Doctor's 419 plan deduction deniedBlog added by Roccy DeFrancesco on July 2, 2012
Roccy Defrancesco

Roccy DeFrancesco

MI

Joined: May 24, 2006

Unfortunately, for many, the fallout from those who used 419 plans is still happening today.

Some of you may remember the good old days of using 419 welfare benefit plans to help business owners (and doctors specifically) take massive 162 deductions where the money ultimately went into cash value life insurance. These plans were sold as a benefit plans, but they were really discriminatory deferred compensation plans in sheep’s clothing. For a while, there was a legitimate use of 419 plans with life insurance, but it didn’t take long for the industry to come crashing down due to the abuses that took place.

Unfortunately, for many, the fallout from those who used 419 plans is still happening today. In the Jerald W. White v. Commissioner (April 2012) case, a doctor who took large deductions for 419 plan contributions lost his audit and ended up not only paying back taxes but also interest and penalties.

What’s interesting about this case besides the reminder that bad tax structures can be financially devastating for clients is the discussion about back taxes and penalties. The defendant tried to get out of back taxes and penalties by stating that the deduction was based on reasonable cause and reliance on substantial authority for such deductions. The court pointed out that at no time did the doctor seek out independent counsel on the authority, and that the doctor relied on the promises of interested parties even though it was clear that the promises seemed too good to be true.

What we all can learn from this case is that if a structure sounds too good to be true, it just might be. Additionally, if you are going to counsel clients to use tax-favorable structures (and I recommend that you do so if you have reputable ones to offer), make sure the client has his or her own CPA or attorney review the plan. Bringing in his or her CPA or attorney can sometimes cause problems, but it’s a prudent move that should be done to protect the client.

One of my favorite income tax planning tools is the use of a captive insurance company (CIC). More than 24 states have CIC legislation and when done right, can be a risk-management tool that has other tremendous benefits, such as tax reduction and wealth building.

The problem with many CICs is that the administrators who set them up and run them do not do the proper underwriting necessary to create valid structures. Many fudge the numbers to get to deductions that are not warranted by the client’s income or type of business.

Many CIC administrators also do not have proper risk-shifting structures which can cause deductions taken by clients to be disallowed.
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