would have been included in Notice 2007-83 or Notice 2007-84, which are roughly equivalent to Proposed Regulations.

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Guest Tax Atty
I don't believe that the problem is that IRS has gone too far, overgeneralized or attacked cash value life insurance. RR 2007-65 is limited to the facts and issues listed therein. The facts postulate a case where a trust, acting as a surrogate for the sponsoring corporation, purchases cash value life insurance and retains all rights to that life insurance except for the right to name the beneficiary of the death proceeds prior to retirement. It purchases cash value insurance without complying with the rules under Section 79 relative to permanent benefits (nor with the split dollar regulations).

I don't agree with the analysis provided in RR 2007-65 and believe that a portion of the contributions equal to the term cost for the rank and file employees would have been deductible by the employer (following the analysis of Judge Laro in the Neonatology cases), the facts are somewhat limiting. Moreover, a Revenue Ruling has no force of law behind it; it is simply a statement of the IRS's current position on a specific issue.

If this was to be new rules applying to welfare benefit plans, it would have been included in Notice 2007-83 or Notice 2007-84, which are roughly equivalent to Proposed Regulations.

Ah, if that were but the case. You suggest that the "facts postulate . . . [that the trust is] acting as a surrogate for the sponsoring corporation," and that it "is limited to the facts and issues listed therein." While true a revenue ruling is only the view of one party once the matter hits the courts, until then many give them considerable weight, for practical, if not legal, reasons.

But the facts are not so limited as you suggest. The Service says in the ruling:

The conclusions . . . are the same
regardless of whether
the plan benefits are provided through a taxable trust, an exempt VEBA described in § 501©(9), or
any other type of welfare benefit fund
as defined in § 419(e). Also, the conclusions . . . are the same regardless of whether the death proceeds are payable from the insurance company directly to the beneficiaries designated by the employees, or are payable to the trust or plan for the benefit of the employees’ beneficiaries. Additionally, the conclusions . . . are the same regardless of the number or amount of premiums, and
regardless of the type of life insurance policy
.

Where does that leave us? There is no finding that the trust is being misused (i.e. a surrogate), only used. And they tell us that the holding is not concerned with how the WBP is structured. And they tell us that the holding is NOT LIMITED TO CASH VALUE INSURANCE. Please tell me what benefit plan offering death benefits remains outside the scope of this ruling (other than those where the employee owns the policy from day one).

And what of Notice 2007-83? If the principal behind its joined-at-the-hip ruling is based on the applicability of sec 264(a) to these plans, and if I am right (which I think I am) that sec 264(a), as the Service points out in the quote above, applies to all insurance, including term, then notwithstanding the language of the Notice putatively limiting it to cash policies, ANY COMPANY IN THE COUNTRY DEDUCTING THE COST OF TERM LIFE INSURANCE PREMIUMS IS ENGAGING IN A LISTED TRANSACTION, no matter how it is structured if owned by a trust (real or otherwise). The $200,000 penalty per year from every company in the country that fails to file a Form 8886 will go a long way to balancing the budget.

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"The conclusions . . . are the same regardless of whether the plan benefits are provided through a taxable trust, an exempt VEBA described in § 501©(9), or any other type of welfare benefit fund as defined in § 419(e). Also, the conclusions . . . are the same regardless of whether the death proceeds are payable from the insurance company directly to the beneficiaries designated by the employees, or are payable to the trust or plan for the benefit of the employees’ beneficiaries. Additionally, the conclusions . . . are the same regardless of the number or amount of premiums, and regardless of the type of life insurance policy."

So you take this to mean that this Revenue Ruling abrogates Section 79 of the Internal Revenue Code? Because nowhere is that effect indicated in the Ruling or other related materials provided by the IRS. Rather, the facts are specifically limited to a group term life insurance plan which provides no "permanent benefits". And the IRS notes that: "No other benefits are provided to the employees under the plan or from the trust." There is no legal excuse, under these circumstances, for cash value life insurance. That is what is meant by limited to the facts given.

Where does that leave us? There is no finding that the trust is being misused (i.e. a surrogate), only used. And they tell us that the holding is not concerned with how the WBP is structured. And they tell us that the holding is NOT LIMITED TO CASH VALUE INSURANCE.

When the RR states that "the conclusions for Situation 1 are the same regardless of the number or amount of

premiums, and regardless of the type of life insurance policy", that does not change the statement of facts that "[t]he trustee has obtained a cash value life insurance policy on the life of each employee." So the types of policies referred to are VUL, WL, UL, etc., but not term insurance.

And what of Notice 2007-83? If the principal behind its joined-at-the-hip ruling is based on the applicability of sec 264(a) to these plans, and if I am right (which I think I am) that sec 264(a), as the Service points out in the quote above, applies to all insurance, including term, then notwithstanding the language of the Notice putatively limiting it to cash policies, ANY COMPANY IN THE COUNTRY DEDUCTING THE COST OF TERM LIFE INSURANCE PREMIUMS IS ENGAGING IN A LISTED TRANSACTION, no matter how it is structured if owned by a trust (real or otherwise). The $200,000 penalty per year from every company in the country that fails to file a Form 8886 will go a long way to balancing the budget.

Notice 2007-83 is self-limited to the narrow group of plans that meet all 4 of the requirements set forth therein:

"(1) The transaction involves a trust or other fund described in § 419(e)(3) that is purportedly a welfare benefit fund." (All plans seem to meet this requirement.)

"(2) For determining the portion of its contributions to the trust or other fund that are currently deductible the employer does not rely on the exception in § 419A(f)(5)(A) (regarding collectively bargained plans)." (Note: 419A(f)(5) plans were previously held to be listed transactions; this would apply to all other plans.)

"(3) The trust or other fund pays premiums (or amounts that are purported to be premiums) on one or more life insurance policies and, with respect to at least one of the policies, value is accumulated * * *." (This would apply to all plans that utilize cash value insurance products.)

"(4) The employer has taken a deduction for any taxable year for its contributions to the fund with respect to benefits provided under the plan (other than post-retirement medical benefits, post-retirement life insurance benefits, and child care facilities) that is greater than the * * * (amount deductible under 419 and 419A)." (This is the real test: whether the employer has claimed deductions in excess of those allowed under 419 and 419A, other than for post-retirement medical benefits, post-retirement life insurance benefits and child care facilities.)

Please tell me what benefit plan offering death benefits remains outside the scope of this ruling (other than those where the employee owns the policy from day one).

A plan that has not claimed deductions in excess of those allowed under 419 and 419A.

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He said that A plan that has not claimed deductions in excess of those allowed under 419 and 419A remains outside the scope of the Ruling.

The statement has nothing to do with anything else.

George D. Burns

Cost Reduction Strategies

Burns and Associates, Inc

www.costreductionstrategies.com(under construction)

www.employeebenefitsstrategies.com(under construction)

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George:

You are correct, except that vebaguru made the statement I am posing as a question to him, in an earlier post.

When I asked this same question at that time, i did not get a satisfactory answer.

I thought this was a good opportunity to pose the question once again.

Don Levit

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