Did you Participate in a 419 or 412i Benefit Plan?
Lance Wallach is the nation's foremost expert on 419 plans, 412i plans, listed transactions, reportable transactions, Section 79 plans, captive Insurance plans
Veba, irs audit, Lance Wallach
Veba, irs audit, Lance Wallach: Lance Wallach is the nation's leading expert on VEBAs, 412(i), 419 and captive insurance plans.
In February 2014, proposed Treasury regulations were issued which, when finalized, will change the way in which most VEBA’s in the 6th Circuit (Michigan, Ohio, Kentucky and Tennessee) are taxed. Essentially, these funds’ investment income will be subject to tax except to the extent that the fund covers participants who are included in a collective bargaining agreement. VEBA’s that are substantially funded by tax-exempt employers are also exempt from the impact of the new regulations.
Each plan’s status should be reviewed as soon as possible in light of this upcoming change to determine the applicability of the changes to the plan, the potential tax cost to the plan, and any action that may be warranted to prepare for the change. Unless a plan covers only collectively bargained participants, or is funded substantially by tax-exempt employers, action may be required to calculate and plan for this tax and reporting responsibility.
Issue and Discussion: Although they are generally tax-exempt entities, VEBA’s are subject to unrelated business income tax (UBIT) on income that is other than “exempt function income.” Exempt function income is generally defined as any fees, dues, and other charges received in exchange for the provision of the VEBA benefits to the members or their dependents. Hence, investment income is potentially taxable, subject to several additional rules that are specific to VEBA’s.
The UBIT definition is driven by the VEBA funding limits under Internal Revenue Code (IRC) Sections 419 and 419A, as well as by the existence of collectively bargained employees within the fund’s members. The Tax Reform Act of 1984 created limits on the amount of funding allowed for VEBA’s under IRC Sections 419 and 419A. This funding limit is roughly equal to claims paid, plus certain administrative expenses, plus the amount of claims that are incurred but not reported (IBNR). There is an exception to these funding limits for arrangements that include collectively bargained participants, but only to the extent of the portion that encompasses the collectively bargained participants. In addition, if substantially all of the contributions to a VEBA are made by tax-exempt employers, the funding arrangement may meet an exception to these rules.
Unrelated business taxable income (UBTI) for VEBA’s is defined as the lesser of (1) the amount of funding that is set-aside and is in excess of the 419/419A amounts (generally, IBNR), or (2) the fund’s investment earnings. In most cases the investment earnings will be the lesser amount, and for purposes of this discussion this will be the presumed result. UBTI is taxed at the trust tax rates, which allow for favorable rates for qualified dividends and long-term capital gains, but subject ordinary income to a very steep graduated rate scale, with the highest rate being 39.6%. It is worth noting, in today’s investment environment, that the federal income tax exemption for income from municipal bonds is applicable to UBTI as well.
In 2003, in Sherwin Williams Co. Employee Health Plan Trust v. Commissioner, the 6th Circuit Court of Appeals ruled that to the extent that investment earnings were used to pay claims or administrative expenses, such am
In February 2014, proposed Treasury regulations were issued which, when finalized, will change the way in which most VEBA’s in the 6th Circuit (Michigan, Ohio, Kentucky and Tennessee) are taxed. Essentially, these funds’ investment income will be subject to tax except to the extent that the fund covers participants who are included in a collective bargaining agreement. VEBA’s that are substantially funded by tax-exempt employers are also exempt from the impact of the new regulations.
ReplyDeleteEach plan’s status should be reviewed as soon as possible in light of this upcoming change to determine the applicability of the changes to the plan, the potential tax cost to the plan, and any action that may be warranted to prepare for the change. Unless a plan covers only collectively bargained participants, or is funded substantially by tax-exempt employers, action may be required to calculate and plan for this tax and reporting responsibility.
Issue and Discussion:
Although they are generally tax-exempt entities, VEBA’s are subject to unrelated business income tax (UBIT) on income that is other than “exempt function income.” Exempt function income is generally defined as any fees, dues, and other charges received in exchange for the provision of the VEBA benefits to the members or their dependents. Hence, investment income is potentially taxable, subject to several additional rules that are specific to VEBA’s.
The UBIT definition is driven by the VEBA funding limits under Internal Revenue Code (IRC) Sections 419 and 419A, as well as by the existence of collectively bargained employees within the fund’s members. The Tax Reform Act of 1984 created limits on the amount of funding allowed for VEBA’s under IRC Sections 419 and 419A. This funding limit is roughly equal to claims paid, plus certain administrative expenses, plus the amount of claims that are incurred but not reported (IBNR). There is an exception to these funding limits for arrangements that include collectively bargained participants, but only to the extent of the portion that encompasses the collectively bargained participants. In addition, if substantially all of the contributions to a VEBA are made by tax-exempt employers, the funding arrangement may meet an exception to these rules.
Unrelated business taxable income (UBTI) for VEBA’s is defined as the lesser of (1) the amount of funding that is set-aside and is in excess of the 419/419A amounts (generally, IBNR), or (2) the fund’s investment earnings. In most cases the investment earnings will be the lesser amount, and for purposes of this discussion this will be the presumed result. UBTI is taxed at the trust tax rates, which allow for favorable rates for qualified dividends and long-term capital gains, but subject ordinary income to a very steep graduated rate scale, with the highest rate being 39.6%. It is worth noting, in today’s investment environment, that the federal income tax exemption for income from municipal bonds is applicable to UBTI as well.
In 2003, in Sherwin Williams Co. Employee Health Plan Trust v. Commissioner, the 6th Circuit Court of Appeals ruled that to the extent that investment earnings were used to pay claims or administrative expenses, such am