Workshop wAyne wisonG and JuAn Kelly
the tax deductibility of unpaid
employee welfare Benefit claims
When are incUrreD but not reported/unpaid (iBnr) claims de-
ductible? the iBnr deductibility rules for employee welfare benefit
programs are complex. Plans with 10 or more participating employ-
ers (whether multiemployer or multiple employer) and collectively bar-
gained plans with 50 or more participating employees are generally not
subject to the rules relating to iBnr. But it’s an important question for
single for-profit employers with self-funded health and welfare plans.
first, the fine print The following are some of the funda- mental concepts that guided us as we considered the deductibility question. ■ Sections 419 and 419A of the Inter- nal Revenue Code (IRC) limit deduct- ible employer welfare benefit contributions (whether paid or ac- crued) to the sum of the qualified direct
cost for the taxable year and any addi-
tion to a qualified asset amount.
■ Section 419(a)( 2) mandates that such
contributions are deductible only in the
taxable year “in which paid,” meaning
that the deductibility of contributions
to a funded welfare benefit plan is deter-
mined only on a cash accounting basis.
■ “Qualified direct cost” is the benefits
expense (including administrative ex-
penses) that the employer could have
deducted during the taxable year if it used
the cash accounting method (benefits and
related expenses paid during the year).
■ A “qualified asset account” is any
amount set aside for disability, medical,
supplemental unemployment, severance,
or life insurance benefits. Deductible
contributions to a qualified asset account
may not exceed the account limit, which
is the sum of claims for benefits incurred
but unpaid (as of the end of the taxable
year), plus associated administrative ex-
penses. The part of claims incurred but
unpaid is IBNR. Unlike reported unpaid
claims, IBNR only can be estimated.
■ Deductions are limited to “actuari-
ally necessary” amounts. Unless there’s
an actuarial certification, deductible
additions to the qualified asset account
are limited to specified percentages of
“qualified direct cost.” Medical benefits
are limited to 35 percent of such reason-
able and necessary costs, exclusive of
insurance premiums. (This so-called safe
harbor is really an unsafe harbor as care-
ful examination of Private Letter Ruling
9818001 from the Internal Revenue Ser-
vice [IRS] reveals.)
■ IRS rules allow additional deductible
qualified asset account contributions for
prefunding certain post-retirement ben-
efits. Here we are focusing strictly on the
deductibility of IBNR under cash and ac-
crual accounting.
defining what’s deductible
There are several IBNR deductibility
theories in an unfunded setting. When all
welfare plan benefits are to be paid from
a trust or other fund, an employer can
only deduct actual fund contributions
made by the end of the taxable year. (This
includes IBNR estimated and certified by
a qualified actuary.)
Since Section 419 applies to contributions paid or accrued and limits the
deduction to amounts paid in that taxable year, it’s clear it can’t be accrued
for deductibility purposes. An employer
