Jump to content

Recapture of VEBA deductions for retiree benefits


Guest SFERISAESQ
 Share

Recommended Posts

Guest SFERISAESQ

If a VEBA, which was previously funded to pay for retiree medical benefits, is amended to pay for current employee medical benefits, does the company have to recapture the "front-loaded" deductions for the prior contributions that were made to fund the future retiree medical benefits under the tax benefit rule.

Link to comment
Share on other sites

The IRS may claim that the "tax benefit" rule applies which would trigger retroactive taxability in the year of deductions claimed. However, if you can show that there was no intention to accelerate tax deductions at the time the contribution was made, it should fall within the Hillsborough case below.

The tax benefit rule was considered by the US Supreme Court in Hillsboro Nat. Bank v. Commissioner, 460 U.S. 370 (1983), US Sup Ct, (March 07, 1983). At page 371, the Court stated, “We conclude that, unless a non-recognition provision of the Internal Revenue Code prevents it, the tax benefit rule ordinarily applies to require the inclusion of income when events occur that are fundamentally inconsistent with an earlier deduction. The Court added that “fundamentally inconsistent” means that “* * * if that event had occurred within the same taxable year, it would have foreclosed the deduction.”

If retiree medical benefits were eliminated at the same time current medical benefits were added, rather than the "tax benefit" rule, the company would have taxable income under section 419 with respect to the excess funds left in the trust.

My suggestion would be to continue the retiree medical benefits, quit funding and use up the funds for current medical benefit. At least this moves the burden of proof to IRS to show that there was intent to circumvent the deduction limitations of the statute.

Link to comment
Share on other sites

Guest SFERISAESQ
The IRS may claim that the "tax benefit" rule applies which would trigger retroactive taxability in the year of deductions claimed. However, if you can show that there was no intention to accelerate tax deductions at the time the contribution was made, it should fall within the Hillsborough case below.

The tax benefit rule was considered by the US Supreme Court in Hillsboro Nat. Bank v. Commissioner, 460 U.S. 370 (1983), US Sup Ct, (March 07, 1983). At page 371, the Court stated, “We conclude that, unless a non-recognition provision of the Internal Revenue Code prevents it, the tax benefit rule ordinarily applies to require the inclusion of income when events occur that are fundamentally inconsistent with an earlier deduction. The Court added that “fundamentally inconsistent” means that “* * * if that event had occurred within the same taxable year, it would have foreclosed the deduction.”

If retiree medical benefits were eliminated at the same time current medical benefits were added, rather than the "tax benefit" rule, the company would have taxable income under section 419 with respect to the excess funds left in the trust.

My suggestion would be to continue the retiree medical benefits, quit funding and use up the funds for current medical benefit. At least this moves the burden of proof to IRS to show that there was intent to circumvent the deduction limitations of the statute.

Is intent needed for the "tax benefit" rule to apply? Are you saying that the tax benefit rule should not apply if at the time you made the VEBA contributions, your intent was to only use those funds for retiree medical benefits? I thought the subsequent amendment of the plan to pay current employee medical benefits is the event that is "fundamentally inconsistent" with the prior deductions that were taken for the contributions made to fund for the retiree medical benefits. In our case we will continue to use a small portion of the assets to pay for retiree medical benefits for a few retirees, but the majority of the assets will be used to pay for current employee medical benefits.

Would you recommend going for a letter ruling on the non-application of the tax benefit rule? We are requesting a PLR on the tax qualification of the trust and that the 4976 excise tax should not apply as a result of the amendment. Should we include the tax benefit issue as well, or be silent on that issue?????

Link to comment
Share on other sites

Is intent needed for the "tax benefit" rule to apply? Are you saying that the tax benefit rule should not apply if at the time you made the VEBA contributions, your intent was to only use those funds for retiree medical benefits?

Not so much "intent" as imputed intent, based on the facts and circumstances. If the intention was to provide post-retirement medical benefits and the amendment to add current medical benefits had been made during the same year, the amount of permissible tax deductions would be greater, not less. If, however, the retiree medical benefits had been adopted and discontinued in favor of current medical benefits in the same year, those are fundamentally inconsistent.

