The Veba: an Employee Fringe Benefit Planning Tool
| Publication year | 1981 |
| Pages | 3068 |
| Citation | Vol. 10 No. 12 Pg. 3068 |
1981, December, Pg. 3068. The VEBA: An Employee Fringe Benefit Planning Tool
Fifty-two years after Congress created the income tax exemption for the Voluntary Employees' Beneficiary Association ("VEBA")(fn1) that provides "life, sick, accident, or other benefits to the members," final regulations to § 501(c)(9) of the Internal Revenue Code of 1954, as amended ("the Code"), were adopted by the Department of the Treasury.(fn2) As a result, substantial tax benefits and funding flexibility may be available to employers or employee groups which seek to provide "fringe benefits" to employee members through a VEBA. The following examples are offered to provide a practical focus on some of the possible uses of this concept.
ABC is a corporation with 50 employees. It is concerned with the rapidly rising cost of insurance premiums for employee disability benefits. ABC determines that it can reduce its overall cost of providing employee disability benefits by establishing and making contributions to a VEBA. The VEBA will invest ABC's contributions to yield a high investment return which will not be subject to taxation. Such income, together with contributions made by ABC, will be utilized to fund the disability benefits. In order to protect against the risk of abnormally high benefit claims or catastrophic losses while the VESA's reserves are building up, the VEBA will purchase inexpensive "stop-loss" or "excess" insurance.
PQR Corporation currently provides major medical insurance for all of its employees. It learns that many of its rank and file employees would prefer other employee benefits. PQR considers the establishment of a VEBA that permits its employees to choose between benefits such as health insurance, medical expense reimbursement for expenses not covered under the PQR health insurance policy, or reimbursement for child care expenses.
XYZ Corporation wishes to provide its employees with additional employee incentive "perks." It would like to establish and make contributions to a VEBA that will purchase a mountain condominium to be used by its employees as a vacation facility.
Each of the above hypotheticals contains examples of the possible uses of a VEBA that appear to be available under the new Treasury regulations. However, the practitioner should be careful to note that there are a good number of unresolved tax issues, many of which are pending before the Internal Revenue Service ("IRS").
The purpose of this article is to provide an analysis sufficient to acquaint the attorney whose practice includes employee benefit planning with this tool, the issues involved, and the opportunities for planning that are and may become available. More technical points are raised in the notes for the tax practitioner and a short bibliographic reference is presented as an Appendix.
Originally, the VEBA was financed by employees to provide themselves with life, sick, accident and other benefit
protection. The present concept permits funding of such benefits through employer contributions, through employee contributions and through earnings thereon, or a combination of the three. The anticipated tax advantages are the deducibility of contributions by the employer and the employee,(fn3) the accumulation of receipts and earnings free from the burden of income taxation(fn4) and the tax-free payment of benefits to the employee or the employee's beneficiary.(fn5)
A VEBA may furnish a broad range of benefits in the form of cash or in-kind distributions or services.(fn6) Such include death benefits;(fn7) sick and accident benefits;(fn8) and other benefits that are "similar"(fn9) to life, sick, or accident benefits. Other benefits include(fn10) vacation benefits, providing vacation facilities, reimbursing vacation expenses, subsidizing recreational activities (such as athletic leagues), job readjustment allowances, economic dislocation income maintenance payments, disaster loans and grants, supplemental unemployment compensation benefits,(fn11) certain severance payments, education or training benefits, personal legal service benefits,(fn12) educational benefits to a member's dependents,(fn13) and child care facilities for preschool and school-age dependents.(fn14)
A note of caution is appropriate at this point. It appears clear that the new regulations deal with what benefits the VEBA may provide. However, the regulations do not answer the questions directly as to whether the employer's contributions to the VEBA are taxed to the employee when the contributions are made or whether the benefits received by the employee are to be taxed to the employee or the employee's dependent.(fn15) Therefore, the practitioner must have a full understanding of all other related provisions of the Code in order to determine such taxation,(fn16) and must be prepared to draft the VEBA documents in such a way as to protect such favorable tax treatment.
A VEBA may not provide more than an insubstantial(fn17) amount of non-qualifying benefits. These include commuting expenses, property damage insurance, non-distress loans to members, savings facilities and retirement benefits.(fn18) Workmen's compensation benefits are not qualifying benefits because they are mandatory benefits under state law (Rev. Rul. 74-18, 1974-1 CB 139).
A VEBA must limit membership to individuals who are employees that share an employment-related "common bond." The common bond can be through a single employer, or affiliated employers or employers in the same line of business in the same geographic area, or employees subject to a collective bargaining agreement or through a labor union.(fn19) However, the IRS seems to take the position that a professional association or business league exempt under Code § 501(c)(6) may not set up a life insurance program under a VEBA for its members, even though they may be employees of the same industry, because such a program would constitute unrelated business income.(fn20) Ten percent of the membership may comprise non-employees, so long as they share an "employment-related bond" with the other employees.(fn21)
The statute speaks of a "voluntary" employee beneficiary association. Initially, the IRS took the position that the VEBA must, at least, have an independent trustee. However, the final regulations state that the "independent trustee"
requirement will be met if the VEBA is an "employee welfare benefit plan" under the Employee Retirement Income Security Act of 1974 ("ERISA").(fn22) This would make the VEBA subject to the reporting and disclosure requirements and the fiduciary responsibility provisions of ERISA (§ 101 et seq.).
The rules governing anti-discrimination in VEBAs are more flexible than those that pertain to qualified pension and profit sharing plans. Objective limitations can be written into the VEBA that restrict membership to employees who are located in the same geographical area, who comprise a reasonable classification of employees, who have had a reasonable minimum period of service, or who are full-time employees.(fn23)
A VEBA may also exclude employees covered by another "comparable" plan or by collective bargaining agreements and may require employees to contribute to the plan, may allow differences in coverage based upon differences in...
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