Anesthesia Serv. Med. Grp., Inc. Emp. Protective Trust v. Comm'r of Internal Revenue
| Decision Date | 24 December 1985 |
| Docket Number | 13936-83.,Docket Nos. 13935-83 |
| Citation | 85 T.C. 1031,85 T.C. No. 60 |
| Parties | ANESTHESIA SERVICE MEDICAL GROUP, INC. EMPLOYEE PROTECTIVE TRUST, SAN DIEGO TRUST & SAVINGS BANK, TRUSTEE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent |
| Court | U.S. Tax Court |
OPINION TEXT STARTS HERE
ASMG, a medical professional corporation, established Trust to provide protection for malpractice claims resulting from acts of ASMG's employees. HELD, ASMG may not deduct contributions to Trust. HELD FURTHER, Trust was not a Voluntary Employees' Beneficiary Association. HELD FURTHER, Trust is not taxable as an insurance company. HELD FURTHER, Trust constituted a trust and not an association for tax purposes. HELD FURTHER, Trust was a grantor trust whose income is taxable to ASMG. RAYMOND F. ZVETINA and EDWARD L. KANE, for the petitioners.
M. K. MORTENSEN, for the respondent.
Respondent determined the following deficiencies in petitioners' Federal income taxes:
+------------------------------------------+
¦Petitioner ¦Year¦Deficiency¦
+--------------------------+----+----------¦
¦Anesthesia Service Medical¦1974¦$4,155 ¦
+--------------------------+----+----------¦
¦Group, Inc. (ASMG) ¦1976¦1,411 ¦
+--------------------------+----+----------¦
¦Docket No. 13936-83 ¦1977¦207,313 ¦
+--------------------------+----+----------¦
¦ ¦1978¦264,619 ¦
+--------------------------+----+----------¦
¦ ¦1979¦144,762 ¦
+--------------------------+----+----------¦
¦Anesthesia Service Medical¦1977¦332,602 ¦
+--------------------------+----+----------¦
¦Group, Inc. Employee ¦1978¦358,606 ¦
+--------------------------+----+----------¦
¦Protective Trust (trust) ¦1979¦289,720 ¦
+--------------------------+----+----------¦
¦Docket No. 13935-83 ¦ ¦ ¦
+------------------------------------------+
By amended answer respondent determined increased deficiencies in tax of petitioner ASMG of $300 for 1978 and $27,601 for 1979. The issues for decision are as follows: (1) whether petitioner ASMG may deduct contributions made to petitioner Trust; (2) whether petitioner Trust was a Voluntary Employees' Beneficiary Association; (3) whether petitioner Trust is taxable as an insurance company; (4) whether petitioner Trust constituted an association or a trust for tax purposes; and (5) whether petitioner Trust was a grantor trust .
Some of the facts have been stipulated and are so found. The stipulation of facts and exhibits attached thereto are incorporated herein by this reference.
Petitioner Anesthesia Service Medical Group, Inc. (ASMG) is a California professional corporation incorporated on April 16, 1970, and having its principal place of business in San Diego, California. ASMG maintained its books and records and filed its Federal income tax returns on the cash method of accounting and the calendar year.
Petitioner Anesthesia Service Medical Group, Inc. Employee Protective Trust (the Trust) is a trust established in California on December 31, 1976. The Trust maintained its books and records and filed returns (reporting an exemption from income tax under section 501(c)(9) 1) on the accrual method of accounting and the calendar year.
ASMG's principal activity was the rendition of anesthesiology services to patients through its physician employees, primarily at eight San Diego County hospitals. ASMG recruited prospective physician employees primarily from medical schools, teaching institutions, and the military. To maintain employment with ASMG, a physician had to be accepted as a Diplomate of the American Board of Anesthesiology within 78 months from the time of initial employment with ASMG.
The number of physician employees of ASMG ranged from 49 in 1974 to 56 in 1979. The number of nonphysician employees of ASMG ranged from 26 in 1974 to 34 in 1979.
After 2 years of employment with ASMG, a physician became entitled to purchase one share of ASMG stock. The number of outstanding shares ranged from 43 in 1974 to 52 in 1979. Outstanding shares were owned only by physician employees actively practicing anesthesiology, and no shareholder owned more than one share.
