husband and wife - separate plans?

[MR]

lets say you have a client who owns a business. his wife owns an unrelated business and they have a minor child. the attribution rules imply that there is a controlled group. several reference documents also imply that this effect is unintentional. the question is - do you allow this couple to establish separate plans?

[JAY21]

I think you disclose the very facts you just mentioned (e.g., unintentional result) and then let them decide. That's about all you can do as you can't offer any guaranteed protections but can offer you haven't seen the IRS try to penalize anyone on this unintentional result. I suspect this is a much more common scenario that we often even know about, even with the due deligence of asking appropriate questions.

[himt4]

If we are talking about 401(k) plans and other DC plans than they can have separate plans- you would have Husband's plan exclude all emplyees of the wife's company and have the wife's plan exclude all employees of the Husband's company. You would need to pass coverage testing, and that would depend on the number of HCEs and NHCEs in both company's. If there are no employees other than the husband and wife owners, then both plans would pass coverage. Howver, you need to be more careful in a DB plan because of minimum participation rules, each plan would have to cover a minimum of 40% but no fewer than 2. So if there were no employees, each DB plan would have to benefit both husband & wife.

[Guest Pensions in Paradise]

I find it funny how himt4's reply is technically correct (if the two entities are a controlled group) yet completely misses the point of the original question.

[himt4]

My reply was not meant to address the "point" of the question. Since I believe the point being "whether or not this situation is or is not a control group" had already been wonderfully explained by MR and JAY21, I just thought it would be helpful to the viewers out there to give an answer to the specific question of "do you allow this couple to establish separate plans?". I wouldnt want anyone to walk away from this thread and think that from a technical point of view that because it is a control group, the husband & wife CAN NOT have separate plans.

[MR]

in fact, there are employees and coverage would likely be a problem. the real question is whether we take part in what could be a faulty set-up. as Jay21 points out, there are countless situations like this that occor without anyone being the wiser. i'd be shocked if i don't have other clients in the same situation. but since i do know about this one, do i insist they follow the rules, however unintentional they might be?

[R. Butler]

.....but since i do know about this one, do i insist they follow the rules, however unintentional they might be?

I would insist that the client follow the rules. It seems to me though that you are not really asking that though; you really seem to be asking if there "really" is a controlled group. You want a shade of gray.

[austin3515]

I think everyone seems to agree that a literal interpretation of the rules is that there is a controlled group here. The question is really, would MR be okay administering these two plan's as though they were NOT a controlled group, due to the fact that everyone agrees that it's insane that married couples with children should be at such a disadvantage when compared to a married couple without children. I think it's also pretty well accepted that this outcome is unintentional.

Is there some sort of IRS informal policy that says, lets just not go there? Has anyone ever heard of this being an issue? I think we all agree it happens often.

[Guest mjb]

The IRS would be embarrassed if it enforced this rule given its arbitrary and capricious nature in that it only applies to a married couple who have a child and does not apply to:

a married couple without a child

an unmarried couple with a child

a married couple with a step child.

It has no basis in statutory law and is an interpretation drawn by the IRS on its own which may make it suspect under recent Sup ct precedents since there is no support in the statutory language or legislative history. It also is contradicts congressional policy which repealed the family aggregation rule for comp under 401(a)(17) in 1996.

I had several clients who ignored the family aggregation rule before repeal on the grounds that the spouses last names were different. Other clients ignored the issue by enforcing a privacy policy that did not allow inquiries of whether employees were married to co-workers. Similiary there is a question of whether the IRS would be able to determine if a controlled group exists if it is auditing employer x which is controlled by spouse A but not spouse B who is not a party to the audit.

[Guest Pensions in Paradise]

mjb - based on your comments in the last paragraph of your post, I truly feel sorry for people who rely on you for legal advice.

[GBurns]

I don't think that it is quite fair to assume that mjb advised those clients to do as they did, he/she could have aquired them after, although from the general tone, I must admit that you did not have to make much of a stretch. Maybe its just his/her writing style. Look at what some of us have posted in the past.

mjb,

IRS embarassed? Ha! Why do you think that they write AODs? They will not even admit defeat in court and will not accept many decisions.

