The Internal Revenue Service has recently been auditing 412(i) defined-benefit pension plans.They are seeking substantial taxes and penalties from what they characterize as "abusive plans," but they do not regard all 412(i) plans as necessarily abusive. A properly structured and administered 412(i) plan can be an invaluable tax reduction tool for a business, but care must be taken.

In addition, the IRS is stepping up its examinations of companies' retirement plans this year, aiming to catch those that are cheating their workers or the government, and to ensure that the plans meet federal regulations. The offerings to be examined include traditional pensions, 401(k)s and profit-sharing plans.

A few years ago, when I spoke at the national convention of the American Society of Pension Professionals and Actuaries about VEBAs, the IRS spoke about their 412(i) concerns. Since then, they have escalated their challenges to "abusive" 412(i) plans. In fact, certain plans are on the IRS list of abusive tax transactions.

Taxpayers who participate in "listed transactions" are required to report them to the IRS or face substantial penalties ($100,000 in the case of individuals, and $200,000 in the case of entities). In addition, "material advisors" to these plans are required to maintain certain records and turn them over to the IRS on demand.

When I addressed the 2005 annual convention of the National Society of Public Accountants, the IRS spoke about Circular 230. My impression was that if an accountant signed a tax return that disclosed involvement in a listed or abusive tax transaction, there could be Circular 230 implications.

Most accountants are not familiar with 412(i) plans. They are a type of defined-benefit pension plan that allows a large contribution. The funding vehicles are usually fixed annuities and fixed life insurance. They are traditionally sold by life insurance professionals and financial planners. However, in recent years, they have gained in popularity.

Given the substantial taxes and penalties that may be assessed if the IRS concludes that a 412(i) plan has not been properly structured or administered, especially if it concludes that the plan is a listed transaction, it is important that the taxpayer know the rules.

The accountant should also be aware of them. The fact that a plan is being sold by an insurance company does not make it safer. Recently the IRS has taken action against plans sold by insurance companies.

Lance Wallach speaks and writes extensively about VEBAs, 412(i) plans, retirement plans, tax reduction strategies and estate planning. For more information, visit or call (516) 938-5007.

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