t c no united_states tax_court wells fargo company f k a norwest corporation and subsidiaries petitioners v commissioner of internal revenue respondent docket nos filed date for the years ps made contributions to a voluntary employee_benefit_trust the postretirement medical trust for the purpose of providing postretirement medical benefits to their employees for ps’ actuary computed the present_value of future postretirement medical benefits for active employees to be dollar_figure and for retired employees to be dollar_figure the actuary divided the dollar_figure for active employees by the average actuarial present_value of future service to produce a funding amount of dollar_figure for active employees the actuary determined that the dollar_figure for retired employees could be fully funded in ps contributed dollar_figure to the these cases have been consolidated for trial briefing and opinion solely with respect to the issue involved herein -- - postretirement medical trust in and on ps’ consolidated_return for claimed a deduction for the contribution as an addition to a qualified_asset_account pursuant to sec_419a i r c r determined that ps’ method for computing the contribution for postretirement benefits for retirees was improper and resulted ina contribution that exceeded the account limit for a reserve under sec_419a i r c r further determined deficiencies for years asa result of the determined overfunding in held with respect to an employee who is retired when the reserve is created the present_value of that employee’s projected benefit may be allocated to the year the reserve is created accordingly ps’ contributions to the postretirement medical trust for did not cause the qualified_asset_account to exceed the account limit under sec_419a i r c with respect to the reserve for postretirement medical benefits provided in sec_419a i r c walter a pickhardt mark a hager and andrew t gardner for petitioners alan m jacobson randall p andreozzi christa a gruber and james s stanis for respondent contents findings_of_fact a background b norwest’s welfare_benefit plans c financial_accounting standards board statement of financial_accounting standards no d norwest’s contributions to the postretirement medical trust funding the postretirement medical trust for funding the postretirement medical trust for a mercer’s actuarial assumptions for the contributions to the postretirement medical trust contributions to the postretirement medical trust be respondent’s determination sec_15 opinion a statutory framework sec_419 and sec_419a b method for computing the account limit with respect to a reserve actuarial cost methods - a aggregate cost method b entry age normal_cost method on individual level premium cost method computations by the expert sec_22 a mr cohen b mr scharmer cc mr daskais positions of the partie sec_33 statutory construction the statute a reserve b reserve funded over the working lives of the covered employees and actuarially determined on a level basis reserve funded over the working lives of the covered employees - ao reserve actuarially determined ona level basi sec_46 c investment rate sec_51 jacobs judge respondent determined deficiencies in federal_income_tax and accuracy-related_penalties with regard to petitioners’ consolidated_returns for as follows addition_to_tax year deficiency sec_6662 a dollar_figure dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number numerous issues have been raised as a consequence of respondent’s determinations many of these issues heretofore have been resolved the issue to be decided herein concerns the amounts petitioners may deduct for years for contributions made to a voluntary employee benefit association veba trust to provide postretirement medical benefits to covered employees and their eligible dependents to determine the allowable amounts we first must decide the proper method to be used in computing the reserve under sec_419a then we must decide whether petitioners used reasonable investment rates in their actuarial computations findings_of_fact some of the facts have been stipulated and are found accordingly the stipulations of facts and the attached exhibits are incorporated herein by this reference all section references are to the internal_revenue_code as in effect for the years in issue a background norwest corp norwest is a multibank holding_company organized in it owns substantially_all of the outstanding capital stock of numerous commercial banks in minnesota iowa south dakota nebraska wisconsin north dakota montana wyoming illinois indiana and arizona norwest also owns subsidiaries engaged in various businesses related to banking principally mortgage banking equipment_leasing agricultural finance commercial finance consumer finance securities dealings and underwriting insurance agency services computer and data processing services corporate trust services and venture capital investments for each of the years at issue norwest and its subsidiaries filed consolidated federal_income_tax returns on date wells fargo co was merged into a wholly owned subsidiary of norwest simultaneously with the merger norwest changed its name to wells fargo co hereinafter reference to norwest is to norwest and its subsidiaries before the merger with wells fargo co when norwest filed the petitions in docket nos and which was before the merger its principal_place_of_business was in minneapolis minnesota at the time wells fargo co filed the petitions in docket nos and norwest corp was formerly known as northwest bancorporation which was after the merger its principal_place_of_business was in san francisco california b norwest’s welfare_benefit plans on date norwest established the norwest corp medical plan also known as the norwest corp hospital--medical plan the medical plan the medical plan is a self-insured welfare plan providing for the payment or reimbursement of all or a portion of covered medical_expenses incurred by norwest’s eligible employees including eligible retired employees and their eligible dependents since date the medical plan has provided postretirement medical benefits ie medical benefits for its retirees pursuant to a rider issued by prudential insurance co of america relating to norwest’s group health insurance_policy over the years norwest established other plans in addition to the medical plan to provide benefits for norwest’s eligible employees including under some plans retired employees and their eligible dependents the employee benefit plans include a long- - term disability plan a dental plan a severance plan an hmo premium plan ’ and a choice plus medical plan on date norwest established effective date a veba trust under sec_501 to fund the employee benefit plans then in existence ie the medical plan and the long-term disability plan this trust was originally called the northwest bancorporation employee_benefit_trust and is hereinafter referred to as the master_trust over the years the master_trust was amended to fund the dental plan and the hmo on date norwest established the norwest corp long-term salary continuation plan now known as the norwest corp long-term disability plan the long-term disability plan the long-term disability plan is a combination self-insured insurance welfare_benefit_plan providing monthly disability_income benefits for eligible disabled employees on date norwest established the norwest corp dental plan the dental plan the dental plan is a combination self--insured insured welfare_benefit_plan providing for the payment or reimbursement of all or a portion of covered dental expenses the norwest corp severance_pay plan is a self-insured welfare plan providing for the payment of severance benefits for norwest’s eligible employees norwest established the norwest corp hmo premiums plan an insured welfare_benefit_plan providing for the payment or reimbursement of all or a portion of covered medical_expenses norwest established the norwest corp choice plus plan the choice plus medical plan effective date which was funded by the master_trust the choice plus medical plan is a self-insured welfare plan providing for the payment or reimbursement of all or a portion of covered medical_expenses --- - premium plan the master_trust was amended and restated effective date the name of the master_trust was changed to the norwest corp employee_benefit_trust cc financial_accounting standards board statement of financial_accounting standards no from to norwest paid medical benefits for retired employees as claims were submitted e on a pay-as-you-go basis for financial_accounting and tax purposes norwest recognized these costs when the benefits were paid in new financial_accounting rules for nonpension postretirement benefits were promulgated in statement of financial_accounting standards no sfa sec_106 pursuant to sfa sec_106 for financial_accounting purposes employers must accrue during the employment of an employee the cost of future health care benefits to be paid to the employee after retirement ’ thus because sfa sec_106 applies to a postretirement benefit plan regardless of the means or timing of funding the employer cannot postpone recognition of the cost of the employee’s postretirement benefit by contributing at the time of retirement a lump sum egual to the attribution period is the period of an employee’s service to which the expected postretirement benefit obligation for that employee is assigned generally the beginning of the attribution period is the employee’s date of hire and the end of the attribution period is the employee’s full eligibility date an equal amount of the expected postretirement benefit obligation is attributed to each year - present_value of the employee’s benefit terminal funding sfa sec_106 par sfa sec_106 permits an employer to immediately recognize at the date of initial application of sfa sec_106 obligations that the employer had not accrued for financial purposes in prior years transition obligation’ sfa sec_106 par immediate recognition is not permitted after the initial application of sfa sec_106 norwest adopted sfa sec_106 effective date as a the transition obligation recognized upon initial application of sfa sec_106 does not include a any previously unrecognized post-retirement benefit obligation assumed in a business combination accounted for as a purchase b a plan initiation and c any plan amendment that improved benefits to the extent that those events occur after the issuance of sfa sec_106 sfa sec_106 par i the financial_accounting standards board concluded that to permit immediate recognition at any subsequent time would result in too much variability in financial reporting for a long period of time -- - consequence norwest elected to recognize as an immediate expense its unrecognized transition obligation the amount of this obligation was dollar_figure million after tax on date norwest established the norwest corp employee_benefit_trust for retiree medical benefits the postretirement medical trust effective date ' the postretirement medical trust funded postretirement medical benefits to be provided to all employees both active and retired other than key employees under norwest’s medical plan simultaneously with the creation of the postretirement medical trust norwest amended the master_trust effective date to eliminate the master trust’s responsibility to pay postretirement medical benefits for all but key employees te sfa sec_106 par defines an