Abusive Insurance Plans Get Red Flag

The IRS in Notice 2007-83 identified as listed transactions certain trust arrangements involving cash-value life insurance policies. Revenue Ruling 2007-65, issued simultaneously, addressed situations where the tax deduction has been disallowed, in whole or in part, for premiums paid on such cash-value life insurance policies. Also simultaneously issued was Notice 2007-84, which disallows tax deductions and imposes severe penalties for welfare benefit plans that primarily and impermissibly benefit shareholders and highly compensated employees.

Taxpayers participating in these listed transactions must disclose such participation to the Service by Jan. 15. Failure to disclose can result in severe penalties—up to $100,000 for individuals and $200,000 for corporations.

Ruling 2007-65 aims at situations where cash-value life insurance is purchased on owner-employees and other key employees, while only term insurance is offered to the rank and file. These are sold as 419(e), 419A(f)(6), and 419 plans. Other arrangements described by the ruling may also be listed transactions. A business in such an arrangement cannot deduct premiums paid for cash-value life insurance.

A CPA who is approached by a client about one of these arrangements must exercise the utmost degree of caution, and not only on behalf of the client. The severe penalties noted above can also be applied to preparers of returns that fail to properly disclose listed transactions.

Prepared by Lance Wallach, CLU, ChFC, CIMC, of Plainview, N.Y., a writer and speaker on voluntary employees’ beneficiary associations and other employee benefits.