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Prosser v. Commissioner of Internal Revenue

United States Court of Appeals, Second Circuit

February 4, 2015

ROBERT L. PROSSER, III, MARY C. PROSSER, MCGEHEE FAMILY CLINIC, P.A., Petitioners-Appellants,
v.
COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee

Argued October 8, 2014

Appeals from the United States Tax Court, Nos. 15646-08, 15647-08.

Appeal from orders of the United States Tax Court upholding accuracy-related penalties against Petitioners under § 6662A of the Internal Revenue Code for understatements attributable to their involvement in the Benistar 419 Plan and Trust. The Tax Court held that the Benistar Plan was substantially similar to the listed tax-avoidance transaction described by the Internal Revenue Service in Notice 95-34. The Tax Court also held that Petitioners had adequate notice of the penalties under § 6662A and that the increased penalty rate under § 6662A(c) applied. We AFFIRM.

JOHN T. MORIN (Ira B. Stechel, on the brief), Wormser, Kiely, Galef & Jacobs LLP, New York, NY, for Petitioners-Appellants.

RANDOLPH L. HUTTER (Tamara W. Ashford, Acting Assistant Attorney General; Thomas J. Clark, on the brief), Tax Division, Department of Justice, Washington, D.C., for Respondent-Appellee.

Before: JACOBS, SACK, and DRONEY, Circuit Judges.

OPINION

Page 583

Droney, Circuit Judge

Robert and Mary Prosser (" the Prossers" ) and the McGehee Family Clinic (" the Clinic," and collectively " Petitioners" ) filed petitions for redetermination in the United States Tax Court challenging the Commissioner of Internal Revenue's (" Commissioner" ) determination of tax deficiencies and assessment of penalties against them under § 6662A of the Internal Revenue Code, 26 U.S.C. § 1 et seq. (" I.R.C." ). The Commissioner had determined that Petitioners were deficient based on a contribution by the Clinic to a multiple-employer welfare benefit plan, the Benistar 419 Plan and Trust (" the Benistar Plan" or " the Plan" ), which the Commissioner concluded was not an " ordinary and necessary" business expense within the meaning of I.R.C. § 162(a). The Commissioner also determined that the Benistar Plan was " substantially similar" to the listed tax-avoidance transaction described by the Internal Revenue Service (" IRS" ) in I.R.S. Notice 95-34, 1995-1 C.B. 309 (" Notice 95-34" ).[1]

Page 584

Because the Prossers had an understatement of income on their joint personal return attributable to the Clinic's contribution to the Benistar Plan, the Commissioner assessed an accuracy-related penalty against them under I.R.C. § 6662A, as well as an increased accuracy-related penalty against the Clinic.

Petitioners and other participants in the Benistar Plan who had been assessed similar deficiencies by the Commissioner agreed to be bound by the final resolution of a petition for redetermination in Curcio v. Commissioner, T.C. Memo 2010-115, 99 T.C.M. (CCH) 1478, 2010 WL 2134321 (2010). In Curcio v. Commissioner, 689 F.3d 217 (2d Cir. 2012), this Court affirmed the Tax Court's decision that employer contributions to the Benistar Plan were not " ordinary and necessary" business expenses within the meaning of the I.R.C. Id. at 225. As a result, the Tax Court in these proceedings upheld the Commissioner's determination of tax deficiencies against Petitioners based on the Clinic's contribution to the Benistar Plan. The only issue in this consolidated appeal[2] is whether the Tax Court was justified in upholding the Commissioner's imposition of additional accuracy-related penalties under I.R.C. § 6662A, an issue not resolved in the Curcio proceedings.

For the reasons set forth below, we hold that the Benistar Plan is substantially similar to the listed tax-avoidance transaction identified by the IRS in Notice 95-34. We therefore uphold the Commissioner's assessment of accuracy-related penalties against the Prossers and the Clinic under I.R.C. § 6662A. We also hold that Petitioners had adequate notice of the potential for penalties under § 6662A and that the increased penalty rate under § 6662A(c) applies to the Clinic. Accordingly, we AFFIRM the decisions of the Tax Court.

BACKGROUND

I. The Benistar Plan

Petitioners and the Commissioner " stipulated into the record in this case [ Curcio 's] evidence and trial testimony." McGehee Family Clinic, P.A., v. Comm'r, T.C. Memo 2010-202, 100 T.C.M. (CCH) 227, 2010 WL 3583386, at *1 (2010). We therefore rely on Curcio 's factual findings concerning the Benistar Plan.

