"Welfare Benefit Plan Tax Schemes"
Harmful to Your Health
By: Bill E. Branscum
Copyright 2009

"Welfare Benefit Plan" tax schemes are gaining popularity among sole proprietors about like crack cocaine, and they promise to be much more harmful to their health.

As we all know, businesses that provide benefits to their employees, such as health care and insurance, write the costs of those welfare benefit programs off on their taxes. Welfare Benefit Plan tax schemes are promoted as a way for sole proprietors to do the same thing, providing their favorite employee (themselves) with cleverly crafted welfare benefits, writing the costs of those benefits off as tax deductions. So, as the scheme goes, you pump massive amounts of income into a cash value life insurance policy, deducting those premiums as a tax deduction, while building a cash value that you can later cash out, or borrow against, "tax free." The promoters of these schemes generally explain (with a wink and a nod) that when you begin to cash out, you have an obligation to report that money as income, because insurance policy proceeds are not generally taxable, and these withdrawals are not reportable by the issuer of the policy.

In other words, these Welfare Benefit Plans are promoted to be like some special IRA that you can put all the money in you want, write the contributions off your taxes, and pull the money out later without any notification to the IRS . . . unless you tell them.

Internal Revenue Code Sections 419, and 419A, define the rules allowing employers to make tax deductible contributions to Welfare Benefit Plans, in order to provide their employees with medical and life insurance benefits. There is nothing inherently wrong with these plans; the IRS acknowledges that businesses often maintain welfare benefit funds that fully comply with the intent of Sections 419 and 419A and, in fact, provide meaningful medical and life insurance benefits to their employees, making substantial contributions to those funds that the IRS accepts as fully deductible.

On the other hand, the IRS does take issue with the Welfare Benefit Plans that are being promoted to sole proprietors and small businesses as a way to avoid federal income taxes via schemes that, in form, provide medical and life insurance benefits to key employees but, in substance, primarily serve to benefit the owner(s) of the businesses. These programs are sometimes referred to by their promoters as “single employer plans,” or “419 plans.” The promoters claim that the employers’ contributions are deductible under IRC Sections 419 and 419A as ordinary and necessary business expenses.

The essence of the 419 Welfare Benefit Plan scam is the representation that a business owner can provide life insurance for himself as his own “favorite employee,” writing off the policy payments as a tax deductible business expense, while enjoying the benefit of the insurance, and accumulating cash value in the policy.

They cannot -- PERIOD!

Admittedly, the provisions of the Internal Revenue Code, and related case law, can be very difficult to understand, but evaluating the viability of this sort of tax scheme need not be that complicated. With regard to the assertion that sole proprietors can fund their own life insurance policies as a tax deductible business expense, there is no room for interpretation, discussion or debate. IRC 264(a)(1) says, “No deduction shall be allowed for premiums on any life insurance policy . . . if the taxpayer is directly or indirectly a beneficiary under the policy or contract.”

Further, the Internal Revenue Service has made every effort to publish guidelines and abusive tax scheme warnings that are relatively easy to understand.

In IRS Notice 2007-84, entitled, Trust Arrangements Purporting to Provide Nondiscriminatory Post-Retirement Medical and Life Insurance Benefits, appended hereto as Exhibit 1, the IRS cautioned taxpayers that the tax treatment of trusts that, in form, provide postretirement medical and life insurance benefits to owners and other key employees may vary from the treatment claimed by those who promote them.

In IRS Notice 2007-83, entitled, Abusive Trust Arrangements Utilizing Cash Value Life Insurance Policies Purportedly to Provide Welfare Benefits, appended hereto as Exhibit 2, the IRS identified schemes involving cash value life insurance policies as being “listed transactions.” Taxpayers were put on notice that they are problematic, and they have an affirmative obligation to disclose their involvement in them.

With regard to the specific representations proffered by the promoters who push these programs, the IRS published Revenue Ruling 2007-65, Section 419 – Treatment of Funded WelfareBenefit Plans, appended hereto as Exhibit 3. It unequivocally states that no deduction is allowable for the premiums paid into these plans when the taxpayer is directly, or indirectly, a beneficiary. [See Exhibit 3, Page 6]

The deductibility issue notwithstanding, Revenue Ruling 2007-65, Section 419 – Treatment of Funded Welfare Benefit Plans, makes it clear that, in addition to
disallowing the premium deductions, the value of any economic benefit conferred by the employer to himself as an employee is taxable income. [See Exhibit 3, Page 6-7]

