Addis v. C.I.R., 02-73628.
| Decision Date | 08 July 2004 |
| Docket Number | No. 02-73628.,02-73628. |
| Citation | 374 F.3d 881 |
| Parties | Charles H. ADDIS; Cindi Addis, Petitioners-Appellants, v. COMMISSIONER OF INTERNAL REVENUE, Respondent-Appellee. |
| Court | U.S. Court of Appeals — Ninth Circuit |
Steven Toscher, Hochman, Salkin, Rettig, Toscher & Perez, P.C., Beverly Hills, CA, for the petitioners-appellants.
Steven W. Parks, Attorney, Tax Division, Department of Justice, Washington, DC, for the respondent-appellee.
Appeal from a Decision of the United States Tax Court. IRS No. 6628-00.
Before CANBY, NOONAN, and THOMAS, Circuit Judges.
Charles H. Addis and his wife Cindi Addis appeal a Tax Court judgment denying them charitable contribution deductions for their payments to the National Heritage Foundation ("NHF") in 1997 and 1998. The central question is whether 26 U.S.C. § 170(f)(8) disallows the deductions because the receipts substantiating the transfers to the NHF stated the Addises received no consideration though they expected the NHF to use their funds to pay part of the premiums on life insurance benefitting their trust pursuant to a split-dollar arrangement. We hold that section 170(f)(8) bars the deductions and affirm the decision of the Tax Court.
Charles Addis is a farm labor contractor and his wife Cindi Addis is a bookkeeper. They are the initial trustees and beneficiaries of the Charles H. Addis Family Trust, which they created on May 7, 1986. On the couple's deaths, the trust benefits their family members.
The NHF is a tax-exempt organization under 26 U.S.C. § 501(c)(3) and is eligible to receive tax-deductible contributions under 26 U.S.C. § 170 if tax code requirements are satisfied.
The questions we consider arise from the Addises' attempts to claim charitable contribution deductions for payments to the NHF in connection with a "charitable split-dollar" arrangement. "In general, a charitable split-dollar insurance transaction involves a transfer of funds by a taxpayer to a charity, with the understanding that the charity will use the transferred funds to pay premiums on a cash value life insurance policy that benefits both the charity and the taxpayer's family." I.R.S. Notice 99-36, 1991-1 C.B. 1284.
The split-dollar agreement
On October 10, 1997, Charles Addis wrote NHF president Dr. J.T. Houk stating the Addis trust was going to obtain life insurance on Cindi Addis and offering the NHF the option of buying an interest in the policy. Charles Addis wrote: "The premium for National Heritage Foundation's interest under the option is $36,000.00 a year for 12 years."
On October 15, 1997, the NHF and Charles Addis, in his capacity as trustee, entered an agreement governing the NHF's option of buying policy benefits from the Addis trust. The same day, Commercial Union Life Insurance Company issued a policy on Cindi Addis, then 44, to Charles Addis in his capacity as trustee. The initial death benefit was $991,789. The planned annual premium was $40,000.
Under the split-dollar agreement, the NHF had the option of paying $36,000 — 90% of the planned annual premium — for a "planned premium period" of twelve years. The NHF would then be entitled to $557,280 — about 56% of the initial death benefit — if Cindi Addis died. The NHF's share of the death benefit was fixed even if the death benefit increased in value, as projected.
If the policy was surrendered and the NHF had made all its premium payments, the NHF would be entitled to its "termination account value" — the aggregate of all the premiums it had paid over the years minus the "cost" of its share of the death benefit measured using a factor set by the agreement called the "annual renewable term (ART)" rate.
Though the agreement contemplated payments by the NHF for twelve years, the NHF could opt to not pay all or any part of its premium portion. Depending on the shortfall and amount of prior payments, the NHF's benefits might be curtailed. Because the NHF used the Addises' $36,000 transfers to pay policy premiums in each of the tax years at issue, we discuss only the provisions that govern if the NHF paid its full portion.
Under the split-dollar agreement, the Addis trust would pay only 10% of the planned annual premium but be entitled to about 44% of the initial death benefit plus the projected increases in the death benefit over the years. The Addises retained the sole right to borrow on the policy or surrender the policy. If the Addises surrendered the policy, the Addis trust owned the net cash surrender value less the NHF's termination account value.
If the policy death benefit fell below the amount sufficient to give the NHF its share of the death benefit, the Addis trust would pay the shortfall. Similarly, if the policy's net surrender value proved insufficient to provide the NHF with the amount to which it was entitled on surrender, the Addis trust would pay the shortfall.