unrecognized transition obligation as the unrecognized amount as of the date sfa sec_106 is initially applied of a the accumulated post-retirement benefit obligation in excess of b the fair value of plan assets plus accrued post-retirement benefit cost or less any recognized prepaid post-retirement benefit cost accumulated post-retirement benefit obligation is defined by sfa sec_106 par as the actuarial present_value of benefits attributed to employee service rendered to a particular date since norwest historically had neither paid nor deducted the benefits until incurred the unrecognized transition obligation was equal to the accumulated postretirement benefit obligation effective date norwest also established a separate veba trust to fund the liabilities for the severance plan by an amendment to the master_trust effective date norwest merged the severance plan into the master_trust d norwest’s contributions to the postretirement medical trust for the years norwest made contributions to the postretirement medical trust for the purpose of providing postretirement medical benefits funding the postretirement medical trust for during the years at issue william m mercer inc hereinafter referred to as mercer a national actuarial firm prepared actuarial funding valuations for norwest’s pension plans and postretirement medical_plans sometime in late early norwest expressed to mercer an interest in funding its retiree medical benefits plan norwest understood that employers were permitted a tax deduction for funding a reserve for postretirement medical benefits on date mercer prepared and presented to norwest a valuation report entitled norwest corporation actuarial funding valuation of the post-retirement medical_plans as of date the valuation mercer computed the present_value of future medical benefits to be dollar_figure for active employees and dollar_figure for retired employees in determining these computations mercer used a pretax investment rate assumption of percent and an after-tax investment rate of percent mercer divided the dollar_figure for active employees by the average actuarial present_value of future service for the active employees to produce a funding amount of dollar_figure for active -- employees mercer determined that because the retired employees had no remaining working life the present_value of future_benefits for retired employees dollar_figure could be funded in mercer believed that norwest’s resulting reserve for active and retired employees dollar_figure would be within the sec_419a account limit on the basis of the valuation report norwest contributed dollar_figure to the postretirement medical trust in on the consolidated_return for norwest claimed a deduction for the contribution as an addition to a qualified_asset_account pursuant to sec_419a funding the postretirement medical trust for at the request of norwest mercer prepared actuarial funding valuation reports as of january for each year relating to the funding of the postretirement medical trust the valuation reports in the valuation reports mercer computed the end-of-year contributions to be dollar_figure dollar_figure and dollar_figure respectively mercer calculated the contribution amount to be equal to a fraction the numerator of the fraction was the present_value of future_benefits for active employees and retirees reduced by the sum of the value of a the postretirement medical trust assets and b the sec_401 h account assets the denominator of the fraction was the average present_value of future working lifetimes of the employees the - - present_value of the future working life of an employee is comparable to the present_value of an annuity computed with the actuarial interest rate used by the plan that pays dollar_figure each year until the employee is expected to retire mercer’s actuarial assumptions for the contributions to the postretirement medical trust in order to compute the present_value of future_benefits in the valuation reports mercer made certain actuarial assumptions including investment rates the number of employees who would retire die terminate their services or become disabled their ages at termination and their expected benefits mercer requested norwest to provide an estimate of norwest’s effective tax_rates for years norwest advised mercer that those tax_rates would be approximately percent in and percent in the pretax and after-tax investment rates mercer used in the valuation reports were as follows pretax investment rate after-tax investment rate dollar_figure dollar_figure dollar_figure dollar_figure the following chart illustrates the various factors disclosed in the valuation reports minor computational discrepancies are unexplained actuarial present_value of projected benefits active employees retired employees total actuarial value of assets future normal costs actuarial present_value of veba h total actuarial present_value of future service normal_cost at beginning of year maximum contribution a b cc paid at beginning of year interest to yearend paid at yearend in this is the present_value of active benefits only in this includes the normal_cost for active participants those retired as of date a b dollar_figure big_number big_number big_number dollar_figure big_number big_number big_number big_number excluding the retirees’ valuation_date dollar_figure big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number big_number big_number dollar_figure big_number big_number ___ big_number big_number dollar_figure big_number big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number excluding the net benefit costs plus the entire present_value for net benefit costs -- - contributions to the postretirement medical trust in norwest made contributions to the postretirement medical trust of dollar_figure dollar_figure dollar_figure and dollar_figure respectively during norwest’s retired employees made contributions to the postretirement medical trust of dollar_figure dollar_figure and dollar_figure respectively in dollar_figure was transferred from the master_trust to the postretirement medical trust be respondent’s determinations respondent determined that norwest’s method for computing the contribution for postretirement benefits for retirees was improper and resulted in a contribution that exceeded the account limit for a reserve under sec_419a as a result of the overfunding respondent determined that the reserve was also overfunded in opinion a statutory framework sec_419 and sec_419a sec_419 and sec_419a limit deductions for contributions made by a taxpayer to an employee welfare_benefit_fund in general sec_419 denies a deduction for contributions paid_or_accrued by an employer to a welfare_benefit_fund however if the contributions would otherwise be deductible then sec_419 im for purposes of sec_419 and sec_419a a welfare_benefit_fund includes a veba that is exempt from taxation under sec_501 - permits a deduction for the taxable_year in which the contribution is paid subject_to the limitation contained in sec_419 sec_419 limits the deduction for any taxable_year to the welfare_benefit fund’s qualified_cost ’ the fund’s gualified cost is equal to the sum of the fund’s qualified_direct_cost for the year and subject_to the limitation of sec_419a any addition to a qualified_asset_account for the year ’ sec_419 sec_419a defines a qualified_asset_account as any account consisting of assets set_aside to provide for the payment of disability benefits medical benefits sub supplemental compensation benefit or severance_pay benefits or life_insurance benefits additions to a qualified_asset_account are included in the fund’s qualified_cost only to the extent they do not exceed the fund’s account limit for the taxable_year sec_419a for purposes of the present case the account limit includes the amount reasonably and actuarially necessary to fund claims that are incurred but unpaid as of the close of the taxable_year and related administrative costs and the amount of an a contribution to a welfare_benefit_fund in excess of that year’s qualified_cost is treated as a contribution by the employer to the fund during the succeeding taxable_year sec_419 the fund’s qualified_cost for the taxable_year is reduced by the fund’s after-tax_income for that year sec_419 additional reserve funded over the working lives of the covered employees and actuarially determined on a level basis using assumptions that are reasonable in the aggregate as necessary for postretirement medical and jlife insurance benefits sec_419a and at issue in this case is the computation of the account limit for the reserve necessary for postretirement medical benefits provided under sec_419a petitioners and respondent disagree as to the proper method for computing the account limit for a reserve funded over the working lives of the covered employees and actuarially determined on a level basis using assumptions that are reasonable in the aggregate as necessary for post-retirement medical benefits additionally respondent asserts that the investment rates petitioners used in computing the reserve were too low b method for computing the account limit with respect to a reserve for mercer computed norwest’s contribution to the postretirement medical trust by including the present_value of postretirement medical benefits for the active employees amortized over the employees’ remaining working lives and the entire present_value of the postretirement medical benefits for the retirees funded in year the mercer method respondent asserts that mercer’s methodology in computing norwest’s contribution for medical benefits to retirees was improper and resulted ina -- - contribution that exceeded the account limit for a reserve under sec_419a ’ for the reasons set forth below we disagree with respondent’s assertion to the contrary we approve of the mercer method used in computing norwest’s contribution to the postretirement trust the parties rely on expert reports and testimony to explain actuarial methods appropriate for computing a reserve for postretirement medical benefits described in sec_419a and to compute the account limit using those methods petitioners presented the reports and testimony of two expert witnesses messrs ira cohen and gary scharmer respondent presented the expert report and testimony of mr richard daskais the experts generally agree that actuarial cost methods approved for computing the funding of defined benefit pension plans may be used for computing the funding of postretirement medical benefits actuarial cost methods in calculating reserves actuaries first calculate the stream of benefits to be paid from the trust the year-by-year benefit payments to be made to covered employees in future years and then calculate the present_value of that stream by discounting the payment each year at a determined interest or investment rate the stream of benefit payments is based on actuarial assumptions for postretirement medical benefits these assumptions include those as a respondent does not dispute the method petitioners used for computing the contribution for the years to when employees will retire how long they will live after retirement how many will have spouses entitled to benefits the annual cost of the benefits for each retired employee or spouse and an interest rate for discounting the stream of benefits to present_value an actuary uses an actuarial cost method to assign the present_value of promised benefits to individual