The Benistar Plan was established in 1997 and was designed to be a multiple-employer welfare benefit plan under I.R.C. § 419A(f)(6). Its stated purpose was to allow employers to provide " death benefits funded by individual life insurance policies for a select group of individuals chosen by the Employer." Curcio, 689 F.3d at 220 (quoting the Benistar Plan brochure). While I.R.C. § 419 generally imposes limits on the amount an employer can deduct for contributions to a welfare benefit fund, the Benistar Plan was intended to fall within § 419A(f)(6)'s exemption from deduction limits for contributions made to " any welfare benefit fund which is part of a 10-or-more employer plan." I.R.C. § 419A(f)(6)(A).

Employers that were enrolled in the Benistar Plan contributed to a trust account operated by the Plan that was used

Page 585

to pay premiums on life insurance policies for certain employees, which included " one or more key Executives on a selective basis." Curcio, T.C. Memo 2010-115, 2010 WL 2134321, at *2, *5. However, the individual employee participants selected the insurance policies. Employers could also contribute additional amounts above the amount the Benistar Plan required to keep the underlying insurance policy active. T.C. Memo 2010-115, Id. at *5. These additional contributions " remain[ed] in the trust account," were " not used to make additional payments on the underlying insurance policy," and would have substantial cash value based on the portion of the contributions not necessary for coverage. Id. Claiming that the Plan fell within § 419A(f)(6)'s exemption from deduction limits, the promoters of the Benistar Plan informed participating employers that tax deductions for these contributions, which the plan separately recorded for each employer, were " [v]irtually [u]nlimited." Id.

Employers could terminate their participation in the Benistar Plan at any time. T.C. Memo 2010-115, Id. at *6. From mid-2002 to mid-2005, the Benistar Plan distributed the underlying policies of terminated accounts to the insured employees for ten percent of the cash surrender value of the policy. Id. Beginning in mid-2005, the Benistar Plan began to charge covered employees the entire fair market value of their underlying policy when the employer terminated participation. T.C. Memo 2010-115, Id. at *7. However, the Benistar Plan did not require this payment immediately, but rather allowed the insured employee to borrow from the trust the cost of the purchase, providing as collateral the insurance policy itself. Id. In lieu of charging interest on the loan, the Benistar Plan charged an insured employee ten percent of the net surrender value of the policy, which had to be prepaid at the time the insured employee requested to withdraw the underlying policy. Id.

To summarize, the Benistar Plan allowed employers to make tax-free contributions for life insurance policies for certain " key" employees, and allowed additional contributions--also tax-free--above what was required to cover the potential death benefits of the policies. Those employees could then " retrieve the value in those policies with minimal expense" after participation in the Benistar Plan was terminated. T.C. Memo 2010-115, Id. at *20.

In Curcio, the Tax Court held that contributions to the Benistar Plan by certain other businesses--a construction company, a mortgage broker, and automobile dealerships--were not " ordinary and necessary" business expenses eligible for deduction under I.R.C. § 162(a). Id. The Tax Court explained that taxpayers " used [the] Benistar Plan to funnel pretax business profits into cash-laden life insurance policies over which they retained effective control. As a result, contributions to [the] Benistar Plan are more properly viewed as constructive dividends to petitioners and are not ordinary and necessary business expenses under [§ ] 162(a)." T.C. Memo 2010-115, Id. at *13. According to the Tax Court, the Benistar Plan was " a thinly disguised vehicle for unlimited tax-deductible investments." T.C. Memo 2010-115, Id. at *20.

This Court affirmed the Tax Court's decision in Curcio, explaining that " contributions [to the Benistar Plan] were made solely for the personal benefit of petitioners," and " were a mechanism by which petitioners could divert company profits, tax-free, to themselves, under the guise of cash-laden insurance policies that were purportedly for the benefit of the businesses, but were actually for petitioners' personal gain." Curcio, 689 F.3d at 226. As a result, we held that the Tax Court was correct in concluding that contributions to the Benistar Plan were not deductible by those businesses, and that the employees

Page 586

in whose name these contributions were made should have listed the contributions as personal income. Id. Penalties under I.R.C. § 6662A, however, were not at issue in Curcio because § 6662A penalties only applied to tax returns filed after October 22, 2004, see American Jobs Creation Act of 2004, Pub. L. No. 108-357, § 812(f), 118 Stat. 1418, 1580, and Curcio ...


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