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A warning for 419, 412i, Sec.79 and captive insurance


The dangers of being "listed"

Accounting Today: October 25, 2010
By: Lance Wallach

Taxpayers who previously adopted 419, 412i, captive insurance or Section 79 plans are in 
big trouble. 

In recent years, the IRS has identified many of these arrangements as abusive devices to 
funnel tax deductible dollars to shareholders and classified these arrangements as "listed transactions." 

These plans were sold by insurance agents, financial planners, accountants and attorneys 
seeking large life insurance commissions. In general, taxpayers who engage in a "listed 
transaction" must report such transaction to the IRS on Form 8886 every year that they 
"participate" in the transaction, and you do not necessarily have to make a contribution or 
claim a tax deduction to participate.  Section 6707A of the Code imposes severe penalties 
($200,000 for a business and $100,000 for an individual) for failure to file Form 8886 with 
respect to a listed transaction. 

But you are also in trouble if you file incorrectly.  

I have received numerous phone calls from business owners who filed and still got fined. Not 
only do you have to file Form 8886, but it has to be prepared correctly. I only know of two 
people in the United States who have filed these forms properly for clients. They tell me that 
was after hundreds of hours of research and over fifty phones calls to various IRS 

The filing instructions for Form 8886 presume a timely filing.  Most people file late and follow 
the directions for currently preparing the forms. Then the IRS fines the business owner. The 
tax court does not have jurisdiction to abate or lower such penalties imposed by the IRS. 
Many business owners adopted 412i, 419, captive insurance and Section 79 plans based 
upon representations provided by insurance professionals that the plans were legitimate 
plans and were not informed that they were engaging in a listed transaction.  
Upon audit, these taxpayers were shocked when the IRS asserted penalties under Section 
6707A of the Code in the hundreds of thousands of dollars. Numerous complaints from 
these taxpayers caused Congress to impose a moratorium on assessment of Section 6707A 

The moratorium on IRS fines expired on June 1, 2010. The IRS immediately started sending 
out notices proposing the imposition of Section 6707A penalties along with requests for 
lengthy extensions of the Statute of Limitations for the purpose of assessing tax.  Many of 
these taxpayers stopped taking deductions for contributions to these plans years ago, and 
are confused and upset by the IRS's inquiry, especially when the taxpayer had previously 
reached a monetary settlement with the IRS regarding its deductions.  Logic and common 
sense dictate that a penalty should not apply if the taxpayer no longer benefits from the 

Treas. Reg. Sec. 1.6011-4(c)(3)(i) provides that a taxpayer has participated in a listed 
transaction if the taxpayer's tax return reflects tax consequences or a tax strategy described 
in the published guidance identifying the transaction as a listed transaction or a transaction 
that is the same or substantially similar to a listed transaction.  Clearly, the primary benefit in 
the participation of these plans is the large tax deduction generated by such participation.  It 
follows that taxpayers who no longer enjoy the benefit of those large deductions are no 
longer "participating ' in the listed transaction.   But that is not the end of the story. 
Many taxpayers who are no longer taking current tax deductions for these plans continue to 
enjoy the benefit of previous tax deductions by continuing the deferral of income from 
contributions and deductions taken in prior years.  While the regulations do not expand on 
what constitutes "reflecting the tax consequences of the strategy", it could be argued that 
continued benefit from a tax deferral for a previous tax deduction is within the contemplation 
of a "tax consequence" of the plan strategy. Also, many taxpayers who no longer make 
contributions or claim tax deductions continue to pay administrative fees.  Sometimes, 
money is taken from the plan to pay premiums to keep life insurance policies in force.  In 
these ways, it could be argued that these taxpayers are still "contributing", and thus still 
must file Form 8886.

It is clear that the extent to which a taxpayer benefits from the transaction depends on the 
purpose of a particular transaction as described in the published guidance that caused such 
transaction to be a listed transaction. Revenue Ruling 2004-20 which classifies 419(e) 
transactions, appears to be concerned with the employer's contribution/deduction amount 
rather than the continued deferral of the income in previous years.  This language may 
provide the taxpayer with a solid argument in the event of an audit.  

Lance Wallach, National Society of Accountants Speaker of the Year and member of the 
AICPA faculty of teaching professionals, is a frequent speaker on retirement plans, financial 
and estate planning, and abusive tax shelters.  He writes about 412(i), 419, and captive 
insurance plans. He speaks at more than ten conventions annually, writes for over fifty 
publications, is quoted regularly in the press and has been featured on television and radio 
financial talk shows including NBC, National Public Radio's All Things Considered, and 
others. Lance has written numerous books including Protecting Clients from Fraud, 
Incompetence and Scams published by John Wiley and Sons, Bisk Education's CPA's 
Guide to Life Insurance and Federal Estate and Gift Taxation, as well as AICPA best-selling 
books, including Avoiding Circular 230 Malpractice Traps and Common Abusive Small 
Business Hot Spots. He does expert witness testimony and has never lost a case. Contact 
him at 516.938.5007, or visit or www.taxlibrary.

The information provided herein is not intended as legal, accounting, financial or any 
other type of advice for any specific individual or other entity.  You should contact an 
appropriate professional for any such advice.

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