plan years as an annual cost the portion of the total cost of the plan that is assigned by the actuarial cost method to the current_year or to a future year is called the normal_cost in general six actuarial cost methods or variations thereof are used for purposes of computing pension costs they include the unit credit method also known as the accrued_benefit cost method the entry age normal_cost method the individual level premium cost method the aggregate cost method the attained age normal_cost method and the frozen initial liability cost method the methods discussed by the parties’ experts are the aggregate cost method respondent’s preferred method the entry age normal_cost method petitioners’ preferred method and the individual level premium cost method the method mercer used in and the one which we find satisfies the requirements of sec_419a - - a aggregate cost method the aggregate cost method calculates costs for all employees on an aggregate basis the aggregate cost method computes normal costs in relation to the assets of the fund this method does not calculate an accrued liability independent of those assets in computing the normal_cost under the aggregate cost method the value of the plan assets is subtracted from the present_value of future_benefits for all participants the remaining present_value of future_benefits is then divided by the sum of the present_value of the future working lives of the active employees the present_value of the future working life of an employee is comparable to the present_value of an annuity computed with the actuarial interest rate used by the plan that pays dollar_figure each year until the employee is expected to retire b entry age normal_cost method the entry age normal_cost method can be applied on an individual or aggregate basis in this case it is applied on an individual basis under the entry age normal_cost method the actuarial present_value of each employee’s projected benefit is spread over the entire length of the employee’s service beginning at the date the employee began service with the employer and ending with the anticipated normal_retirement_date the normal_cost computed under the entry age normal_cost method is a dollar amount which if paid annually and allowed to --- - accumulate from the date the employee began service until the projected retirement date of that employee will have accumulated at retirement the amount necessary to fully fund the benefit to the covered_employee the actuarial accrued liability is the portion of the actuarial present_value that is not provided for by future normal costs cc individual level premium cost method the individual level premium cost method is an individual method similar to the entry age normal_cost method under the individual level premium cost method the normal_cost is separately determined for each covered_employee as a level dollar amount which if accumulated from the later of the date the plan is established or the date that the employee was hired would accumulate at retirement the amount necessary to fully fund the benefit to the covered_employee the primary difference between the individual level premium cost method and the entry age normal_cost method is the date when normal_cost is assumed to commence if the plan is established after the employee is hired under the entry age normal_cost method normal_cost is assumed to have retroactively commenced at the date of hire under the individual level premium cost method normal_cost begins no earlier than the date the plan is established -- - computations by the experts the parties’ experts described the ways that actuaries interpret the account limit for a reserve provided in sec_419a and made computations using variations of the aggregate and entry age normal_cost methods a mr cohen mr cohen one of petitioners’ experts 1s an expert in actuarial science and a principal at pricewaterhousecoopers llp advising clients on various matters involving actuarial tax pension and postretirement medical issues he is a fellow of the society of actuaries an enrolled_actuary under erisa and a member of the american academy of actuaries from mr cohen was employed by the internal_revenue_service serving in a variety of positions including director of the employee_plans technical and actuarial division mr cohen uses the terms reserve and accrued liability interchangeably and posits that the reserve for retirees is the present_value of future_benefits in mr cohen’s opinion the aggregate cost method is not appropriate for computing the account limit for a reserve for postretirement benefits because that method does not directly compute an accrued liability and fails to fully fund the reserve for an employee upon retirement in his opinion the entry age normal_cost method is the appropriate method because that method allocates the cost over the entire working life of an - - employee directly computes an accrued liability and provides for full funding upon retirement mr cohen opined that the account limit for the reserve is egqual to the reserve accrued liability computed under the entry age normal_cost method for retirees the reserve accrued liability is the present_value of future_benefits and for active employees the reserve is the present_value of future_benefits minus the present_value of future normal costs b mr scharmer mr scharmer is an expert in actuarial science and is a principal at mercer he is a fellow of the society of actuaries an enrolled_actuary under erisa a member of the american academy of actuaries and a member of the conference of actuaries mr scharmer opined that the account limit for a reserve under sec_419a was equal to the accrued liability using the entry age normal_cost method for mr scharmer calculated the account limit for the reserve by applying the entry age normal_cost method and by using the same facts and assumptions that mercer relied upon when it prepared the valuation reports mr scharmer computed the accrued liability dollars in millions on the valuation_date for each year as follows a investment return b present_value accrued_benefits beginning of year a active b retired c total c accrued liability beginning of year a active b retired c total d normal_cost beginning of year e accrued liability yearend a active b retired c total f account limit plan assets veba h h deductible limit ne ne no os to oe mr scharmer also calculated the account limit for the reserve by varying the application of the aforementioned methodology to reflect the investment rates mr daskais proposed under these computations he determined that the accrued liability dollars in millions a investment return b accrued liability beginning of year a active b retired c total c account limit d plan assets veba h e deductible limit for was as follows cc mr daskais mr daskais respondent’s expert is an expert in actuarial science he is a fellow of the society of actuaries and was an enrolled_actuary under erisa from to mr daskais opined that actuarially determined on a level basis means that the systematic year-to-year increments to the reserve are the same or level in some sense each year examples of level increments that are appropriate for computing a reserve for postretirement medical benefits include a uniform or level dollar amount each year or a uniform or level dollar amount per active employee each year so that the total dollar amount increases or decreases as the number of active employees increases or decreases mr daskais opined that in actuarial parlance a reserve funded over the working lives of covered employees is a one- sentence description of the aggregate cost method it means a reserve determined on the basis of an actuarial cost method and actuarial assumptions that will increase from year to year and will be exactly sufficient to provide the trust fund’s benefits at the end of the working lives of the covered employees mr daskais a third example is a uniform or level percent of the total payroll of active employees each year so that the total dollar amount increases or decreases as the total payroll of active employees increases or decreases the experts agree that allocating by percentages is inappropriate for postretirement medical benefits because postretirement benefits usually are not pay related - - acknowledged that the reserve funded using the aggregate cost method will not be fully funded with respect to an individual employee upon retirement in mr daskais’s opinion full funding upon retirement of an individual employee is not required in his opinion the end of the working lives of covered employees occurs when the employment of all covered employees has terminated mr daskais computed the maximum contribution for to the postretirement medical trust deductible under sec_419 by applying the aggregate cost method using the same actuarial values including the investment rate mercer used as follows tg o22 sepa gh ta investment return present_value accrued_benefits a active b retired c total value of assets beginning of year a veba b h c total nondeductible_contribution from prior years o from prior year net value of assets’ present_value future normal costs’ average present_value of future service normal_cost beginning of year benefits paid during year employee contributions during year interest to yearend’ account limit yearend actual contribution value of assets yearend nondeductible_contribution carryforward deductible limit’ c c - d b c - e f g a x c a - d h of j - i c a - d h-i d0 k ol ad d m-o smaller of n - l and d m but dollar_figure big_number big_number big_number dollar_figure big_number n a n a big_number big_number big_number big_number big_number big_number not below zero ne ne no os to oe dollar_figure ne ne w oe ov oe dollar_figure i ie o aa oe ov oe dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number - - in mr daskais’s opinion the investment rates mercer used were unreasonably low mr daskais recalculated the contribution limit by applying the aggregate cost method using the mercer assumptions but substituting investment rates that in his opinion were reasonable under these computations he determined that the maximum contributions for were as follows tg o22 sepa gh ta investment return present_value accrued_benefits a active b retired c total value of assets beginning of year a veba b h c total nondeductible_contribution from prior years o from prior year net value of assets’ present_value future normal costs’ average present_value of future service normal_cost beginning of year benefits paid during year employee contributions during year interest to yearend’ account limit yearend actual contribution value of assets yearend nondeductible_contribution carryforward deductible limit’ c c - d b c - e f g a x c a - d h of j - i c a - d h-i d0 k ol ad d m-o smaller of n - l and d m but dollar_figure big_number big_number dollar_figure big_number n a n a big_number big_number big_number big_number big_number big_number not below zero ne ne no ov oe dollar_figure big_number ne ne w o oe dollar_figure big_number i ie o aa os to oe dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number big_number dollar_figure big_number big_number big_number big_number big_number big_number big_number big_number big_number -- - mr daskais opined that if the funding method used to calculate the reserve computes an accrued liability that liability must be amortized in mr daskais’s opinion since there are no specific amortization