What Is It?
Charitable split dollar is an arrangement designed to lower the cost of life insurance premiums by taking advantage of the charitable deduction. This once popular tax avoidance strategy purportedly allowed the wealthy to pay for life insurance premiums with tax deductible dollars. Congress ended the use of the charitable split dollar device by eliminating the tax deduction.
The charitable split dollar transaction springs from the traditional split dollar arrangement (which generally involves employers and employees). Congress has not called into question the availability of traditional split dollar arrangements.
How Did It Work?
Before Congress changed the rules, the charitable split dollar arrangement was generally supposed to work like this: A taxpayer would make a contribution to a qualified charity and deducts the contribution on both his and her income tax and gift tax returns.
The charity would then pay the premium on a cash value policy that would insure the taxpayer's life. The policy is sometimes referred to as a "personal benefit contract." When the taxpayer died, the charity would get a portion of the policy proceeds. Typically, the charity would receive back its investment, plus a small profit. Members of the taxpayer's family would usually receive the bulk of the proceeds.
An IRS Warning
In response to the IRS's perception that the charitable split dollar arrangement was being abused by some promoters and thousands of taxpayers, the IRS issued Notice 99-36 in June of 1999, which warned both taxpayers and charitable organizations that this arrangement would not result in the expected tax benefits, and even worse, might subject them to other adverse tax consequences, including penalties.
Congress Shuts Down the Arrangement
In November of 1999, Congress passed the Ticket to Work and Work Incentives Improvement Act of 1999. Included in this bill is a provision that effectively bars the use of the charitable split dollar shelter by eliminating the charitable contribution deduction.
Specifically, for premiums paid after February 8, 1999, no deduction is allowed for a transfer to or for the use of a charitable organization, if in connection with the transfer the organization directly or indirectly pays, or has previously paid, or has an understanding that it will pay, any premium on any personal benefit contract on behalf of the transferor. (However, the 1999 legislation does not prevent the IRS from challenging the deductibility of transfers to charitable organizations prior to February 9, 1999 as part of split dollar arrangements.)
Charity May Lose Exempt Status
The tax exempt status of any charity that has participated in the split dollar arrangement may be challenged by the IRS.
Charity Will Be Subject to Excise Taxes
A charity that participates in a split dollar arrangement will be subject to an excise tax equal to the amount of premiums paid by the charity.
Charity May Be Subject to Penalties
A charity that participates in a split dollar arrangement may be subject to a number of penalties for "aiding and abetting the understatement of tax liability."
What Should You Do If You Participated In A Charitable Split Dollar Transaction?
If you haven't already done so, do not claim any charitable deduction in connection with the transactions. If you have already claimed such a deduction, the deduction may be disallowed in an audit. If this occurs, taxes, interest, and penalties will be assessed accordingly.
This material was prepared by Broadridge Investor Communication Solutions, Inc., and does not necessarily represent the views of The Retirement Group or FSC Financial Corp. This information should not be construed as investment advice. Neither the named Representatives nor Broker/Dealer gives tax or legal advice. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy. The publisher is not engaged in rendering legal, accounting or other professional services. If other expert assistance is needed, the reader is advised to engage the services of a competent professional. Please consult your Financial Advisor for further information or call 800-900-5867.
The Retirement Group is not affiliated with nor endorsed by fidelity.com, netbenefits.fidelity.com, hewitt.com, resources.hewitt.com, access.att.com, ING Retirement, AT&T, Qwest, Chevron, Hughes, Northrop Grumman, Raytheon, ExxonMobil, Glaxosmithkline, Merck, Pfizer, Verizon, Bank of America, Alcatel-Lucent or by your employer. We are an independent financial advisory group that focuses on transition planning and lump sum distribution. Please call our office at 800-900-5867 if you have additional questions or need help in the retirement planning process.
The Retirement Group is a Registered Investment Advisor not affiliated with FSC Securities and may be reached at www.theretirementgroup.com.