Neonatology Assocs., P.A. v. Comm'r of Internal Revenue

• Court: U.S. Tax Court
• Writing for the Court: LARO
• Citation: Neonatology Assocs., P.A. v. Comm'r of Internal Revenue, 115 T.C. 43, 115 T.C. No. 5 (T.C. 2000)
• Decision Date: 31 July 2000
• Docket Number: 2994–97,1208–97,4572–97.,2995–97,2985–97,2981–97,2795–97,No. 1201–97,1201–97
• Parties: NEONATOLOGY ASSOCIATES, P.A., et al.,1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent

115 T.C. 43

115 T.C. No. 5

NEONATOLOGY ASSOCIATES, P.A., et al.,1 Petitioners

v.COMMISSIONER OF INTERNAL REVENUE, Respondent

No. 1201–97

2795–97

2985–97

2995–97

1208–97

2981–97

2994–97

4572–97.

United States Tax Court.

July 31, 2000.

Taxpayers, professional medical corporations and sole proprietorship, in consolidated test cases, petitioned for redetermination of deficiency arising from disallowed deduction for contributions into Voluntary Employees' Beneficiary Association (VEBA) plans and treatment of contributions as taxable constructive dividends to physicians who owned the entities. The Tax Court, Laro, J., held that: (1) corporate employer/participants could not deduct contributions to VEBAs in excess of cost of term life insurance; (2) corporation could deduct payments made outside its VEBA for life insurance on two employees to the extent the payments funded term life insurance; (3) sole proprietorship/participant could not deduct contributions to its VEBA to purchase life insurance for certain nonemployee; (4) proprietorship could not deduct contributions to its VEBA to purchase life insurance for its two employees for which it was beneficiary; (5) disallowed deductions were constructive dividends to entities' employee/owners; (6) accuracy-related penalty and addition to tax for failure to timely file return were warranted; and (7) penalties for frivolous positions or delay were not warranted.

Decision for IRS in part, and for taxpayer in part.

Judgment affirmed, 299 F.3d 221. Certain insurance salesmen formed two purported voluntary employees' beneficiary associations (VEBA's) to generate commissions on their sales of life and other insurance products purchased through the VEBA's. Each employer/participant contributed to its own plan formed under the VEBA's, and each plan generally provided that a covered employee would receive current-year (term) life insurance on his or her life. Premiums on the underlying insurance policies were substantially greater than the cost of term life insurance because they funded both the cost of term life insurance and credits which would be applied to conversion universal life policies of the individual insureds. The credits applied to a conversion policy were “earned” on that policy evenly over 120 months, meaning that policyholders generally could withdraw any earned amount or borrow against it with no out-of-pocket expense.Held: The corporate employer/participants (N and L) may not deduct contributions to their plans in excess of the cost of term life insurance.Held, further, L may deduct payments made outside its plan for life insurance on two of its employees to the extent the payments funded term life insurance.Held, further, neither M, a sole proprietorship/participant, nor N may deduct contributions to its plan to purchase life insurance for certain nonemployees.Held, further, sec. 264(a)(1), I.R.C., precludes M from deducting contributions to its plan to purchase life insurance for its two employees.Held, further, in the case of N and L, the disallowed deductions are constructive dividends to their employee/owners.Held, further, Ps are liable for the accuracy-related penalties for negligence or intentional disregard of rules or regulations determined by R under sec. 6662(a), I.R.C.; L also is liable for the addition to tax for failure to file timely determined by R under sec. 6651(a), I.R.C.Held, further, no P is liable for a penalty under sec. 6673(a)(1)(B), I.R.C.Neil L. Prupis, Kevin L. Smith, and Theresa Borzelli, for petitioners.

Randall P. Andreozzi, Peter J. Gavagan, Mark A. Ericson, and Matthew I. Root, for respondent.

LARO, J.

The docketed cases, consolidated for purposes of trial, briefing, and opinion, represent three test cases selected by the parties to resolve their disagreements as to certain voluntary employees' beneficiary association (VEBA) plans; namely, the Southern California Medical Profession Association VEBA (SC VEBA) and the New Jersey Medical Profession Association VEBA (NJ VEBA). ² The parties in 19 other cases pending before the Court have agreed to be bound by the decisions we render herein as to these VEBA issues.