rules applicable to the funding of postretirement medical benefits in sec_419a or in the income_tax regulations the amortization rules applicable to pensions should be applied mr daskais calculated the contribution limit by applying the entry age normal_cost method and by using the same facts and assumptions mercer used he amortized the accrued liability over the present_value of the remaining working lives of the active employees under these computations he determined that the maximum contributions dollars in millions discrepancies attributable to rounding for were as follows ago a investment return b present_value accrued_benefits a active dollar_figure dollar_figure dollar_figure dollar_figure b retired c total c accrued liability a active b retired a7 c total d normal_cost e average present_value of future service dollar_figure dollar_figure dollar_figure dollar_figure ff amortized accrued liability from prior years --- g remaining unamortized accrued liability’ h amortization of accrued liability i account limit beginning of year j interest to yearend k account limit yearend l benefits paid less employee contributions m interest for one-half year --- o o --- n amortized accrued liability yearend ---- o nondeductible_contribution from prior years --- p actuarial value of assets a veba ---- b h --- _7 c total beginning of year d net after nondeductible_contributions --- e interest to yearend --- total yearend --- q actual contribution r deductible contribution’ s nondeductible_contribution carryforward n of prior year c c - f g e d f h h t j k-l-m s of prior year sdollar_figure p c - o p d p e smaller of k - p and q ‘tt o q-r mr daskais also calculated the contribution limit by applying his variation of the entry age normal_cost method amortizing the accrued liability over the remaining lives of the active employees as above but substituting investment rates that in his opinion were reasonable under these computations he determined that the maximum contributions dollars in millions discrepancies attributable to rounding for were as follows ry el pn qgh gm 42s ye investment return present_value accrued_benefits a active b retired c total accrued liability a active b retired c total normal_cost average present_value of future service amortized accrued liability from prior years’ remaining unamortized accrued liability’ amortization of accrued liability account limit beginning of year interest to yearend account limit yearend benefits paid less employee contributions interest for one-half year amortized accrued liability yearend nondeductible_contribution from prior years actuarial value of assets a veba b h c total beginning of year d net after nondeductible_contributions e interest to yearend total yearend actual contribution deductible contribution nondeductible_contribution carryforward t n of prior year c c - f g e ‘ d f t h i j k-l-m s of prior year p c - o p d p e dollar_figure dollar_figure dollar_figure dollar_figure --- --- --- o --- --- --- --- --- --- --- ho oo won wwwwoon a omnr iad ef im og w - - smaller of k -- p and o q o q-r positions of the parties petitioners assert that the reserve under sec_419a refers to the employer’s accrued liability to provide the postretirement benefits petitioners maintain that since the entry age normal_cost method is the only method that directly computes an accrued liability and allocates the present_value of an employee’s future benefit over the employee’s entire working life the account limit for the reserve is equal to the accrued liability computed under the entry age normal_cost method petitioners further maintain that for a retiree the accrued liability is the present_value of the employee’s future_benefits and for an active employee the accrued liability is the present_value of the employee’s future_benefits minus the present_value of future normal costs determined under the entry age normal_cost method petitioners contend that their contribution to the reserve for each year at issue did not cause the reserve to exceed the account limit and therefore the contributions were deductible under sec_419 respondent argues that petitioners’ position is inconsistent with the language of sec_419a the established judicial precedent interpreting that section congress’s purpose in enacting that section the accepted interpretation given nearly identical language in the provisions governing - -- pension plans the law in effect before the enactment of sec_419 and principles of actuarial practice respondent contends that the cost of the postretirement benefit must be spread over the remaining working lives of the covered employees respondent further contends that since retirees have no remaining working lives the cost must spread over the remaining working lives of the active employees respondent concludes therefore that the aggregate cost method is the proper method for computing the account limit for the reserve under sec_419a respondent asserts in the alternative that if the entry age normal_cost method is a proper method then the accrued liability must be amortized over the remaining lives of the active employees statutory construction our first step in interpreting a statute is to determine whether the language at issue has a plain and unambiguous meaning with regard to the particular dispute in the case 519_us_337 we look to the legislative_history primarily to learn the purpose of the statute and to resolve any ambiguity in the words contained in the text 511_us_244 506_us_168 447_us_102 310_us_534 118_tc_1 110_tc_236 affd without published opinion 198_f3d_248 6th cir 106_tc_274 where congress has expressed its will in reasonably plain terms those terms must ordinarily be regarded as conclusive negqonsott v samuels 507_us_99 the plainness or ambiguity of statutory language is determined by reference to the language itself the specific context in which that language is used and the broader context of the statute as a whole 505_us_469 500_us_136 in analyzing the plain meaning of sec_419a we examine the section as a whole with all of its subsections in mind see 276_us_233 huffman v commissioner 978_f2d_1139 9th cir affg in part revg and remanding in part tcmemo_1991_144 the statute we begin with the specific language of sec_419a which provides the account limit for any taxable_year may include a reserve funded over the working lives of the covered employees and actuarially determined on a level basis using assumptions that are reasonable in the aggregate as necessary for-- a post-retirement medical benefits to be provided to covered employees determined on the basis of current medical costs or - - b post-retirement life_insurance benefits to be provided to covered employees we first addressed the requirements of sec_419a in gen signal corp v commissioner 103_tc_216 affd 142_f3d_546 2d cir in that case we held that sec_419a requires an accumulation of assets equal to the deduction taken and that those assets must be used to pay welfare_benefit expenses of retired employees see also 109_tc_200 parker-hannifin corp v commissioner tcmemo_1996_337 affd in part revd in 139_f3d_1090 6th cir in gen signal corp square d co and parker-hannifin corp we found that no reserves had been created obviating the need to consider whether the contributions were excessive from an actuarial standpoint in the case at hand respondent agrees that a reserve was created e assets in the amount of the deduction taken were accumulated to be used to pay medical_expenses of retired employees a reserve petitioners assert that the term reserve in sec_419a refers to the employer’s accrued liability to provide the postretirement benefits petitioners conclude therefore that the method used in computing the reserve must compute the accrued liability respondent asserts that sec_419a does not define the account limit but rather describes contributions to a reserve -- - equal to the normal_cost computed under the aggregate cost method which may be included as a component of the account limit together with the amounts set_aside for incurred but unpaid claims respondent concludes therefore that sec_419a does not require the computation of the accrued liability a comparison of the language in sec_419a with that in sec_419a belies respondent’s position sec_419a provides that the account limit for any taxable_year is the amount reasonably and actuarially necessary to fund emphasis supplied incurred but unpaid claims and administrative costs with respect to such claims by contrast sec_419a provides that the account limit for any taxable_year may include a reserve congress could have used identical language in both provisions the fact that congress chose not to do so must be given heed cf 508_us_200 where congress includes particular language in one section of a statute but omits it in another it is generally presumed that congress acts intentionally and purposely in the disparate inclusion or exclusion internal quotation marks and citation omitted 828_f2d_930 2d cir ‘contrasting language in similar statutes may show that the legislature intended different standards of compliance’ quoting 2a singer sutherland statutory construction -- - sec_57 pincite sand sec_4th ed thus it is the reserve not merely a contribution equal to the normal_cost for the year that must be computed in determining the account limit respondent asserts that courts have held in prior cases such as gen signal corp v commissioner supra square d co vv commissioner supra and parker-hannifin corp v commissioner supra that reserve as used in sec_419a does not mean a measure of liability at issue in those cases however was whether sec_419a required the actual funding of a reserve the taxpayers in those cases argued that term reserve was an actuarial term of art meaning a guantity of liability that did not require actual funding we held that a mere quantity of liability does not constitute a reserve funded over the working lives of the covered employees ie we held that sec_419a requires the actual funding of the reserve when congress uses a term of art that has an established meaning a strong presumption arises that congress intends to incorporate that meaning 342_us_246 congress’s choice of the word reserve rather than account or fund for example connotes a measure of liability w natl mut ins co v commissioner 102_tc_338 reserves are estimates of liabilities ‘ best estimates of future settlement costs’ quoting salzmann estimated liabilities for losses loss adjustment expenses -- -- affd 65_f3d_90 8th cir see also 224_f_657 3d cir defining reserve funds as funds as must be reserved to meet liabilities black’s law dictionary 7th ed defining reserve to mean something retained or stored for future use esp a fund of money set_aside by a bank or an insurance_company to cover future liabilities sec_419a includes in the account limit a reserve funded for the payment of postretirement medical or life_insurance benefits the payment of those benefits is a liability of the employer and reserve as used in sec_419a connotes a measure of that liability it refers to the accumulation of assets in an amount necessary to satisfy the employer’s liability to pay the covered employees’ postretirement medical or life_insurance benefits when those benefits become due b reserve funded over the working lives of the covered employees and actuarially determined ona level basis sec_419a limits the reserve that may be included in the account limit to