Small Business Tax News
Strategic Advice on the Tax Implications of Business Planning - March 2004
UPDATE ON IRS CRACKDOWN ON ABUSIVE 412(i) PLANS
By Lance Wallach & Ira Kaplan
On Friday, February 3, 2004 , the IRS issued proposed regulations concerning the valuation of insurance contracts in the context of qualified retirement plans.
The IRS says that it is no longer reasonable to use the cash surrender value or the interpolated terminal reserve as the accurate value of a life insurance contract for income tax purposes. The IRS issued proposed regulations stating that the value of a life insurance contract in the context of qualified retirement plans should be the contract’s fair market value.
The Service acknowledged in the regulations (and in a revenue procedure issued simultaneously) that the fair market value standard could create some confusion among taxpayers. They addressed this possibility by describing a safe harbor position.
When I addressed the American Society of Pension Actuaries Annual National Convention, the IRS chief actuary also spoke about attacking abusive 412(i) pensions.
A “Section 412(i) plan” is a tax-qualified retirement plan that is funded entirely by a life insurance contract or an annuity. The employer claims tax deductions for contributions that are used by the plan to pay premiums on an insurance contract covering an employee. The plan may hold the contract until the employee dies, or it may distribute or sell the contract to the employee at a specific point, such as when the employee retires.
“The guidance targets specific abuses occurring with Section 412(i) plans”, stated Assistant Secretary for Tax Policy Pam Olson. “There are many legitimate Section 412(i) plans, but some push the envelope, claiming tax results for employees and employers that do not reflect the underlying economics of the arrangements.” Or, to put it another way, tax deductions are being claimed, in some cases, that the Service does not feel are reasonable given the taxpayer’s facts and circumstances.
“Again and again, we’ve uncovered abusive tax avoidance transactions that game the system to the detriment of those who play by the rules,” said IRS Commissioner Mark W. Everson.
I have been published by the AICPA and others for years about these and similar abuses. Finally, the IRS is doing something. If someone is in an abusive 412(i) plan, they had better seek counsel quickly.
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