I thought the subsequent amendment of the plan to pay current employee medical benefits is the event that is "fundamentally inconsistent" with the prior deductions that were taken for the contributions made to fund for the retiree medical benefits. In our case we will continue to use a small portion of the assets to pay for retiree medical benefits for a few retirees, but the majority of the assets will be used to pay for current employee medical benefits.

The amendment to pay current medical benefits is not necessarily inconsistent if it is in addition to paying retiree medical benefits.

Would you recommend going for a letter ruling on the non-application of the tax benefit rule?

No, because they don't have to decide the issue in your favor and it will muddy the water on your other issues. They are likely not to rule.

We are requesting a PLR on the tax qualification of the trust

That is handled by filing form 1024, not a PLR.

and that the 4976 excise tax should not apply as a result of the amendment. Should we include the tax benefit issue as well, or be silent on that issue?????

This is fine and 4976 should not apply. I would choose to be silent.

Has the plan's actuary determined the amounts that would be deductible under IRC section 419 (the current medical costs plus a 25% reserve) and under section 419A (the post-retirement reserve determined as required)? That would seem to be necessary before any IRS filing in any event.

Link to comment
Share on other sites

Guest SFERISAESQ
Is intent needed for the "tax benefit" rule to apply? Are you saying that the tax benefit rule should not apply if at the time you made the VEBA contributions, your intent was to only use those funds for retiree medical benefits?

Not so much "intent" as imputed intent, based on the facts and circumstances. If the intention was to provide post-retirement medical benefits and the amendment to add current medical benefits had been made during the same year, the amount of permissible tax deductions would be greater, not less. If, however, the retiree medical benefits had been adopted and discontinued in favor of current medical benefits in the same year, those are fundamentally inconsistent.

I thought the subsequent amendment of the plan to pay current employee medical benefits is the event that is "fundamentally inconsistent" with the prior deductions that were taken for the contributions made to fund for the retiree medical benefits. In our case we will continue to use a small portion of the assets to pay for retiree medical benefits for a few retirees, but the majority of the assets will be used to pay for current employee medical benefits.

The amendment to pay current medical benefits is not necessarily inconsistent if it is in addition to paying retiree medical benefits.

Would you recommend going for a letter ruling on the non-application of the tax benefit rule?

No, because they don't have to decide the issue in your favor and it will muddy the water on your other issues. They are likely not to rule.

We are requesting a PLR on the tax qualification of the trust

That is handled by filing form 1024, not a PLR.

and that the 4976 excise tax should not apply as a result of the amendment. Should we include the tax benefit issue as well, or be silent on that issue?????

This is fine and 4976 should not apply. I would choose to be silent.

Has the plan's actuary determined the amounts that would be deductible under IRC section 419 (the current medical costs plus a 25% reserve) and under section 419A (the post-retirement reserve determined as required)? That would seem to be necessary before any IRS filing in any event.

The conrtibutions for the retiree medical were made several years ago while the amendment to allow the trust to pay for benefits of current employees was done this year. The retiree medical plan was frozen, where only employees that retired before Sept. 2010 would receive benefits. Now, the company wants to use the assets in the VEBA to pay current benefits and the retiree benefits for the few employees that are currently receiving benefits. No contributions have been made for several years. All deducutions were made pursuant to an acutarial determination. The trust already has 501©(9) status. I was told by the IRS that an amendment to change the beneficiaries of the Trust may cause the Trust to loose its 501©(9) status. I don't see how we can file a Form 1024 in this situation, given that the Trust already has 501©(9) status. The IRS told me that we should request a PLR for the change in the beneficiaries to insure that the Trust remains tax exempt. They told me not to file a Form 1024 since we already have 501©(9) status.

Link to comment
Share on other sites

Create an account or sign in to comment

You need to be a member in order to leave a comment

Create an account

Sign up for a new account in our community. It's easy!

Register a new account

Sign in

Already have an account? Sign in here.

Sign In Now
 Share

×
×
  • Create New...