a reserve funded over the lives of the covered employees and actuarially determined on a level basis respondent asserts that norwest’s contribution in was excessive because it created a reserve that was not funded over the working lives of the covered employees and actuarially determined on a level basis respondent maintains that the -- - language of sec_419a is in essence a one-clause definition of the aggregate cost method respondent posits that sec_419a requires that a reserve for postretirement benefits must be funded ie contributions must be made for the purpose of providing postretirement medical benefits and the funding must be done on a level basis over the working lives of the employees respondent contends that the funding cannot begin before the reserve is created and therefore the funding must be determined on a level basis over the remaining working lives of the covered employees respondent concludes that since retired employees have no remaining working lives the funding must be determined on a level basis over the remaining working lives of the active employees disagreeing with respondent petitioners assert that the term funded means calculated not contributed and that the reserve accrued liability is calculated over the working lives of the covered employees thus petitioners conclude that the reserve included in the account limit is an actuarially determined accrued liability e a reserve that is calculated e funded over the working lives of the covered employees reserve funded over the working lives of the covered employees we do not agree with petitioners that funded means calculated we have previously held that the funded reserve in sec_419a refers to an accumulation of assets and the funding of benefits 104_tc_559 al -- a reserve funded over the working lives of the covered employees clearly evokes the gradual accumulation of funds measured with an eye toward complete funding at the time of retirement gen signal corp v commissioner f 3d pincite citing 139_f3d_1090 6th cir we agree with respondent that the funding of the reserve cannot begin until the reserve is created however we do not agree with respondent that the reserve must be funded over the aggregate remaining working lives of the active employees respondent asserts that once the reserve is created it may be funded over the aggregate working lives of the covered employees and that the end of the working lives of the covered employees occurs when the last covered_employee is no longer employed by the employer because the employment of all covered employees has terminated respondent acknowledges that under that reading the reserve will not be fully funded upon retirement with respect to any individual employee except the last employee the position taken by respondent in this case 1s contrary to the position successfully urged by the commissioner in gen signal corp in gen signal corp v commissioner f 3d pincite the court_of_appeals for the second circuit agreed with the commissioner’s interpretation that the phrase funded over the working lives means that the amount that is supposed to be added to the reserve each year would assuming the reserve remained intact result in - full funding for retirement benefits at the end of each employee’s term of service emphasis supplied respondent acknowledges that sec_419 and sec_419a do not impose an obligation on an employer to create a reserve to pay for postretirement medical benefits ie employers may pay and deduct the medical claims as they become due on a pay-as-you-go basis respondent further acknowledges that if an employer establishes a reserve under sec_419a sec_419 and sec_419a do not impose a minimum annual contribution requirement or reguire an employer to make contributions that are precisely level respondent contends however that funded in sec_419a is synonymous with amortized and that if an employer does not make a contribution in a given year then the contribution that was not made would be funded over the remaining working lives of employees in subsequent years respondent asserts that the language funded over the working lives of the covered employees is essentially identical to the language of sec_404 a and therefore any accrued liability must be amortized over the remaining lives of the active employees we disagree the language of sec_404 a a is clearly different from the language of 419a c when applicable ’ section the deduction for a contribution to a pension_trust is limited to the amount provided in sec_404 a when it exceeds the minimum_funding amount provided in sec_412 and the continued -- - a a limits the deduction for a contribution to a pension_plan to the amount necessary to provide with respect to all of the employees under the trust the remaining unfunded cost of their past and current service credits distributed as a level amount over the remaining future service of each such employee the phrases over the remaining future service of each such employee the sec_404 a a i1 language and over the working lives of the covered employees the sec_419a language are not identical we give heed to the fact that congress could have used identical language in both the pension and veba provisions but chose not to do so moreover congress in sec_419a specifically made the pension nondiscrimination_rules of sec_505 applicable to the sec_419a reserve thi sec_1s an indication that congress did not intend to automatically apply pension provisions to sec_419a additionally in sec_419 congress provided for the amortization of the adjusted_basis of a child_care_facility over months this is a further indication that congress did not intend to require amortization of the postretirement benefit of a retired employee when congress has intended to require costs to be spread over the remaining working lives of active employees it has done so clearly for example the funding_period for purposes of continued amount provided in sec_404 a - contributions to a black lung benefit trust’ is the greater of i the average remaining working life of miners who are present employees of the taxpayer or ii taxable years sec_192 c b we conclude therefore that the amortization rules applicable to pensions do not apply to the computation of the sec_419a reserve in gen signal corp v commissioner t c pincite in light of the taxpayer’s assertions that the phrase reserve funded does not have a commonly understood meaning we assumed arguendo that the phrase was ambiguous and considered the legislative_history we shall do likewise in this case in consulting the legislative_history of sec_419a we are mindful that the relevant portion of the committee report states prefunding of life_insurance death_benefits or medical benefits for retirees ---the qualified_asset_account limits allow amounts reasonably necessary to accumulate reserves under a welfare_benefit_plan so that sec_192 limits contributions to a black_lung_benefit_trust as follows sec_192 limitation ---the maximum amount of the deduction allowed by subsection a for any taxpayer for any taxable_year shall not exceed the greater of-- the amount necessary to fund with level_funding the remaining unfunded_liability of the taxpayer for black lung claims filed or expected to be filed by or with respect to past or present employees of the taxpayer or the aggregate amount necessary to increase each trust described in sec_501 to the amount required to pay all amounts payable out of such trust for the taxable_year - -- the medical_benefit or life_insurance including death_benefit payable to a retired employee during retirement is fully funded upon retirement these amounts may be accumulated no more rapidly than on a level basis over the working life of the employee with the employer of each employee the conferees intend that the treasury_department prescribe rules requiring that the funding of retiree benefits be based on reasonable and consistently applied actuarial cost methods which take into account experience gains and losses changes in assumptions and other similar items and be no more rapid than on a level basis over the remaining working lifetimes of the current participants h conf rept pincite 1984_3_cb_1 the legislative_history makes clear that the funding of the reserve can be completed no more rapidly than over the working life of the employee therefore we conclude that fully funding the reserve at or after retirement is permissible because in that case the assets are accumulated less rapidly than over the working life of the employee to conclude this aspect of our deliberation we hold that for purposes of sec_419a the phrase reserve funded over the working lives of the covered employees means that assets necessary to satisfy the employer’s liability may be accumulated no more rapidly than over the working lives of the covered employees such that the reserve with respect to an employee can be fully funded no earlier than upon retirement of the employee -- - reserve actuarially determined on a level basis we now turn our attention to the requirement that the reserve under sec_419a be actuarially determined on a level basis and the calculation of the reserve we have held that the term reserve in sec_419a refers to assets in an amount necessary to satisfy the employer’s liability to pay the covered employees’ postretirement medical benefits when the benefits become due petitioners assert that level as an actuarial concept refers to normal_cost and that to an actuary level means that the normal costs are level normal_cost is that portion of the present_value of the benefit that is assigned to the current or a future year in other words the value of the benefit assigned to the current_year is the same as the amount assigned to each subsequent year until the employee’s retirement date petitioners further assert that the actuarial concept of level is unrelated to the employer’s actual contributions to a plan and that actuarial methods determine amounts that can be contributed but do not mandate funding petitioners acknowledge that both the aggregate and entry age normal_cost methods produce level normal costs petitioners assert however that the aggregate cost method is not appropriate because it does not directly calculate the accrued liability independently of the assets a7 - respondent asserts that a direct calculation of the accrued liability independent of the assets is not necessary respondent contends that the actuary must compute on a level basis a reserve funded over the working lives of the covered employees further respondent posits that since the funding does not begin before the reserve is created the reserve must be computed by allocating the cost ina level amount over the remaining lives of the employees respondent contends that the actuarial methodology used must determine contributions at a rate that would be level if actuarial assumptions were exactly realized the funds may only accumulate gradually and in order to accomplish the gradual funding the actuarial method must provide for the ratable accumulation of funds over the remaining working lives of the covered employees respondent asserts that the following excerpt from the legislative_history supports his position the conferees intend that the funding of retiree benefits be no more rapid than on a level basis over the remaining working lifetimes of the current participants h conf rept supra pincite c b vol pincite respondent contends that once an employer elects to fund a