An IRS Newswire Article IR-2007-170, published October 17, 2007, and entitled, IRS Warns Taxpayers About Certain Trust Arrangements Sold As Welfare Benefit Funds, is appended hereto as Exhibit 4. It warns that the arrangements that the IRS defined as abusive are those programs that, “primarily benefit the owners, or other key employees of the business, sometimes in the form of cash, loans, or life insurance policies.” [See Exhibit 4, Page 1]

Abusive “Welfare Benefit Plan” tax schemes are not a new thing. Prior to the enactment of IRC 419, similar plans were based upon IRC 501I(9). This provision of the tax code allowed for tax exemption for Voluntary Employee Benefit Associations (VEBA’s), which provide life, health, and other benefits to members, their dependents, or their designated beneficiaries.

Once VEBA related patterns of abuse emerged, the IRS published various warnings and decisions. Congress ultimately acted, and IRC 501I(9) was displaced by IRC 419 which was intended to narrow things down substantially, and eliminate the abuses.

The IRC is not a code of exclusions – unlike a penal code that tells you what you cannot do, the IRC tells you what you must do, and what you can do. As we see over and over again, tax scheme promoters make their livings by twisting the “what’s allowed” into what was never intended, playing the audit lottery until the tax “strategy” systems that they create for their clients are ultimately scrutinized and collapse.

IRC 419(e) offers nothing like the provisions that these tax scheme promoters purport to be able to make possible; in fact, as explicated above, section 419 of the code was established in an effort to curb the very abuses that these people are actively pushing. The Internal Revenue Service has done everything that they could reasonably be expected to do to get the word out, and the IRS, Criminal Investigation Division, is actively pursuing these cases.

In defending one of these cases, or any other case where your client has been persuaded to buy into a tax scheme, bear in mind that the tax scheme promoters often represent a sort of “double edged sword” to their victims. First, they sell them snake oil tax remedies that seem to work wonderfully well, until one of their clients is selected for an audit. Later, when they are prosecuted, they have a self-serving incentive to blame their victims, and they often do, thereby victimizing them again.

This generally manifests itself in one of two ways. Either the promoter claims to have given their client legitimate, viable advice, which they claim that the client misused and abused unbeknownst to them, or they admit that their tax programs were abusive tax schemes, and testify that their clients were knowing, willful participants in tax evasion. Unfortunately, by the time that they are making these sorts of claims, it is too late to record their "pitch" as it was originally presented [clue].

I have seen notorious tax scheme promoters like Wayne Rebuck and Michael Maricle do Jimmy Swaggart routines on the witness stand, piously denouncing their own personal transgressions, while dragging everyone else they could into the mire with them in the interest of “substantial assistance.” Both testified that the “clients” who had relied on them knew that they were involved in tax evasion all along, and like all professional con men, they were persuasive liars.

People who choose to make their living lying to, and misguiding hapless Clients, and setting them up with expensive, bogus tax programs that amount to economic suicide, while bleeding them for every dime they can get, cannot be expected to suffer pangs of conscience at selling those same people down the river when it serves their interests. If you get involved in the case early enough, you may be in a position to preempt that.

When your client has been victimized, rather than close ranks with the scam promoter, and try to defend the indefensible, it may be in your client's best interest to get cleaned up, and throw the mutt who got them into the mess under the government bus. While everyone is still getting along with each other, you have an opportunity to generate evidence that you will not be able to obtain once the promoter "lawyers up." An indepth background investigation, and a couple of hours of under cover video documenting the hype that the promoter is preaching, can be a very valuable thing at the US Attorney's trading table.

Again, while everyone is still getting along with each other, you have an opportunity to generate evidence that will be lost to you forever once the finger pointing begins. If you handle it right, you may find that the government is not necessarily "the enemy," and justice is not an anathema to our profession.

In our most recent case, we recognized our opportunities, we seized them, and our client received the, "You are no longer the subject of a criminal investigation" letter appended hereto as Exhibit 5. At the end of the day, our client got a "walk," and the promoter, whose life turned out to be a convoluted history of fraud and failure, including fake academic degrees, two bankruptcies, a series of IRS Tax Liens, two NASD non-performance terminations, and a litany of law suits, did not fare as well.

It was a beautiful thing.

I hope to be able to publish a Case Study, and provide more specific information as to how we worked with an unusually aggressive law firm to orchestrate this spectacular outcome, in the near future.

I have appended the above referenced Exhibits for your review.

Oracle International
Bill E. Branscum, Investigator
(239) 304-1639




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