Section 79 Scams and Captive Insurance History - HG.org
When trying to understand how a product becomes a target of government scrutiny it helps to know its history. In the case of plans that fall under Internal Revenue Code Section 79, that history is complex.
Insurance companies, agents, financial planners, and others have pushed abusive 419 and 412i plans for
years. They claimed business owners could obtain large tax deductions. Insurance companies, agents and others earned very large life insurance commissions in the process. Eventually, the IRS cracked down on the unsuspecting business owners. Not only did they lose the tax deductions, but they were also fined, in addition to being charged penalties and interest. A skilled CPA with extensive IRS experience could usually eliminate the penalties and reduce the fines. Most accountants, tax attorneys and others have been unsuccessful in accomplishing this.
After the business owner was assessed the fines and lost his tax deduction, he had another huge, unforeseen problem. The IRS then came back and fined him a huge amount of money for not telling on himself under IRC 6707A. If you participate in a listed or reportable transaction, you must alert the IRS or face a large fine. In essence, you must alert the IRS if you were in a transaction that has the possibility of tax avoidance or evasion. Not only must you file Form 8886 telling on yourself, but the form needs to be filed properly, and done every year that you are in the plan in any way at all, even if you are no longer making contributions.
years. They claimed business owners could obtain large tax deductions. Insurance companies, agents and others earned very large life insurance commissions in the process. Eventually, the IRS cracked down on the unsuspecting business owners. Not only did they lose the tax deductions, but they were also fined, in addition to being charged penalties and interest. A skilled CPA with extensive IRS experience could usually eliminate the penalties and reduce the fines. Most accountants, tax attorneys and others have been unsuccessful in accomplishing this.
After the business owner was assessed the fines and lost his tax deduction, he had another huge, unforeseen problem. The IRS then came back and fined him a huge amount of money for not telling on himself under IRC 6707A. If you participate in a listed or reportable transaction, you must alert the IRS or face a large fine. In essence, you must alert the IRS if you were in a transaction that has the possibility of tax avoidance or evasion. Not only must you file Form 8886 telling on yourself, but the form needs to be filed properly, and done every year that you are in the plan in any way at all, even if you are no longer making contributions.
Why own Variable Annuities? Frequently you see the word “guarantee” associated with Variable Annuities (VA). What does that mean?
The typical VA acts as a tax deferred tax shelter, like an IRA. Unlike an IRA, anyone can open any sized (e.g.: $1,000 or $1 million) Variable Annuity, independent of his or her income, age or employment status. This is quite attractive for someone looking to shelter income from taxation, particularly for those that cannot achieve their goal with an IRA.
Traditional IRAs can only be established by those under the age of 70 ½ and those (or the spouse of those, if married filing jointly) who receive income or alimony. An IRA has contributions limits, which limit the tax sheltering benefits.
In almost all cases a variable annuity (VA) is a form of life insurance. The traditional insurance salesperson markets the variable annuity as a way to safely invest in the financial markets, without risking your principal. We all know there is no such thing as a free lunch inside or outside the world of finance. The insurance salesperson will often tell you, you cannot earn less than 6% or 7% on the investment.
Inherent in most VA policies are two components, an investment component and an insurance component. The investment component offers a choice of investments similar to mutual funds, called sub-accounts. It is the insurance component that is hard to understand.
The insurance component of a VA includes a death benefit. The death benefit “guarantees” the beneficiary will receive the greater of the: value of the VA at death, or the total of all contributions.
Here is an example of an investor, whose portfolio was 100% invested in a stock sub-account of a variable annuity. Assuming the investor invested $5,000 each year for 20 years, contributions would total $100,000. If the average net return per year were 7%, the Variable Annuity would be worth approximately $205,000 at the end of 20 years.
One evening this same Variable Annuity (VA) buyer learns the stock market has declined 50% in that day. This buyer realizes his VA is worth $102,500, has a stroke and dies. His beneficiary would receive the greater of $102,500 or $100,000. In this case the beneficiary would receive $102,500.
So, where was the death benefit? There was NO death benefit. The only time the beneficiary receives a death benefit is when the policy value falls below the total value of contributions made AND the investor dies.