reserve for postretirement benefits under sec_419a it must then select an actuarial cost method that satisfies this statutory requirement respondent concludes that the aggregate cost method properly allocates the costs ina level amount over the remaining lives of the covered employees in -- - the alternative respondent argues that if the method used calculates an accrued liability independently of the fund assets the unfunded accrued liability must be amortized over the remaining lives of the active employees we believe that use of the aggregate cost method to compute the reserve is not appropriate because that method will not permit full funding of the reserve with respect to a retired employee at retirement of that employee further we agree with petitioners that the accrued liability should be computed independently of the plan assets indeed there are circumstances under which the reserve could become overfunded and yet additional_amounts could be added to the reserve using the aggregate cost method ' we have no doubt that in such an event the commissioner would reguire the use of another method that directly calculates an accrued liability independently of the plan assets additionally we have held that sec_419a does not require the amortization of the accrued liability sec_419a requires that the reserve funded over the lives of the covered employees be actuarially determined on a level basis thus assets necessary to satisfy the employer’ sec_21 we note that use of the aggregate cost method is not permitted in computing the full-funding limit for pensions under sec_412 sec_412 defines the term full-funding_limitation for purposes of sec_412 as the excess of the accrued liability including normal_cost under the plan over the value of the plan’s assets the accrued liability is determined under the entry age normal_cost method if the accrued liability cannot be directly calculated under the funding method used for the plan --- - liability may be accumulated no more rapidly than on a level basis over the working lives of the covered employees such that the reserve with respect to an employee can be fully funded no earlier than upon retirement of the employee we conclude that the maximum amount of the liability that may be satisfied by the reserve is the amount at the time with respect to which the reserve is computed that together with future normal costs and interest will be sufficient upon retirement of each employee to pay future medical claims of the employee when they become due see eg 381_us_233 n 303_f3d_1373 fed cir 758_f2d_1277 8th cir a reserve is computed by calculating the excess of the present_value of future_benefits payable over the present_value of future net_premiums receivable affg 81_tc_325 that amount must be actuarially determined on a level basis the actuarial present_value of the projected benefit of each covered_employee should be allocated on a level basis to each year commencing with the year in which the allocation is first recognized and ending with the year the employee is expected to retire the funding of a reserve funded over the working lives of the covered employees cannot begin until the reserve is created thus the allocation is first recognized on the later of the date -- - when the reserve is created and the date the employee becomes a covered_employee essentially this is the individual level premium cost method with the date of the creation of the reserve substituted for the date the plan is instituted when the year in which the allocation is first recognized is after the employee has retired there are no future years to which the benefits may be allocated since there are no future years to which the benefits may be allocated there are no future normal costs and the entire present_value of the projected benefit is properly allocated to the first year this is the method that mercer used in computing norwest’s contribution for the year the reserve was created the individual level premium cost method comports with our holding that the amount of the liability that may be satisfied by the reserve is the amount at the time with respect to which the reserve is computed that together with future normal costs and interest will be sufficient upon retirement of an employee to pay future medical claims of the employee when they become due see eg united_states v atlas life ins co supra travelers ins co v united_states supra 281_f3d_828 9th cir affg tcmemo_2000_134 natl states ins co v commissioner supra 96_tc_61 revd on other grounds 972_f2d_858 7th cir cc investment rates the pretax and after-tax investment rates mercer used in the valuation reports were as follows pretax rate after-tax rate the after-tax investment rate was determined by applying a tax_rate of percent for and percent for in the notices of deficiency respondent did not dispute the actuarial assumptions including the pretax and after-tax investment rates mercer used in the valuation reports in an amended answer however respondent asserted that the pretax investment rates used in the and calculations and the after-tax investment rate used in the computation for all years were too low respondent asserts that the pretax and after-tax rates mr daskais proposed are reasonable and demonstrate that the rates petitioners used are unreasonable the pretax and after-tax investment rates mr daskais proposed are as follows pretax rate after-tax rate mr daskais determined the after-tax investment rates by applying a tax_rate of percent for and percent for unless otherwise indicated all rates are rounded to the nearest tenth of percent - - in our opinion mr daskais’s after-tax rates are too high because they do not take into account the minnesota state tax on unrelated_business_income minnesota taxes the unrelated income of an exempt_organization at the corporate rate of percent minn stat ann secs subd and subd west supp since state taxes paid are deducted for purposes of federal tax the combined tax_rate would be percent’ for and percent for applying the combined tax_rates to the pretax investment rates mr daskais considers reasonable results in the following after-tax investment rates rounded to nearest tenth of a percent pretax rate after-tax rate the combined tax_rate for is computed as follows starting point minn state tax pincite x - federal tax pincite x - combined tax_rate -- the combined tax_rate for is computed as follows starting point minn state tax pincite x - federal tax pincite x -28 combined tax_rate - - the difference of percent between the 8-percent after- tax_rate computed for and the 5-percent after-tax rate petitioners used in is relatively minimal and does not establish that the 5-percent rate was unreasonable moreover the internal_revenue_service publishes a permissible_range of interest rates used to calculate the current_liability for purposes of the full-funding_limitation for pensions under section a12 c see notice_88_73 1988_2_cb_383 although we are mindful that notice_88_73 supra provides that no inference should be drawn from the notice as to any issue not specifically addressed therein in the absence of regulations or other guidance to the contrary in our opinion rates that fall within the permissible_range of rates for purposes of the full-funding limitations on pensions are reasonable for purposes of computing the reserve under sec_419a the published range for a date valuation_date is dollar_figure percent notice_91_5 1991_1_cb_315 the income of a pension_trust is not taxable and the interest rates provided for purposes of the full-funding_limitation represent pretax rates application of a 36-percent combined tax_rate to percent the lowest investment rate rounded in the permissible_range for purposes of sec_412 gives an after-tax investment rate of percent which we believe supports the reasonableness of the 5-percent after-tax rate petitioners used for - - in computing norwest’s contribution for mercer applied a reasonable investment rate and used the appropriate individual level premium cost method we conclude therefore that norwest’s contribution to fund the reserve under sec_419a for did not exceed the account limit further for years even using the higher after-tax investment rates mr daskais proposed of percent for percent for and percent for it is clear that norwest’s contributions to fund the reserve do not exceed the account limit when the reserve is computed by applying the individual level premium cost method we conclude that norwest’s contributions to the postretirement benefit trust to fund a reserve for postretirement medical benefits for did not exceed the account limit for a reserve under sec_419a we hold therefore that in computing petitioners’ consolidated income_tax for petitioners are entitled to deductions for postretirement medical_benefit contributions of dollar_figure in dollar_figure in dollar_figure in and dollar_figure in to reflect the foregoing and because other issues in these cases remain for resolution an appropriate order will be issued


department of the treasury internal_revenue_service washington d g tax_exempt_and_government_entities_division date uniform issue list may legend x y dear contact person identification_number telephone number -- - e0- db this is in reply to your rulings request of date concerning x's proposed transfer of all of its assets to y pursuant to sec_507 of the internal_revenue_code x and y are nonprofit charitable corporations that are exempt from federal_income_tax under sec_501 of the code and are private_foundations under sec_509 of the code x and y are controlled by the same individuals x will transfer all of its assets to y to reduce administration costs x's scholarships already awarded to students but payable in the future will be paid_by y x expects to have no expenditure_responsibility grants outstanding under sec_4945 of the code at the time of the transfer but if so y agrees to assume such expenditure_responsibility on behalf of x after the transfer x will dissolve under state law the following rulings are requested x's transfer of ail of its assets to y will qualify as a transfer pursuant to sec_507 of the code will not constitute willful repeated acts or failures to act or a willful and flagrant act or failure to act giving rise to liability for tax under chapter of the code will not terminate the status of x as a private_foundation described in sec_509 of the code and exempt from federal income_taxation under sec_501 of the code and will not result in the imposition on x of any termination_tax under sec_507 of the code x's transfer of all of its assets to y will not adversely affect the tax-exempt status of y under sec_501 and sec_509 of the code if x notifies the internal_revenue_service that x intends to terminate its private_foundation_status pursuant to sec_507 of the code at least one day after x's transfer of all of its remaining assets to y no termination_tax under sec_507 of the code will be imposed on x x's transfer of all of its assets to y will not subject x to any excise_tax on net investment income under sec_4940 of the code the provisions of sec_4940 of the code will apply to y in the tax_year of x's transfer of all of its assets to y and in any subsequent tax_year as if y were x therefore y will report the net_investment_income of x for the tax_year of the transfer and will pay any excise_tax imposed by sec_4940 of the code with respect to such net_investment_income x's transfer of all of its