A pitfall in pension plans - includes other tax-related information

Nation's Business, March, 1985 by Gerald W. Padwe

A Pitfall in Pension Plans

Suppose you have a pension plan for your employes, and one of them dies. In accordance with your employe's clearly expressed wishes, you pay the death benefits to his son. But then the employe's widow claims that she, too, is entitled to those benefits. Given that the employe has designated another beneficiary, in writing, the widow has no basis for her claim--or does she?

In fact, she does, thanks to the Retirement Equity Act of 1984. Under that law, an employer maintaining a pension, profit-sharing or stock bonus plan risks having to pay double benefits --to a designated beneficiary and to a surviving spouse--unless the plan is amended to meet the death benefit rules added by the 1984 law.

The act has been criticized as poorly written. It requires any death benefits to be paid to the deceased participant's surviving spouse, unless the spouse has previously waived the benefits. The waiver must be in writing and witnessed by a plan representative or a notary public. These new death benefit rules apply if a deceased plan participant had as little as one hour of service with the employer after Aug. 23, 1984, the date of the act.

If a plan pays a death benefit to the deceased participant's designated beneficiary (for example, a child or parent) and the surviving spouse also claims the death benefit under the new law, the contributing employer could be required to pay twice.

Can employers minimize this risk by ignoring a beneficiary designation and paying death benefits only to the surviving spouse? Perhaps, but there appears to be nothing in the law that invalidates the deceased participant's earlier designation in favor of the alternative beneficiary. Thus, employers could face conflicting claims whomever they chose to pay.

Unfortunately, some employers may be called on to make decisions before the Internal Revenue Service provides firm guidance through regulations.

Report Those Payments

Over the years, the IRS has greatly improved its ability to match taxpayers' Forms 1040 with documents reporting dividends and interest paid them. These improvements allow the IRS to trace virtually all dividends and interest paid from the Form 1099 filed by the payor to the individuals' tax returns.

Confident that it has gotten a grip on an area where, in the past, enforcement was difficult, the IRS has recently revised its Internal Revenue Manual. It now requires a negligence penalty on any tax assessed from nonreporting of dividend or interest income, when a Form 1099 information report was filed by the payor. Since the negligence penalty is 5 percent, and it is not deductible, it amounts to a substantial additional interest charge.

The IRS believes a negligence penalty is appropriate in these circumstances, since the taxpayer will have received the income, a Form 1099 will have been sent reminding him or her to report the income, and all taxpayers must report all income on their returns.

Such penalties are presumptive only; that is, one will not be imposed if the taxpayer can rebut the presumption. However, even though most penalties will be abated for "reasonable cause,' to overturn this presumption requires "clear and convincing evidence' that no negligence occurred.

Taxpayers will find, starting with 1984 income, that the IRS' computer-generated notices suggesting the omission of dividend or interest income, as determined by the matching program, will automatically have the negligence penalty added to the proposed bill.

Diesel Car Credit

Do you own a diesel-powered automobile, either personally or in your business, purchased in 1979 or later? Uncle Sam may have a few dollars for you.

One of the 1984 tax act's revenue enhancements was an increase in the excise tax on commercial diesel fuel used to power motor vehicles, from 9 cents to 15 cents a gallon. The tax increase has gotten little notice among users, because the decrease in fuel prices over the past few months has meant that many motorists are paying virtually the same price for diesel fuel today (after the 6-cent increase) as they did before the tax went into effect.

However, Congress' intent was to impose the increase on diesel-powered heavy trucks rather than cars, so a one-time credit is being allowed for owners of diesel-equipped vehicles weighing 5 tons or less--a limit that includes cars, vans and some light trucks.

The credit, on a sliding scale, is available only to holders of 1979 and later model diesel vehicles. For automobiles, the credit amount is as follows:

Model Year & Credit

1979 $17

1980 $34

1981 $51

1982 $68

1983 $85

1984 $102

The sliding scale is calculated by multiplying the number of gallons of diesel fuel to be used in the estimated remaining useful life of the auto by the 6-cent increase. The credit (at 1984 rates) will also be available to original purchasers of 1985 through 1988 model diesels.

Calendar-year taxpayers may claim the credit by attaching Form 4136 to Form 1040.

Photo: Falling prices have disguised a tax increase on fuel for diesel cars.