Well, at least the investor did not have to pay any expenses for a death benefit they did not receive, right? Wrong. In most Variable Annuities the policies are mortality and expense charges, called M&E charges. The “E”, or expense charge, represents the administrative component of the M&E. The “M”, or mortality charge, represents the life insurance component of M&E.
The industry average annual annuity charge for non-group open variable annuity contracts was 1.37%. In addition to M&E charges, most VA policies have surrender costs. These are penalties assessed on the policy if the investor moves the policy before the surrender period ends. Some insurance companies offer annuities with 10-12 surrender periods and 12%-15% surrender charges – something has to pay for the “Insurance Agents” commission. Of course, this is in addition to all underlying costs of the sub-accounts (similar to expense ratios inside all mutual funds).
A few companies offer no-load, low cost, no surrender penalty VA policies. An investor can transfer from one annuity to another annuity without tax consequences, like an IRA transfer, but it must be handled with care.
Like an IRA transfer, the transfer of a VA policy, should be conducted on a custodian-to-custodian basis. The transfer qualifies as a tax-free transfer if conducted using Internal Revenue Code 1035. A “1035 Exchange”, as it is commonly referred to as, is the transfer of one insurance policy into another insurance policy. Handled incorrectly, and the investor could have a taxable distribution and hefty tax bill to boot.
Guarantee? Insurance companies have been very quick to highlight the “guarantee” in their VA policies. A word of caution on that “guarantee”: it is not a guarantee by the U.S. Federal Government. Unlike FDIC, the guarantee provided by an insurance company is a promise by an insurance company that it will pay. Some investors who buy their variable annuities from bank are like-wise fooled. The bank does not guarantee the annuity. If the insurance company goes out of business, you cannot rely on the bank or the FDIC to pay you. This applies to all annuities. My Mother recently called me from a bank. By the way, my Mother belongs to Phi Beta Kappa and is intelligent. She was telling me how the bank manager was (helping her) get out of her CDs, where she pays taxes on the interest. She was being switched to FIXED Annuities. I asked her to ask the bank manager what were the guaranteed in the Fixed Annuities, what were the surrender charges if she wanted to cancel, what taxes would she have to pay if when she cashed the annuities in. A few minutes later my mother got back on the phone that the bank manager not only could not answer the questions, but now the manager was too busy to help her. In case you are wondering, had my Mother make the mistake of buying an annuity from the bank, there would have been substantial sales charges, substantial surrender charges and substantial taxes due when my Mother finally cashed the annuity. What should my Mother do? That is like asking me to prescribe without knowing the symptoms. That is a topic for another article. You may want to look at www.taxlibrary.us to read some very informative articles on point.
Buyer Beware! By the way, your typical Insurance Agent gets paid by commission therefore you have to be very careful. If you do the exchange wrong tax consequences will result.
-----------------------------
Lance Wallach, CLU, ChFC, the National Society of Accountants Speaker of the Year, speaks and writes extensively about retirement plans, Circular 230 problems and tax reduction strategies. He speaks at more than 40 conventions annually, writes for over 50 publications, is quoted regularly in the press, and has written numerous best-selling AICPA books, including Avoiding Circular 230 Malpractice Traps and Common Abusive Business Hot Spots. He does extensive expert witness work and has never lost a case.
Contact Lance Wallach at 516.938.5007 or visit www.taxlibrary.us or http://www.taxaudit419.com/
The information provided herein is not intended as legal, accounting, financial or any type of advice for any specific individual or other entity. You should contact an appropriate professional for any such advice.
The typical VA acts as a tax deferred tax shelter, like an IRA. Unlike an IRA, anyone can open any sized (e.g.: $1,000 or $1 million) Variable Annuity, independent of his or her income, age or employment status. This is quite attractive for someone looking to shelter income from taxation, particularly for those that cannot achieve their goal with an IRA.
Traditional IRAs can only be established by those under the age of 70 ½ and those (or the spouse of those, if married filing jointly) who receive income or alimony. An IRA has contributions limits, which limit the tax sheltering benefits.