assets to y will not constitute an act of self-dealing under sec_4941 of the code and will not subject any foundation_manager or other disqualified_person of x or any foundation_manager or other disqualified_person of y to the imposition of tax under sec_4941 of the code x's transfer of all of its assets to y will be counted toward the satisfaction of the distribution_requirements of x under sec_4942 of the code to the extent that the amounts transferred meet the requirements of sec_4942 of the code x will not be required to comply with the recordkeeping requirements of sec_4942 of the code with respect to the transfer of all of its assets to y the distribution_requirements of sec_4942 of the code will apply to y in the tax_year of the transfer of all of the assets of x to y and in any subsequent year as if y were x therefore y will succeed to the distribution_requirements of x for the tax_year of the transfer y will take into account for purposes of determining y's distribution_requirements under sec_4942 of the code x's excess qualifying distributions if any with respect to each year preceding the tax_year of the transfer x's undistributed_income if any with respect to the tax_year of the transfer and each preceding year x's minimum_investment_return for the tax_year of the transfer and any qualifying distributions made by x during the tax_year of the transfer either prior to or as a result of the transfer to x or y within the meaning of sec_4944 of the code x's transfer of all of its assets to y will not constitute jeopardizing investments with respect a subject x to the imposition of any_tax under sec_4945 of the code x's transfer of all of its assets to y will not constitute a taxable_expenditure and will not b x will not be required to exercise expenditure_responsibility under sec_4945 of the code with respect to the transfer to y except for information_return requirements for the year of the transfer c although x does not have any outstanding grants that require the exercise of expenditure_responsibility within the meaning of sec_4945 of the code and x does not have any plans to make any future grants that would require expenditure_responsibility if notwithstanding the foregoing x makes any grants that require expenditure_responsibility prior to the transfer of all of its assets to y such expenditure_responsibility by y will begin after the transfer by x of all of its assets to y any expenditure_responsibility requirements imposed on x with respect to grants made to organizations other than y will not subject x or y to the imposition of any_tax under sec_4945 of the code provided that y exercises such expenditure_responsibility y will exercise expenditure_responsibility for all such grants d y's assumption and payment of the remaining obligations on the scholarship grants already awarded by x will not constitute taxable_expenditures and will not subject y to the imposition of any_tax under sec_4945 of the code x will not be required to comply with the periodic reporting return and notice provisions of sec_6033 of the code for any_tax year subsequent to that in which all assets are distributed by x to y provided that x does not receive any assets and does not engage in any activity at any time after such distribution sec_501 of the code provides for the exemption from federal_income_tax of nonprofit_organizations organized and operated exclusively for the charitable and or other exempt purposes stated in that section sec_509 of the code describes organizations exempt from federal_income_tax under sec_501 of the code are private_foundations subject_to the provisions of chapter of the code sec_507 of the code and sec_1_507-1 of the income_tax regulations provide that a private_foundation may voluntarily terminate its private_foundation_status by submitting to the internal_revenue_service a statement of its intention to voluntarily terminate its private_foundation_status pursuant to sec_507 and by paying any termination_tax under sec_507 of the code sec_507 of the code impose excise_tax on a private_foundation which voluntarily terminates its private_foundation_status under sec_507 this sec_507 tax is equal to the lower_of a the aggregate tax benefits that have resulted from the private foundation's exempt status under sec_501 or b the value of the net assets of the private_foundation sec_507 of the code concerns the transfer of assets by one private_foundation to one or more other private_foundations and provides that each transferee private_foundation shall not be treated as a newly created organization sec_1_507-3 of the regulations indicates that a transfer under sec_507 of the code includes a transfer of assets from one private_foundation to one or more other private_foundations pursuant to any reorganization including a significant disposition of or more of the transferor foundation's assets sec_1_507-3 of the regulations provides that in a transfer of assets from one private_foundation to one or more private_foundations pursuant to a reorganization each transferee private_foundation shall not be treated as a newly created organization but shall succeed to the transferor’s aggregate tax benefits under sec_507 of the code sec_507 of the code indicates that the aggregate tax benefits of a private_foundation refer to the value of its exemption from federal_income_tax and of the deductions taken by its donors during its existence sec_1_507-1 of the regulations provides that a private_foundation which transfers all of its net assets is not required to file annual information returns required by sec_6033 of the code for subsequent tax years after its tax_year of such transfer when it has no assets or activities sec_1_507-3 of the regulations indicates that a transferor private_foundation is required to méet its charitable distribution_requirements under sec_4942 of the code even for any_tax year in which it makes a transfer of its assets to another private_foundation pursuant to sec_507 of the code sec_1_507-3 of the regulations provides that where a private_foundation has transferred ail of its assets to another private_foundation in a transfer under sec_507 of the code it is not required to exercise expenditure_responsibility under sec_4945 of the code with respect to such transfer sec_1_507-3 of the regulations provides that certain tax provisions will carry over to a transferee private_foundation that receives a transfer of assets from another private_foundation pursuant to sec_507 of the code sec_1_507-3 of the regulations provides that if a private_foundation transfers assets to one or more private_foundations which are effectively controlled directly or indirectly within the meaning of sec_1_482-1 of the regulations by the same persons who effectively control the transferor foundation each transferee foundation will be treated as if it were the transferor foundation for purposes of sec_4940 through and sec_507 through of the code each transferee is treated as its transferor in the proportion which the fair market vatue of the transferor’s assets transferred to the transferee bears to the fair_market_value of all of the transferor's assets immediately before the transfer sec_1_507-3 of the regulations provides that a transfer of assets under sec_507 of the code does not relieve the transferor private_foundation from filing its own final tax_year return as required by sec_6043 of the code sec_1_507-4 of the regulations provides that the tax on termination of private_foundation_status under sec_507 of the code does not apply to a transfer of assets under sec_507 of the code sec_1_507-1 and sec_1_507-3 of the regulations provide that a transferor foundation's transfer of assets under sec_507 of the code will not constitute any termination of the transferor foundation's private_foundation_status under sec_509 sec_4940 of the code imposes excise_tax on certain investment_income of a private_foundation sec_4941 of the code imposes excise_tax on any act of self-dealing between a private_foundation and any of its disqualified persons under sec_4946 of the code sec_53_4946-1 of the regulations provides that for purposes of self-dealing under sec_4941 of the code an exempt_organization under sec_501 of the code is not a disqualified_person sec_4942 of the code requires that a private_foundation must expend annual qualifying distributions under sec_4942 of the code for the conduct of exempt purposes revrul_78_387 c b a transferor private foundation's excess qualifying distributions under sec_4942 of the code where the transferor and the transferee foundations are controlled by the same persons under sec_1_507-3 of the regulations under that regulation the transferee is treated as the transferor so that the transferee can reduce its own distributable_amount under sec_4942 of the code by its share of the amount if any of the transferor foundation's excess qualifying distributions under sec_4942 of the code describes the carryover of sec_4945 of the code imposes excise_tax on any private foundation's making of a taxabie expenditure under sec_4945 of the code sec_4945 of the code requires that in order to avoid making a taxable_expenditure a transferor private_foundation must exercise expenditure_responsibility under sec_4945 of the code on its grants to another private_foundation sec_4945 of the code defines expenditure_responsibility in terms of the grantor private_foundation requiring pre-grant inquiry and post-grant reports as to the grantee private_foundation on its uses of the grant sec_4945 of the code provides that a taxable_expenditure includes any amount expended by a private_foundation for purposes other than exempt purposes sec_53_4945-6 allows a private_foundation to transfer its assets to exempt_organizations under sec_501 of the code including private_foundations pursuant to sec_507 of the code without the transfers being taxable_expenditures under sec_4945 of the code analysi sec_1 under sec_507 of the code and sec_1_507-3 of the regulations a transfer under sec_507 includes a transfer of assets from one private_foundation to one or more other private_foundations pursuant to any reorganization or liquidation including any significant disposition of or more of the transferor private foundation's assets because x will make such a disposition by transfer of all of its assets to y x's transfer of assets to y will be a transfer under sec_507 of the code under sec_507 of the code x's transfer to y for exempt purposes under sec_501 of the code will not constitute any act or failure to act which would result in tax under chapter of the code under sec_1_507-4 of the regulations x's transfer of its assets pursuant to sec_507 of the code will not cause termination of x's private_foundation_status under sec_509 of the code and will not result in termination_tax under sec_507 of the code x's assets transferred to y will remain dedicated to exempt purposes under sec_501 of the code and thus x's transfer of assets to y will not adversely affect the exemptions from federal_income_tax under sec_501 of the code of x or y sec_507 of the code imposes excise_tax on private_foundation which voluntarily terminates its private_foundation_status pursuant to sec_507 of the code this tax under sec_507 of the code is equal to the lower_of a the aggregate tax benefits that have resulted from the foundation's exemption from federal_income_tax under sec_501 of the code or b the value of the net assets of