Abitrary and capricious can be applied to Regs or a Ruling, I doubt that it could ever be applied to the IRC itself. Look to the actual wording of the applicable Code sections.

It is very easy in an audit/examination to determine if a controlled group exists and if it involves a spouse whether the spouse is involved in the audit or not. In fact, there are very few reasons why a spouse would not be a part of any audit. Whether the examiner exercises all options and does involve the spouse is the examiner's call., but that does not mean that the spouse is not/will not/cannot be a part of the audit at any time the examiner wishes.

Having a privacy policy does not mean that you cannot be held responsible or did not know. Aside from ignorance being no excuse under law, there will always be the "prudent man" standard. Imagine having a 401(k) etc which requires spousal consent, so the employer has a signature that belongs to another employee but claims that they did not know that the employees were spouses because of a privacy policy?

Taking fees from clients for future work is 1 thing. Taking fees from clients with known problems but not advising them to fix them is quite another. While it could be said that that is not what they are paying for, it could very well come back and bite you.

[dmwe]

There is an exception to the attribution rules for separate husband and wife businesses, but you have to meet certain criterion.

See Sal Tripodi's 2005 edition, page 1.35. It refers to IRC section 1563(e)(5).

[Bird]

This thread should start over with dmwe's reply.

There is indeed a noninvolvement exception; as noted it is in Sal's book, and if you have Who's the Employer it's in there too: 7-13 of the third edition. Among other things, there can be no ownership whatsoever by the non-owner spouse, and the non-owner spouse can't be a director, employee, or participate in management.

It should be noted that in community property states, you would need a special agreement to treat the business as separate property, so in most cases the "non-owner" spouse does in fact have ownership and then you have the potential problem of a controlled group.

[himt4]

Does the noninvolvement rule apply to this situation? Isn't that rule about husband & wives? This situation is a control group through the minor child, as he/she is deemed to own 100% of both the parents' companies.

[austin3515]

I think we should assume non-involvement in the each other's businesses, and that this is a non-community property state, just for the sake of sticking to original question. Those are both valid points though!!

[dmwe]

I'm not sure the child clouds the issue. Does the child work for one of the companies or the other or receive compensation from both? Maybe that would make a difference and maybe not.

[himt4]

My understanding is that the mere existence of the minor child is the although-not-intentional-but-unfortunately-technically-makes-it controlled group trap. It doesnt matter if he doesn't work or doesn't receive compensation, the child is a deemed 100% owner of both his parents' companies, and thats what makes it a controlled group.

by the way, earlier mjb wrote:

The IRS would be embarrassed if it enforced this rule given its arbitrary and capricious nature in that it only applies to a married couple who have a child and does not apply to:

a married couple without a child

an unmarried couple with a child

a married couple with a step child.

Although I don't necesarily disagree with the thought, I am pretty sure that the controlled group situation does technically also apply to "an unmarried couple with a child". The child owns 100% of both parents companies and those companies are technically in a controlled group even if the parents are unmarried. Again I have no comment about whether or not the IRS would ever enforce it in this situation.

[Bird]

Sorry, my earlier answer was irrelevant, or I should say that I agree the non-involvement rule is irrelevant.

Let's just say I don't look down on anyone who wants to ignore it.

[Guest mjb]

Its not an enforcement issue, its a question of how could the IRS identify such a relationship since unmarried couples do not file a joint tax return.

[Locust]

The issue all of these posts skirt around is what do you do when you know that the client is doing something "technically" wrong, but you don't think the client would ever get caught by the IRS.

If you're a lawyer, a CPA, an actuary, or an enrolled agent, you'd better be very careful. You can't tell your client - "it's a technical problem, but the IRS will never catch you," or "it's probably wrong but the chances of your being audited on it are low." That would be an ethical lapse that could land you - the adviser - in hot water with the IRS. The IRS might consider this to be aiding the client to evade taxes.

