Discussion:Insurance Company Demutualization

Eugene A. Fisher et al. v. U.S. (Ct Cl 8/6/2008) 102 AFTR 2d

Basically the court ruled that taxpayers were permitted to use their investment in the contract as the cost of the shares.

Here's the link: http://www.legalbitstream.com/scripts/isyswebext.dll?op=get&uri=/isysquery/irl12c3/1/doc

PS: Thanks, D&T for the McLaughlin fax

http://www.demutualization.biz/0151611699.pdf

I don't think my TY2005 and TY2006 versions of ProSeries will allow me to perform the same query although I really haven't looked at this carefully.

Anyway, things on this front seem to be in a state of flux and will likely remain so for the foreseeable future. I might contact these clients to let them know that they are potentially affected, but a little voice is telling me not to open that can of worms at this early stage. My preliminary assessment is that the difference in the tax liability for 3 of these clients will be between $500 and $600, but the difference for the 4th client could be more than $1,300. At this point, I'm just fiddling with numbers to see if there is any need to look further. I plan to proceed with caution, especially since the IRS hasn't exactly thrown in the towel on this.

However, according to a post above, "Kiplinger indicates IRS will not acquiesce and thus refund claims will be prospective and held by the Service." Thus it becomes a little dodgy at this nascent stage. I don't want to spin my clients up, charge them to amend the returns, then have the IRS say, "Not so fast. No refund for you."

It's 7 months before the amendment window slams shut on TY2005 returns so we have the luxury of time to see whether the issue becomes settled one way or another. "When in doubt, procrastinate." If the amending deadline gets close with no resolution, I might advise the clients to amend to preserve the issue, but for right now, the best course might just be to keep an eye on it. I might let them know that seeds have been planted but that nothing has ripened yet. That way they'll at least hear something first from me rather than picking up misinformation on the street and coming to me with their minds full of garbage.

So there is not a ton of money on the table at least insofar as my clients are concerned. Nevertheless, I always guard against being cavalier with other people's money.

If anyone wants me to post how to perform the ProSeries databases queries, let me know. The procedures I used aren't exactly elegant, but they delivered the results.

Seems the court took the easy way out:

"That being the case, and the amount received by plaintiff being less than its cost basis in the insurance policy as a whole, the court finds that plaintiff, in fact, did not realize any income on the sale of the stock in question and, therefore, is entitled to the requested refund"

First, these procedures only isolate the Schedule D returns in your ProSeries database. You then have to scan the returns to isolate those containing demutualization entries. However, this scanning takes only about 10 seconds per return.

In TY2007 ProSeries, in the Homebase View, click on Tools, Client Analyzer. Then select return type = 1040 Individual. Then select Has Capital Gains or Losses. then select Go. These steps isolate the Schedule D returns. For example, in my database, it isolated 90 returns out of a total of 753.

You then call up each return by doubleclicking on the name. Then hit F6, then the letter D. You then scan the Schedule D for any demutualization entries. These should stand out as ones with a Cost Basis of zero. If there are no demutualization entries, click on the Homebase icon, answer No to whether you wish to save the file, and go on to the next file. Once I fell into a routine, it was taking me under 10 seconds to check each file.

If you encounter a return with a demutualization entry, hit Control-T to call up the Tax Summary. Make note of the client's original tax liability which will include the tax on the demutualization "sale." Hit Escape to get rid of the Tax Summary window, change the demutualization basis to the same as the sales price, thereby zeroing out the demutualization "profit." Then look at the Tax Summary again and make note of the revised tax liability. The difference between this reduced liability and the original liability is, of course, the tax hit that the client incurred as a result of the demutualization "sale." All other things being equal, this would be the refund the client would be entitled to if he amends, and IF the IRS follows the Fisher decision.

The procedures in TY2006 and TY2005 ProSeries are a little more cumbersome since those years lacked the Client Analyzer feature. But this is how I worked around that.

In the Homebase view, select Homebase, then Column Headings. Scroll down slightly, and in the Available Columns window (on the left) highlight Capital Gain (Loss). Then select Add. This places Capital Gain (Loss) at the bottom of the stack in the right window. Highlight Capital Gain (Loss) in the right window, and keep clicking on Move Up until Capital Gain (Loss) is the second entry in the stack, just below the Client Name entry. Then click OK. You should now be back at the Homebase view, and the Capital Gain (Loss) column should be the 2nd column just to the right of the Client Name column. Now doubleclick on the Capital Gain (Loss) column heading. This will re-sort your Homebase view to place all of the Schedule D returns at the top of the stack. (They won't be in alphabetical order, but that doesn't matter.)

At this point, when you try to select the first return for viewing, you'll be presented with a "Save View Settings" box. Select "Save and rename these changes in a new view" and click OK. In the "Save View As" box, type in any name, such as "Cap Gns." (The name doesn't matter because you're going to delete this view in just a few minutes.) As soon as you click Save, you should be presented with the first return in the Homebase. Use the procedures above for scanning the Schedule D to isolate the demutualization returns.

Once you're done with this particular Homebase view, select any other view, such as "1040." Then select Homebase and on the dropdown list select Delete Tab. Highlight the Cap Gns view, select Delete, and answer Yes to the confirmation prompt.

And that's all there is to it.

On the other hand, please note that while we were dithering about the size of our clients' potential refunds arising from the demutualization ruling, and the realistic expectation of getting them, the window of opportunity for filing a claim for 2004 (for returns with two extensions) slammed shut on October 16th, last week. Two claims that I filed years before this issue became "public" - i.e., before IRS finally got their antennae up - resulted in refunds totalling more than $20,000. Don't ask how I did it; but I didn't fib on the amended returns.

...Assume you were going to amend for this--what would you do? Remove the proceeds completely from Schedule D? No way!

...Have the proceeds equal to basis on Schedule D? Yes, but *only* if the taxpayer *has* that much basis. You have computed the total (net) investment in the contract, haven't you...?

...Will a gain ever be recognized on these transactions and how will they be computed? Yes, there may easily be a gain. That's gonna happen whenever the proceeds exceed the basis. See question just above....