IRS Steps up Audits of Welfare Benefit Plans

[Ron Snyder]

Many of you are old enough to remember the IRS's "actuarial audit project" from the early 1990s. At that time the Service opened audits almost all small defined benefit plans which had NRAs prior to age 65 and attempted to disallow deductions for the "excess" deduction (over the amount allowable if the NRA had been age 65). The benefits community (including the then-ASPA) banded together to fight the IRS. IRS lost the first 2 court cases and immediately dropped hundreds of audits that had been opened.

A similar thing is happening now. IRS has opened hundreds of audits of clients in various welfare benefit arrangements. We have known of IRS's dislike for these arrangements for some time (at least since 1995 when Notice 95-34 was issued). Then IRS upped the ante by labeling some of the plans as "listed transactions" [419A(f)(5) and (6) arrangements].

One welfare benefit plan stood up to IRS, hired a former IRS litigator and pressed for a court date. The IRS blinked and dropped the whole case.

Another plan, whose promoter IRS officials dislike intensely, is scheduled to have 3 cases go to court this June. Recently the IRS made a very reasonable settlement offer to avoid going to court.

Apparently the IRS is afraid that they will have to drop the whole project if they start losing cases in court. So they are avoiding court in hopes of intimidating taxpayers into paying taxes they don't owe and keep the audits going as long as possible.

IRS auditors are desperately trying to make up excuses why amounts in the welfare benefit plans should be taxable today. For example, for a client who made contributions in the 1990s but nothing in the past 7 years, the IRS offered to treat the plan as a split dollar arrangement (although our WBP has nothing in common with a split dollar arrangement), making the accumulation value of the insurance taxable to the client in 2005.

Is anyone else having experience with these arrangements?

[Guest mcapuano]

Many of you are old enough to remember the IRS's "actuarial audit project" from the early 1990s. At that time the Service opened audits almost all small defined benefit plans which had NRAs prior to age 65 and attempted to disallow deductions for the "excess" deduction (over the amount allowable if the NRA had been age 65). The benefits community (including the then-ASPA) banded together to fight the IRS. IRS lost the first 2 court cases and immediately dropped hundreds of audits that had been opened.

A similar thing is happening now. IRS has opened hundreds of audits of clients in various welfare benefit arrangements. We have known of IRS's dislike for these arrangements for some time (at least since 1995 when Notice 95-34 was issued). Then IRS upped the ante by labeling some of the plans as "listed transactions" [419A(f)(5) and (6) arrangements].

One welfare benefit plan stood up to IRS, hired a former IRS litigator and pressed for a court date. The IRS blinked and dropped the whole case.

Another plan, whose promoter IRS officials dislike intensely, is scheduled to have 3 cases go to court this June. Recently the IRS made a very reasonable settlement offer to avoid going to court.

Apparently the IRS is afraid that they will have to drop the whole project if they start losing cases in court. So they are avoiding court in hopes of intimidating taxpayers into paying taxes they don't owe and keep the audits going as long as possible.

IRS auditors are desperately trying to make up excuses why amounts in the welfare benefit plans should be taxable today. For example, for a client who made contributions in the 1990s but nothing in the past 7 years, the IRS offered to treat the plan as a split dollar arrangement (although our WBP has nothing in common with a split dollar arrangement), making the accumulation value of the insurance taxable to the client in 2005.

Is anyone else having experience with these arrangements?

Wow, when you refer to "welfare benefit plans" are you referring to group health insurance plans both fully-insured and self-insured? If so, I'm having a difficult time envisioning the IRS's intent here?

Mark

[Ron Snyder]

Yes, both self-insured and fully insured plans have been under attack by the IRS. Welfare benefit plans typically provide death benefits, medical benefits or both.