All of the rules that we deal with are "technical." Do we tell our clients to ignore some rules because they are too technical, but to comply with all the rest? I believe our role is to help the client work through the rules and to do it right, not to assist the client in evading taxes.

[himt4]

My experience with this message board is that it works much better with technical issues than about practical issues such as “do you think the IRS will catch this…or care about that…”

Regarding the technical issue written above : “its a question of how could the IRS identify such a relationship since unmarried couples do not file a joint tax return.”

Well, its been a slow day, so how about this scenario:

Evelyn has been the only employee the last 10 years of Maureen in Maureen’s small business. Maureen’s son Steve just graduated from high school and Maureen is throwing him a graduation party. Evelyn is invited to the party and while there gets into into a conversation with Steve’s father Dan who was divorced from Maureen shortly after Steve was born. Dan tells Evelyn that he is the only employee of his own business, and goes on to say “I got this great Defined Benefit Plan, I’ve had it for the last 10 years, I’ve contributed $100,000 a year, and now the account is worth $1,500,000, and its all mine, mine, mine” Evelyn being acquainted with control group situations hires a good pension attorney and makes a claim for benefits from Dan’s pension plan.

Perhaps someone else wants to write how this story ends. Does Evelyn get any money?

[Guest Pensions in Paradise]

Yes, Evelyn gets $1,500,000. Here's why.....

Shortly after hiring her attorney Evelyn realizes that a lawsuit would result in a long drawn out battle, so she fires her attorney. She calls Dan and arranges to meet him for lunch. One thing leads and another, and three months later Evelyn and Dan are married. Sadly, however, Dan dies a tragic death while snowboarding on their honeymoon. Thus, the grieving widow Evelyn is left with his entire pension benefit.

[GBurns]

An examiner doing an audit invariably does fact finding. The lack of the filing of a joint return does not matter, since there are many other factors that will come up in fact finding. Looking at supporting documents and records can trigger the possibility of a relationship thereby leading the examiner to follow the trail.

This is even easier if the examination is of a business entity.

As long as someone gets a benefit from that relationship, there will be a trail that most likely can be followed, after all they had to get the benefit somehow.

To follow up on the excellent observation by Locust. If a return preparer or accountant takes figures from work done by someone else previously (whether tax return or books of account) and uses them in a subsequent return or report, they can be held liable for aiding in tax evasion. In other words as long as you know or should have known or suspected that the data is false, you can be liable if you use it, condone or advise for its use.

[Guest mjb]

GB: where do you get your information from? Its not from authortative soruces. An agent who conducts an audit is limited to auditing the the taxpayer under review, not examining the returns of unrelated taxpayers. There are privacy issues in asking a taxpayer about personal relationships with other taxpayers who are not under review. To prevent the abuses that you describe as a right of the IRS the taxpayer needs to retain counsel to prevent any wandering by the agent in to unrelated areas. Your last paragraph is total gibberish and lacks any foundation in law because it would make every advisor liable for relying on information provided by a client which is later determined to be incorrect even if the client was unaware that it was incorrect or inaccurate. I think it comes as a surprise to many of the posters on this board to discover that they can be held liable for tax evasion in preparing returns for clients if they rely on work performed by the previous preparer which is later determined to be incorrect.

No one is suggesting advising tax evasion but that advisors recognize that some clients will make a business decision to ignore a regulation that has not been applied by the IRS in the context that the above posters have claimed would apply.

[GBurns]

I clearly posted in the last sentence "In other words as long as you know or should have known or suspected that the data is false, you can be liable if you use it, condone or advise for its use."

That definitely means that the falsity is known upfront and is NOT "later determined to be incorrect"

I did not think that I could have been clearer.

As to where I get my info, I will address that at a later date and give you the authoritative sources. I notice that you did not give any authoritative sources to support your opinion. Do you have any?

In the meantime, I hope that someone with actual IRS audit knowledge such as an EA or tax attorney will also weigh in by then.