IRS Ruling Addresses Employer's Use of VEBA Assets | Practical Law

IRS Ruling Addresses Employer's Use of VEBA Assets | Practical Law

The Internal Revenue Service (IRS) issued a private letter ruling addressing an employer's proposed amendment to its voluntary employees' beneficiary association (VEBA) trust, which funded health benefits for retired employees, to create a subaccount to fund health benefits for its active employees. The IRS concluded that the tax benefit rule would not apply and the employer would not be subject to excise taxes under Section 4976 of theInternal Revenue Code.

IRS Ruling Addresses Employer's Use of VEBA Assets

Practical Law Legal Update w-016-3019 (Approx. 4 pages)

IRS Ruling Addresses Employer's Use of VEBA Assets

by Practical Law Employee Benefits & Executive Compensation
Published on 21 Aug 2018 • USA (National/Federal)
The Internal Revenue Service (IRS) issued a private letter ruling addressing an employer's proposed amendment to its voluntary employees' beneficiary association (VEBA) trust, which funded health benefits for retired employees, to create a subaccount to fund health benefits for its active employees. The IRS concluded that the tax benefit rule would not apply and the employer would not be subject to excise taxes under Section 4976 of the Internal Revenue Code.
The IRS has issued a private letter ruling addressing an employer's proposed amendment to its voluntary employees' beneficiary association (VEBA) trust, which funded health benefits for retired employees, to create a subaccount within the trust to fund health benefits for active employees (Priv. Ltr. Rul. 201833014 (Aug. 17, 2018)). In its ruling, the IRS concluded that:
  • The tax benefit rule did not apply concerning the proposed amendment.
  • The employer would not be subject to excise taxes under Code Section 4976 (26 U.S.C. § 4976).

Background

The employer in this ruling, a public utility company, sponsored a Code Section 501(c)(9) VEBA trust that held assets to fund a health plan that paid benefits to collectively bargained employees who retired from the employer (26 U.S.C. § 501(c)(9)). The employer also sponsored a health plan for its active collectively bargained employees and their dependents, though that plan was not funded by the VEBA trust.
The employer deducted the amounts of all its contributions to the trust over a four-year period. Owing to collectively bargained changes in plan design that altered the employer's benefit obligations, the trust became overfunded (that is, the trust's assets exceeded the present value of benefit obligations for the trust's participants).
In its ruling request, the employer proposed to amend the trust to provide that part of the trust's assets would be:
  • Separated into a subaccount, through a one-time transfer of funds.
  • Used to fund benefits under the employer's plan for active employees and their dependents.
The employer represented that all trust amendments related to the ruling request would:
  • Be effective prospectively.
  • Apply only regarding health benefits that were newly payable on a prospective basis.
For example, no reimbursements would be made for medical expense claims that had already been incurred.
The employer requested rulings that:
  • The transfer of trust assets to the subaccount would not cause the employer to recognize income under the tax benefit rule.
  • The transfer of assets to the subaccount and future use of those assets to provide health benefits to active employees and their dependents would not result in excise taxes under Code Section 4976 (26 U.S.C. § 4976).

IRS Rulings

Tax Benefit Rule

Under the tax benefit rule, a taxpayer that receives a tax benefit from a deduction in an earlier year must recognize income in a later year if an event occurs that is "fundamentally inconsistent with the premise on which the deduction was initially based" (Hillsboro Nat'l Bank v. Comm'r of Internal Revenue, 460 U.S. 370, 384 (1983)).
The employer in this case took deductions in previous years for contributions to the VEBA trust for a separate welfare benefit fund under a collective bargaining agreement (CBA) (26 U.S.C. § 419A(f)(5)). According to the IRS, amending the trust would require amounts that were initially contributed to fund health benefits for collectively bargained retirees to be used instead to fund benefits for active collectively bargained employees. However, the IRS concluded that transferring assets to a separate subaccount for this purpose was not fundamentally inconsistent with the premise on which the employer's earlier deduction was based. This is because the trust would continue to be a separate welfare benefit fund under a CBA (within the meaning of Code Section 419A(f)(5)). As a result, the IRS concluded that the tax benefit rule did not apply.

Excise Taxes

The IRS also concluded that the proposed trust amendment adding a subaccount would not result in any portion of the trust reverting to the employer's benefit. Therefore, amending the trust and using trust assets to fund benefits for active employees and their dependents would not result in "disqualified benefits" (under Code Section 4976(b)(1)(C)) (26 U.S.C. § 4976(b)(1)(C)). The IRS also concluded that the transaction, in and of itself, would not cause the employer to be liable for excise taxes under Code Section 4976. (Code Section 4976(a) imposes a 100% excise tax if an employer maintains a welfare benefit fund and there is a disqualified benefit during the tax year (26 U.S.C. § 4976(a)).

Practical Impact

A trust amendment of the kind addressed in this ruling may also raise concerns involving prohibited inurement to an employer (under Code Section 501(c)(9)), and an earlier IRS ruling addressed inurement issues in this context (Priv. Ltr. Rul. 201532037 (Aug. 7, 2015)). In addition to the Code, plan asset restrictions under the Employee Retirement Income Security Act (ERISA) should also be considered (see Practice Note, ERISA Fiduciary Duties: Overview: Duty of Loyalty). In general, an IRS private letter ruling is directed only to the taxpayer that requested it and may not be used or cited as precedent.