Various factors necessitated that ASMG maintain protection covering malpractice acts of its employees. The hospitals served by ASMG and third-party health care providers, such as Aetna and Blue Cross, required that physicians carry malpractice insurance or similar financial protection. The San Diego County Greater Health Plan, a group of physicians organized in 1978 to provide health insurance to employers and their employees and of which ASMG was a member, required all members to provide malpractice protection. Under regulations promulgated by the California Board of Medical Quality Assurance, all shareholders of a professional corporation with more than three shareholders were jointly and severally liable for professional negligence claims against the corporation to the extent of $150,000 per claim or $450,000 for all claims per year, unless the corporation possessed malpractice insurance or other security in such amounts. ASMG would have been unable to employ highly qualified physicians unless it provided malpractice protection.
From the date of incorporation through 1976, ASMG purchased commercial malpractice insurance covering acts of its employees from various independent insurance companies. The annual policies purchased for 1974, 1975, and 1976 provided maximum coverage of $5 million per claim and $5 million for all claims per year. The cost to ASMG of such policies rose from $4,116 per physician employee in 1974 to $19,507 per physician in 1976. After receiving a 1977 premium quote of $23,076 per physician for a policy providing maximum coverage of $1 million per claim and $1 million for all claims, ASMG decided, based upon a non-unanimous shareholder vote, to discontinue purchasing commercial malpractice insurance and provide malpractice protection through the Trust.
ASMG established the Trust on December 31, 1976. The declaration of trust, executed by San Diego Trust & Savings Bank, as Trustee (Trustee), and ASMG, as Trustor, directed Trustee to pay, for the benefit of ASMG's employees (not limited to physicians)—
amounts certified for payment in accordance with Trustor's employment contract by a claims committee appointed by the Board of Directors of Trustor, for liability for claims of medical malpractice which relate to a liability imposed on such beneficiary by law for damages arising out of the performance by such beneficiary of professional services rendered or which should have been rendered during the time such person was an Employee of Trustor * * *. Certification by the Claims Committee shall be conclusive as to the eligibility of the claim for payment and the Trustee shall have no liability because of any payment made in accordance with such certification.
* * * The limits of the payments from the Trust for one claim shall be One Million Dollars ($1,000,000.00) and said amount shall be the total limit of the payments for all damages exclusive of costs of defense and supplemental payments, arising out of the rendering or failing to render professional services upon which the claim is based, regardless of the number of persons who sustain damages, the number of claims reported or suits filed on account of such damages, or the number of Employees or beneficiaries involved or alleged to be involved therein. * * *
* * * If the covered beneficiary has valid and collectible insurance coverage as to any claim or suit to which this Paragraph A applies, the payment to be made under this Paragraph shall not apply unless and until the limits of liability of such insurance have been exhausted, and then only in an amount necessary to make the total coverage including the insurance, equal to the sum of One Million Dollars ($1,000,000.00).
Under the declaration of trust, ASMG's board of directors could direct Trustee to purchase a commercial malpractice policy instead of paying the above amounts.
The declaration of trust directed Trustee to invest Trust assets in ‘eligible securities‘ as defined in section 16430 of the California Government Code. Although the trust instrument gave Trustee the power to ‘manage, control, sell, and exchange‘ Trust assets, Trustee was not to invest in eligible securities the income from which was subject to Federal income tax, without prior approval of an investment committee appointed by ASMG.
ASMG retained the power to amend the terms of the Trust, including replacement of Trustee and termination of the Trust. Under no circumstances, however, could Trust assets be distributed to or for the benefit of ASMG or its employees, except for the payment of malpractice claims or the purchase of malpractice insurance. Upon termination of the Trust, Trust assets would be distributed to tax- exempt corporations qualifying under section 501(c)(3) and selected by ASMG's board of directors.
The employment contract between ASMG and its employee physicians for 1977, referred to in the declaration of trust and executed on December 31, 1976, provided that each physician would work exclusively for ASMG and that all accounts receivable for professional services rendered by the physician would be the property of ASMG. Under the contract, ASMG agreed to pay each physician compensation equal to a percentage of the excess of the monthly collections on accounts receivable generated by the physician over $1,296. The percentage was 71.3 percent until the physician's compensation exceeded the maximum amount upon which contributions could be made under ASMG's retirement plans and 89.1 percent thereafter. No compensation was payable to the physician, however, when the balance of the accounts receivable attributable to him was less than $20,000.
The employment contract also stated:
Employer (ASMG) has established and agrees to maintain for the...
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