the foundation after x transfer all of its assets to y the value of x's assets will be zero when x notifies the internal_revenue_service of its voluntary termination of private_foundation_status pursuant to sec_507 of the code and thus such termination of x's private_foundation_status under sec_509 of the code pursuant to a notice under sec_507 of the code will result in zero termination_tax under sec_507 of the code a x's transfer of its assets will be for exempt purposes under sec_501 of the code to y which is exempt from federal_income_tax under sec_501 of the code and will not be investment_income or a disposition of property subjecting x or y to tax on investment_income under sec_4940 of the code sec_1_507-3 of the regulations indicates that if a transferor private_foundation transfers assets to one or more private_foundations which are controlled directly or indirectly by the same persons who control the transferor foundation each transferee foundation will be treated as if it were the transferor foundation for purposes of sec_4940 through and sec_507 through of the code each transferee is treated as the transferor in the proportion which the fair_market_value of the assets transferred to it bears to the fair_market_value of all of the assets of the transferor immediately before the transfer thus x's investment_income under sec_4940 of the code can be treated as that of its transferee y and transferor x's tax on such income under sec_4940 of the code can be paid_by its transferee y under sec_53_4946-1 of the regulations transferee y is not a disqualified_person under sec_4946 of the code for purposes of sec_4941 of the code because y is an organization exempt from federal_income_tax under sec_501 of the code because x's transfer of assets to y wilt not be a transfer to a disqualified_person under sec_4946 of the code t's transfer wilt not be an act of self-dealing under sec_4941 of the code sec_4942 of the code provides that a transferor private_foundation in order to make a qualifying_distribution for its grant to another private_foundation must have adequate_records as required by sec_4942 of the code to show that the transferee private_foundation in fact subsequently made qualifying distributions that were equal to the amount of the transfer received and that were paid out of the transferee's own corpus within the meaning of sec_4942 of the code such transferee foundation's qualifying distributions must be expended before the close of the transferee's first tax_year after the transferee’s tax_year in which it received the transfer thus x's transfer of its assets to y will be counted toward the satisfaction of x's distribution_requirements under sec_4942 of the code if and to the extent that such amounts transferred by x meet the requirements of sec_4942 of the code under sec_1_507-3 of the regulations x will not be required to meet recordkeeping requirements if any under sec_4942 of the code with respect to its transfer of all of its assets to y as in revrul_78_387 described above after x's transfer of all of its assets to y x's excess qualifying distributions if any under sec_4942 of the code may be used by x or by its transferee y to reduce the distributable_amount of x and or y under sec_4942 of the code by the amount if any of x's excess qualifying distributions carryover under sec_4942 of the code under sec_1_507-3 of the regulations x's transfer of all of its assets to y will allow transferee private_foundation y to be treated as its transferor x under sec_4942 of the code with respect to x's minimum_investment_return undistributed_income and qualifying distributions because x's transfer of assets will be made for exempt purposes under sec_501 of the code to y which is exempt from federal_income_tax under sec_501 of the code x's transfer to y will not be a jeopardizing investment or result in tax under sec_4944 of the code a sec_53_4945-6 of the regulations indicates that a private_foundation can transfer assets pursuant to sec_507 of the code to organizations exempt from federal_income_tax under sec_501 of the code including private_foundations without the transfers being taxable_expenditures under sec_4945 of any expenditure_responsibility requirements under sec_4945 of the code are met thus x's transfer which is a transfer of all of its assets that is not subject_to the expenditure_responsibility requirements of sec_4945 of the code will be made to exempt transferee y for exempt purposes under sec_501 of the code and thus will not be a taxable_expenditure or result in tax under sec_4945 of the code the code provided that b sec_1_507-3 of the regulations provides that if a private_foundation transfers all of its assets to one or more transferee private_foundations pursuant to sec_507 of the code such trafsferor foundation does not incur any expenditure_responsibility requirement under sec_4945 of the code with respect to such transfer of all of its assets pursuant to sec_507 of the code thus when x transfers all of its assets to y pursuant to sec_507 of the code x will not be required to exercise any expenditure_responsibility under sec_4945 of the code with respect to its transfer of all of its assets to y pursuant to sec_507 of the code tte as in sec_1_507-3 example of the regulations x and y can have an expenditure_responsibility agreement between them whereby transferee y agrees to assume x's expenditure_responsibility if any under sec_4945 of the code with respect to outstanding expenditure_responsibility grants if any of x thus transferee private_foundation y can exercise any required expenditure_responsibility under sec_4945 of the code for any expenditure_responsibility grants that might be made by x prior to x's transfer of ail of its assets to y pursuant to sec_507 of the code d under sec_1_507-3 of the regulations x's transfer of all of its assets to y wilt allow transferee private_foundation y to be treated as its transferor x thus y's assumption and payment of x's remaining obligations on scholarship grants already awarded by x will not constitute taxable_expenditures and will not subject x or y to tax under sec_4945 of the code under sec_1_507-1 of the regulations x will not be required to meet the annual reporting requirements of sec_6033 of the code for any_tax years after the tax_year of x's transfer of all of its assets to y when x will have no assets or activities accordingly we rule that x's transfer of all of its assets to y will qualify as a transfer pursuant to sec_507 of the code will not constitute willful repeated acts or failures to act or a willful and flagrant act or failure to act giving rise to liability for tax under chapter of the code will not terminate the status of x as a private_foundation described in sec_509 of the code and exempt from federal income_taxation under sec_501 of the code and will not result in the imposition on x of any termination_tax under sec_507 of the code x's transfer of all of its assets to y will not adversely affect the tax-exempt status of y under sec_501 and sec_509 of the code if x notifies the internal_revenue_service that x intends to terminate its private_foundation_status pursuant to sec_507 of the code at least one day after x's transfer of all of its remaining assets to y no termination_tax under sec_507 of the code will be imposed on x x's transfer of all of its assets to y will not subject x to any excise_tax on net investment income under sec_4940 of the code the provisions of sec_4940 of the code will apply to y in the tax_year of x's transfer of all of its assets to y and in any subsequent tax_year as if y were x therefore y will report the net_investment_income of x for the tax_year of the transfer and wil pay any excise_tax imposed by sec_4940 of the code with respect to such net_investment_income x's transfer of all of its assets to y will not constitute an act of self-dealing under sec_4941 of the code and will not subject any foundation_manager or other disqualified_person of x or any foundation_manager or other disqualified_person of y to the imposition of tax under sec_4941 of the code x's transfer of all of its assets to y will be counted toward the satisfaction of the distribution_requirements of x under sec_4942 of the code to the extent that the amounts transferred meet the requirements of sec_4942 of the code x will not be required to comply with the recordkeeping requirements of sec_4942 of the code with respect to the transfer of all of its assets to y the distribution_requirements of sec_4942 of the code will apply to y in the tax_year of the transfer of all of the assets of x to y and in any subsequent year as if y were x therefore y will succeed to the distribution_requirements of x for the tax_year of the transfer y will take into account for purposes of determining y's distribution_requirements under sec_4942 of the code x's excess qualifying distributions if any with respect to each year preceding the tax_year of the transfer x's undistributed_income if any with respect to the tax_year of the transfer and each preceding year x's minimum_investment_return for the tax_year of the transfer and any qualifying distributions made by x during the tax_year of the transfer either prior to or as a result of the transfer to x or y within the meaning of sec_4944 of the code x's transfer of ail of its assets to y will not constitute jeopardizing investments with respect a subject x to the imposition of any_tax under sec_4945 of the code x's transfer of ail of its assets to y will not constitute a taxable_expenditure and will not x will not be required to exercise expenditure_responsibility under sec_4945 of the code with respect to the transfer to y except for information_return requirements for the year of the transfer c although x does not have any outstanding grants that require the exercise of expenditure_responsibility within the meaning of sec_4945 of the code and x does not have any plans to make any future grants that would require expenditure_responsibility if notwithstanding the foregoing x makes any grants that require expenditure_responsibility prior to the transfer of all of its assets to y y will exercise expenditure_responsibility for all such grants such expenditure_responsibility by y will begin after the transfer by x of all of its assets to y any expenditure_responsibility requirements imposed on x with respect to grants made to organizations other than y will not subject x or y to the imposition of any_tax under sec_4945 of the code provided that y exercises such expenditure_responsibility d awarded by x any_tax under sec_4945 of the code y's assumption and payment of the remaining obligations on the scholarship grants already will not constitute taxable_expenditures and will not subject y to the imposition of ve x will not be required to comply with the periodic reporting return and notice provisions of sec_6033 of the code for any_tax year subsequent to that in which all assets are distributed by x to y provided that x does not receive any assets and does not engage in any activity at any time after such distribution because this rulings letter could help to resolve any questions please keep it in your permanent records this rulings letter is directed only to the organizations that requested it code provides that this rulings letter may not be used or cited as precedent sec_6110 of the sincerely -s- joseph chasin acting manager exempt_organizations technical group