Overview
If you have been reading my articles for a while, you should know by now that I am a quirky guy with quirky interests. In the old days, I had a fairly good record in sports – football, baseball, and track. Nevertheless, I enjoyed the weight room more than I enjoyed the sports I played and became an accomplished powerlifter. Hence, it is true that Nowotny knows squat! In the old days, I was a mediocre musician (trombone and baritone horn) but ended up loving all of the great horn bands of the day – Chicago, Blood, Sweat and Tears, and Tower of Power. I was a horrible engineering student and needed something to save myself academically, so I became and Spanish and Portuguese major at West Point because I liked Latin music and Brazilian music. In tax planning, my adventures have not been much different. Following the quirkiness of my nature, I became interested in private placement life insurance and the use of Split Dollar life insurance (“Split Dollar”).
This article focuses on the impact of the U.S. Supreme Court in Loper Bright Enterprises v. Raimondo, 603 U.S. (2024) and how it might apply to Split Dollar life insurance and possibly resurrect one of my favorite life insurance planning techniques from the Old Days.
The Loper Bright Decision
The U.S. Supreme Court ruled in a 6-2 vote in Loper Bright Enterprises v. Raimondo, 603 U.S. (2024), to overrule the Chevron Doctrine. As a result of the ruling, federal courts no longer must defer to the interpretation of ambiguous laws by governmental agencies. If Congress enacts a tax law that is ambiguous or unclear (how many tax laws are clear?), the Treasury Department’s interpretation of that law in Regulations does not have to be deferred to by the courts. Instead, the courts themselves can interpret the ambiguous law.
Under Chevron (Chevron U.S.A., Inc. v. Natural Resources Defense Council, 467 U.S. 837 (1984)), the Courts would give great weight, or “deference” to federal regulations issued by governmental agencies that interpreted ambiguous Congressional legislation.
Under Chevron, a federal agency including the IRS, had to conform to any clear legislative statements when interpreting and applying a federal law. If the agency did so, then federal courts gave deference to the agency when the law was ambiguous if the agency’s interpretation was reasonable in resolving the legislative ambiguity. The Chevron Doctrine gave substantial authority to guidance issued by administrative agencies. The Supreme Court has that authority directed that back to the courts after the Loper decision.
The Supreme Court stated that under Section 706 of the Administrative Procedure Act, federal courts must exercise independent legal judgment when deciding whether an agency has acted within its statutory authority in issuing Regulations. The courts may no longer defer to an agency’s interpretation of the law simply because the statute is ambiguous.
The level of deference after the Loper decision may depend on what the particular statute itself says about regulations. It would seem that Treasury Regulations issued by the Treasury Department generally without a specific direction to do so in the particular statute, might have less weight than before Loper. In the Split Dollar realm, detailed guidance was issued interpreting these laws. If there was no grant of express direction in the statute for the Treasury to issue guidance, these decades-old Regulations be subject to challenge. Consequently, the taxpayer may have the ability to rely on the application and regulation prior to the issuance of Treasury Regulation 1.61-22.
Revisiting Equity Split Dollar
Split Dollar life insurance is a contractual arrangement between two or more parties to share the benefits of a life insurance policy. More commonly known for employee benefit purposes, Split Dollar also has powerful applications in personal income and estate tax planning. Split Dollar has been in planning use since before the first revenue ruling on Split Dollar in 1955. The IRS issued final regulations in 2003 unilaterally, despite the existence of several decades of revenue rulings and private letter rulings dealing with the taxation of Split Dollar. The fact of the matter is that IRS needed to kill Equity Split Dollar and issued final Split Dollar regulations to kill it finally. The Supreme Court’s decision in Loper and rescission of the Chevron Doctrine may provide taxpayers with the opportunity to say, “Not so fast!”
Equity Split Dollar was a powerful arrangement that divided the policy cash value and death benefit between the sponsor and policyowner. Typically, the sponsor would pay the entire premium and provide the sponsor with a cash value and death benefit interest equal to cumulative premiums. The excess cash value and death benefit above cumulative premiums accrued for the benefit of the policyowner without current taxation on the excess cash value buildup. The policyowner was taxed for income and gift tax purposes on a trust owned policy based on the value of the economic benefit (term insurance cost) of the death benefit. The Policyowner was not taxed on the inside buildup for income and gift tax purposes, but only on the economic benefit measured by the lesser of the PS 58 table term cost or insurer’s one year term cost. Needless to say, this arrangement provided enormous benefits for the taxpayer in a host of different planning scenarios.
We cannot definitively say at this point that Loper renders the final Split Dollar regulations obsolete, but there is a decent planning opportunity to evaluate this. Given the current status of the IRS, the IRS’ resistance to this argument might be delayed or muted. Nevertheless, a strong legal basis exists to move this tax position forward. Just saying!
Summary
Equity Split Dollar was better than sliced bread in its time. With a qualified “maybe,” the Supreme Court decision in Loper may have had the unintentional effect of weakening the IRS position effectuated in the final Split Dollar regulations. Given the powerful planning results, it may be time for the Taxpayer to strike back. The planning utility of Equity Split Dollar makes it worth the while to explore.
By: Gerald R. Nowotny, Esq.
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