Insurance marketer Lawrence D. Cronin testified: "The Addis case was actually the first case that we ever sold" involving the split-dollar concept. NHF President Houk testified that about 600 to 700 of the more than 4,500 foundations under the NHF aegis were based on similar split-dollar arrangements.
The money transfers by the Addises, premium payments by the NHF, and charitable contribution deduction claims
The same day that Charles Addis wrote to Houk proposing the split-dollar arrangement, the Addises paid $285 to the NHF to establish a charitable foundation under the NHF umbrella. The NHF sent the Addises a plaque and operations manual, as was the organization's practice with new foundations.
About a month after the NHF and the Addis trust entered the split-dollar agreement, the Addises sent a $36,000 check dated November 13, 1997 to the NHF. Charles Addis's cover letter stated in part:
I am expecting you will use my donation to pay the premiums on the policy payable to my foundation. Although I realize you are under no obligation to do so, I request that you use my donation for that purpose.
In another check, also dated November 13, 1997, the Addises paid Commercial Union Life their premium portion of $4,000.
Charles Addis acknowledged in testimony before the Tax Court that the Addises expected the NHF to use their money to pay premiums pursuant to the split-dollar option agreement. Charles Addis explained that "they said they were going to make the payments." Charles Addis testified that if the NHF did not make the premium payments, "we would, obviously, contact them and say, why not, and if we weren't satisfied, we'd quit giving them money."
On November 19, 1997, the NHF credited the Addis Family Foundation with the Addises' $36,000 transfer, then debited the Addis account the same day to reflect that the $36,000 was sent to Commercial Union Life Insurance Company. The NHF's receipt substantiating the Addises' payment stated: "In accordance with IRS regulations, the National Heritage Foundation did not provide any goods or services to the donor in return for the contribution."
The Addises claimed a $36,285 charitable contribution deduction on their 1997 tax return for their transfer of funds to the NHF.
In October 1998, the Addises again made a $36,000 payment to the NHF and sent $4,000 to Commercial Union. The NHF again credited the Addis Family Foundation with $36,000 and debited the Addis account on the same day to reflect that the Addises' money was forwarded to Commercial Union. The NHF receipt substantiating the Addises' payment stated: "NHF did not provide any goods or services to the donor in return for the contribution."
The Addises claimed a $36,000 charitable contribution deduction on their 1998 tax return for their transfer of funds to the NHF.
The NHF ceased engaging in split-dollar arrangements after Congress in 1999 enacted 26 U.S.C. § 170(f)(10), which disallows deductions when an organization uses transferred funds to pay premiums on life insurance "with respect to the transferor" and levies a 100% excise tax on the premium payments. See Ticket to Work and Work Incentives Improvement Act of 1999, Pub.L. 106-170, § 537, 113 Stat. 1860, 1936. The Senate report regarding section 170(f)(10) characterized charitable split-dollar arrangements as "an abuse of the charitable contribution deduction" where, "[i]n substance, the charity receives a transfer of a partial interest in an insurance policy, for which no charitable contribution deduction is allowed." S.Rep. No. 106-201, at 42 (1999). The denial of a deduction in section 170(f)(10) was intended to be a clarification and restatement of preexisting law: "While there is no basis under present law for allowing a charitable contribution deduction in these circumstances," section 170(f)(10) was enacted to "stop the marketing of these transactions immediately." Id.
On March 20, 2000, the Addises received a notice of deficiency in their 1997 and 1998 federal income taxes due to the disallowance of the charitable contribution deductions they claimed for their transfers to the NHF. The notice stated that the Addises owed $13,062 for the 1997 tax year and $12,960 for the 1998 tax year.
The Addises petitioned the Tax Court for a redetermination. The Tax Court ruled that the deductions were disallowed by 26 U.S.C. § 170(f)(8) because the Addises' contemporaneous substantiation of their payments to the NHF inaccurately stated they received no consideration in exchange and did not reveal that they expected the NHF to use their funds to pay premiums on life insurance benefitting them in part. Addis v. Comm'r, 118 T.C. 528, 536-37, 2002 WL 1284945 (2002). The Tax Court found that
Petitioners and NHF designed a scheme purporting to provide no benefits to petitioners in exchange (or consideration) for petitioners' payments. However, petitioners received substantial benefits from NHF under the life insurance policy.... [P]etitioners expected, and they told NHF that they...
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