Two of the test cases involve a corporate employer and one or more employee/owners. These employer/employee groups are the Neonatology Associates, P.A (Neonatology), group and the Lakewood Radiology, P.A. (Lakewood), group. These groups relate to two purported welfare benefit funds formed under the SC VEBA; namely, the Neonatology Employee Welfare Plan (Neonatology Plan) and the Lakewood Employee Welfare Plan (Lakewood Plan).³

The third test case involves an individual working as a sole proprietor and two of his employees. This group is the Wan B. Lo, Ph .D., D.O., d.b.a. Marlton Pain Control and Acupuncture Center (Marlton) group. The Marlton group relates to the Marlton Employee Welfare Plan (Marlton Plan), a purported welfare benefit fund formed under the NJ VEBA.⁴

In regard to each test case, respondent determined that the employer or sole proprietor could not deduct its or his contributions to the respective plan and, in the case of Neonatology and Lakewood, that the employee/owners had income to the extent that he or she benefited from a contribution.⁵ Respondent determined that each petitioner was liable for deficiencies in Federal income tax as a result of the VEBA determinations and that each petitioner was liable for a related accuracy-related penalty under section 6662(a) for negligence or intentional disregard of rules or regulations. In the case of Lakewood, respondent also determined that it was liable for a 15–percent addition to tax under section 6651(a) for failure to file timely its 1992 Federal income tax return and a section 6621 increased rate of interest on its 1991 deficiency as to interest accruing after July 20, 1995.

Each petitioner petitioned the Court to redetermine respondent's determinations. Respondent's notices of deficiency list the following deficiencies, addition to tax, and accuracy-related penalties: ⁶

Neonatology Group

Neonatology, docket No. 1201–97

+-----------------------------------------------------------------------------+
                ¦Year¦Deficiency¦Addition to Tax Sec. 6651  ¦Accuracy-Related Penalty Sec.    ¦
                ¦    ¦          ¦(a)(1)                     ¦6662(a)                          ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1992¦$1,620    ¦—                          ¦$324                             ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1993¦6,262     ¦—                          ¦1,252                            ¦
                +-----------------------------------------------------------------------------+
                

John J. and Ophelia J. Mall, docket No. 1208–97

+-----------------------------------------------------------------------------+
                ¦Year¦Deficiency¦Addition to Tax Sec. 6651  ¦Accuracy-Related Penalty Sec.    ¦
                ¦    ¦          ¦(a)(1)                     ¦6662(a)                          ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1992¦$6,186    ¦—                          ¦$1,237                           ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1993¦7,404     ¦—                          ¦1,481                            ¦
                +-----------------------------------------------------------------------------+
                

Lakewood Group

Lakewood, docket No. 2995–97

+-----------------------------------------------------------------------------+
                ¦Year¦Deficiency¦Addition to Tax Sec. 6651  ¦Accuracy-Related Penalty Sec.    ¦
                ¦    ¦          ¦(a)(1)                     ¦6662(a)                          ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1991¦$169,437  ¦—                          ¦$33,887                          ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1991¦—         ¦—                          ¦—                                ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1992¦71,110    ¦$10,667                    ¦14,222                           ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1993¦93,111    ¦—                          ¦18,622                           ¦
                +-----------------------------------------------------------------------------+
                

Estate of Steven Sobo, Deceased, Bonnie Sobo, Executrix, and Bonnie Sobo, docket No. 2795–97

+-----------------------------------------------------------------------------+
                ¦Year¦Deficiency¦Addition to Tax Sec. 6651  ¦Accuracy-Related Penalty Sec.    ¦
                ¦    ¦          ¦(a)(1)                     ¦6662(a)                          ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1991¦$27,729   ¦—                          ¦$5,546                           ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1992¦5,107     ¦—                          ¦1,021                            ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1993¦3,018     ¦—                          ¦604                              ¦
                +-----------------------------------------------------------------------------+
                

Akhilesh S. and Dipti A. Desai, docket No. 2981–97

+-----------------------------------------------------------------------------+
                ¦Year¦Deficiency¦Addition to Tax Sec. 6651  ¦Accuracy-Related Penalty Sec.    ¦
                ¦    ¦          ¦(a)(1)                     ¦6662(a)                          ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1991¦$42,047   ¦—                          ¦$8,409                           ¦
                +----+----------+---------------------------+---------------------------------¦
                ¦1992¦15,751    ¦—                          ¦3,150                            ¦

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