In almost all cases a variable annuity (VA) is a form of life insurance. The traditional insurance salesperson markets the variable annuity as a way to safely invest in the financial markets, without risking your principal. We all know there is no such thing as a free lunch inside or outside the world of finance. The insurance salesperson will often tell you, you cannot earn less than 6% or 7% on the investment.
Inherent in most VA policies are two components, an investment component and an insurance component. The investment component offers a choice of investments similar to mutual funds, called sub-accounts. It is the insurance component that is hard to understand.
The insurance component of a VA includes a death benefit. The death benefit “guarantees” the beneficiary will receive the greater of the: value of the VA at death, or the total of all contributions.
Here is an example of an investor, whose portfolio was 100% invested in a stock sub-account of a variable annuity. Assuming the investor invested $5,000 each year for 20 years, contributions would total $100,000. If the average net return per year were 7%, the Variable Annuity would be worth approximately $205,000 at the end of 20 years.
One evening this same Variable Annuity (VA) buyer learns the stock market has declined 50% in that day. This buyer realizes his VA is worth $102,500, has a stroke and dies. His beneficiary would receive the greater of $102,500 or $100,000. In this case the beneficiary would receive $102,500.
So, where was the death benefit? There was NO death benefit. The only time the beneficiary receives a death benefit is when the policy value falls below the total value of contributions made AND the investor dies.
Well, at least the investor did not have to pay any expenses for a death benefit they did not receive, right? Wrong. In most Variable Annuities the policies are mortality and expense charges, called M&E charges. The “E”, or expense charge, represents the administrative component of the M&E. The “M”, or mortality charge, represents the life insurance component of M&E.
The industry average annual annuity charge for non-group open variable annuity contracts was 1.37%. In addition to M&E charges, most VA policies have surrender costs. These are penalties assessed on the policy if the investor moves the policy before the surrender period ends. Some insurance companies offer annuities with 10-12 surrender periods and 12%-15% surrender charges – something has to pay for the “Insurance Agents” commission. Of course, this is in addition to all underlying costs of the sub-accounts (similar to expense ratios inside all mutual funds).
A few companies offer no-load, low cost, no surrender penalty VA policies. An investor can transfer from one annuity to another annuity without tax consequences, like an IRA transfer, but it must be handled with care.
Like an IRA transfer, the transfer of a VA policy, should be conducted on a custodian-to-custodian basis. The transfer qualifies as a tax-free transfer if conducted using Internal Revenue Code 1035. A “1035 Exchange”, as it is commonly referred to as, is the transfer of one insurance policy into another insurance policy. Handled incorrectly, and the investor could have a taxable distribution and hefty tax bill to boot.
Guarantee? Insurance companies have been very quick to highlight the “guarantee” in their VA policies. A word of caution on that “guarantee”: it is not a guarantee by the U.S. Federal Government. Unlike FDIC, the guarantee provided by an insurance company is a promise by an insurance company that it will pay. Some investors who buy their variable annuities from bank are like-wise fooled. The bank does not guarantee the annuity. If the insurance company goes out of business, you cannot rely on the bank or the FDIC to pay you. This applies to all annuities. My Mother recently called me from a bank. By the way, my Mother belongs to Phi Beta Kappa and is intelligent. She was telling me how the bank manager was (helping her) get out of her CDs, where she pays taxes on the interest. She was being switched to FIXED Annuities. I asked her to ask the bank manager what were the guaranteed in the Fixed Annuities, what were the surrender charges if she wanted to cancel, what taxes would she have to pay if when she cashed the annuities in. A few minutes later my mother got back on the phone that the bank manager not only could not answer the questions, but now the manager was too busy to help her. In case you are wondering, had my Mother make the mistake of buying an annuity from the bank, there would have been substantial sales charges, substantial surrender charges and substantial taxes due when my Mother finally cashed the annuity. What should my Mother do? That is like asking me to prescribe without knowing the symptoms. That is a topic for another article. You may want to look at www.taxlibrary.us to read some very informative articles on point.
Buyer Beware! By the way, your typical Insurance Agent gets paid by commission therefore you have to be very careful. If you do the exchange wrong tax consequences will result.
