An IRS field attorney advice memorandum* concludes that an increase in a life insurance company’s tax reserves for an annuity rider due to a change in the statutory reserve, which eliminated the effect of the statutory cap, is a change in basis in computing reserves subject to section 807(f).
Read FAA 20165101F [PDF 9.91 MB] released on December 16, 2016, and dated June 7, 2016
*Field legal advice memos are documents prepared by IRS field attorneys in the Office of Chief Counsel that are reviewed by an Associate Office, and subsequently issued to field or service center campus employees of the IRS. They are not to be used or cited as precedent.
The redacted field advice memo reveals that:
At issue was whether there was a change in basis subject to section 807(f) in Year 4 when the parent company computed its tax reserves taking into account the corrected statutory reserve methodology.
An adjustment to the consistent treatment of an item that affects the timing for recognition of the item and does not permanently change lifetime income is a change in method of accounting. Huffman v. Commissioner, 518 F.3d at 363 (6th Cir. 2008). The computation of life insurance reserves does not have a permanent effect on the taxpayer's lifetime taxable income, as any deduction for the increase in reserves will ultimately be offset by the release of the reserve and the recognition of this amount in income. American Mutual Life Ins. Co. v. United States, 267 F.3d 1344, 1350 (Fed. Cir. 2001). Based on this logic, the IRS concluded that the computation of life insurance reserves is a method of accounting.
Taxpayer made two arguments that section 807(f) does not apply.
The IRS legal advice concludes that the difference between the statutory reserves computed on the correct method as of the end of Year 4, and reserves computed as of the end of Year 4 on the prior incorrect method is attributable to a change in basis that must be recognized under section 807(f), beginning in Year 5.
The IRS addressed and rejected Taxpayer’s arguments in support of its position that the statutory reserve is not a component of the tax reserve method of accounting.
In this field advice memo, the IRS concludes that a change in the statutory cap (due to understated statutory reserves) is subject to 807(f). The IRS field advice rejects the position that the amount of the statutory cap is merely lifted from the annual statement and not computed for tax purposes.
Tax professionals have expressed concerns that a field attorney advice memorandum is not the proper vehicle for the IRS to announce such a position, and believe that the IRS needs to propose guidance and allow potentially affected taxpayers to comment on such proposals, and that any rule developed would need to be applied on a prospective basis.
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