Warning! Taxpayers Who Have Adopted 419, 412i, Sec. 79 and Captive Insurance Plans Beware.
The Internal Revenue Service has declared an all out war on what they deem as fraudulent tax shelters. Unfortunately in their zeal to close the tax gap, many legitimate taxpayers find themselves in the crosshairs of the IRS. Regulators view many 419, 412i, Section 79 and captive insurance plans as abusive tax shelters. That has given rise to the dreaded “listed transaction” designation. Does this mean these plans are illegal? In many cases, no.
These plans are often sold by insurance agents, CPA’s and financial planners. They have legitimate business uses and can shelter some income from tax. Unfortunately, some promoters have abused these plans subjecting their clients to audits, additional tax, penalties and interest.
Because these plans are now listed transactions, taxpayers must normally report these transactions to the IRS. Of course, there is a special IRS form, Form 8866. Penalties for failing to report these transactions can be $200,000 for a business and $100,000 for individuals.
We have found that many tax preparers are unaware of the reporting requirements or improperly complete the forms. Even if the plan is legitimate, failing to alert the IRS of your plan or late filing can subject you to heavy penalties.
So many plans failed IRS scrutiny that thousands of taxpayers found themselves on the wrong end of an IRS penalty assessment. Things got so bad that Congress imposed a moratorium on certain penalties for several months. That moratorium expired in June and the IRS has resumed aggressive penalty assessments.
Many people, alarmed by audit notices, stopped taking deductions or funding their plan thinking that would end the problem. Unfortunately, as long as they continue to receive a tax benefit, annual reports are required. (One problem we have encountered is filing the listed transaction report only in the year the plan was created or funded.)
Filing the reports alerts the Service to pay extra scrutiny to these plans. For that reason, getting a “second opinion” is always wise advice, especially if purchasing the plan through a promoter or commissioned sales representative or agent.
As I indicated earlier, there are many legitimate plans. Unfortunately a combination of zealous enforcement and misinformed promoters or promoters simply interested in making a commission has caused widespread compliance issues.
Insure that your CPA or tax accountant is familiar with the rules or learns them before investing and before filing your return. And think twice before trusting an insurance agent or financial planner for complex tax advice. Better agents will often team up with an experienced tax professional to insure that the client investing is truly eligible for special tax treatment. “Cookie cutter” legal opinions offered by some plan promoters are an invitation to disaster.
If you have a plan that fails IRS scrutiny, you may have recourse against the promoter or agent who sold it to you.