-----------------------------
Lance Wallach, CLU, ChFC, the National Society of Accountants Speaker of the Year, speaks and writes extensively about retirement plans, Circular 230 problems and tax reduction strategies. He speaks at more than 40 conventions annually, writes for over 50 publications, is quoted regularly in the press, and has written numerous best-selling AICPA books, including Avoiding Circular 230 Malpractice Traps and Common Abusive Business Hot Spots. He does extensive expert witness work and has never lost a case.
Contact Lance Wallach at 516.938.5007 or visit www.taxlibrary.us or http://www.taxaudit419.com/
The information provided herein is not intended as legal, accounting, financial or any type of advice for any specific individual or other entity. You should contact an appropriate professional for any such advice.
Servicers for 419, 419e, 412i, Section 79, captive insurance, listed transactions
 | The Offices of Lance Wallach Offer help with the following: Tax penalty abatement | |
| IRS audit appeals | |
| U.S. Tax Court cases | |
| Multinational taxation consulting | |
| Incorporating your business | |
| Recovering losses from insurance | |
| companies & brokerage firms | ||
| Tax shelter analysis | |
| Pension plan reviews & evaluations | |
| 419 & 412 type benefit plan analysis, | |
| remediation | ||
| Offshore tax shelter issues | |
| IRS listed transactions assistance | |
| Expert witness testimony for tax, | |
| insurance & retirement plan cases | ||
| SSI & Disability benefits advocates | |
| Pension & Benefit Plan Fraud | |
| Insurance Company Fraud |
Will Your Municipal Bond or Your Life Insurance Company Still Have Value Next Year?
Investor protection with municipal bonds is so spotty that there is potential for much mischief.
Disclosure, that bedrock of fair securities markets, is the heart of the problem facing municipal investors. Municipal issuers often don't file the most basic reports outlining their operating results or material changes in their financial conditions.
Even though hospitals, cities and states that borrow money are required by their bond covenants to make such filings, nondisclosure among the nearly 60,000 issuers is common.
To keep reading, click here
Disclosure, that bedrock of fair securities markets, is the heart of the problem facing municipal investors. Municipal issuers often don't file the most basic reports outlining their operating results or material changes in their financial conditions.
Even though hospitals, cities and states that borrow money are required by their bond covenants to make such filings, nondisclosure among the nearly 60,000 issuers is common.
To keep reading, click here
Using VEBAs For Employer-Owners | LifeHealthPro
Imagine a program that allows large, flexible, tax-deductible contributions to accumulate and compound on a tax-deferred basis. Distributions are received at any age without penalties, regardless of the amount. Assets are protected from creditors' claims. There are income and estate tax-free survivor benefits. The program is fully insured and, by a favorable Letter of Determination, the Internal Revenue Service has granted a tax exemption to the Section 501(c)(9) trust.
The program also can acquire tax-deductible life insurance, provide funds to pay estate taxes and provide tax-deductible educational benefits for children.
These are some of the benefits of a Voluntary Employees' Beneficiary Association (VEBA). VEBAs are tax-exempt trusts (or nonprofit corporations) that are described in Section 501(c)(9) of the Internal Revenue Code of 1986. They require a letter of determination from the IRS granting tax exempt trust status. If the statutory requirements are met and the IRS issues a favorable Letter Of Determination, then, in general, the qualified cost of contributions by an employer to the VEBA that are ordinary and necessary expenses, are deductible for federal income tax purposes.
FBAR Offshore Bank Accounts and Foreign Income Attacked by IRS
You may want to think about participation in the IRS' offshore tax amnestyprogram (called the Offshore Voluntary Disclosure Initiative). Do you want to play audit roulette with the IRS? Some clients think they are too small to be prosecuted. They are wrong.
To the average businessperson, only the guys with tens of millions secretly stashed in Swiss bank accounts get prosecuted. Don't tell that to Michael Schiavo. He was just prosecuted for hiding money in a Swiss account back in 2003. How much money does the IRS say he hid? A whopping $90,000. That's it.
But wait, there is more to the story. Schiavo attempted to do a quiet disclosure during the 2009 amnesty but instead of filling out the amnesty paperwork, he simply trusted that by coming forward voluntarily he could avoid criminal prosecution. He was wrong on all counts. Nothing is too small for the IRS, and nothing is too old.
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