ACLI Requests Guidance on Life Insurance Issues

May 28, 2021

Internal Revenue Service
Attn: CC:PA:LPD:PR (Notice 2021-28)
Room 5203
P.O. Box 7604
Ben Franklin Station
Washington, D.C. 20044

Re: Notice 2021-28, 2021-2022 Priority Guidance Plan (PGP) Recommendations

Dear Sir/Madam:

On behalf of the American Council of Life Insurers (“ACLI”), we request that the items described below be included on your Priority Guidance Plan (“PGP”) list for 2021-2022. In addition, we write in support of the requests made by the Committee of Annuity Insurers to you in their letter dated May 28, 2021, including guidance relating to the treatment of annuity contracts that are issued as individual retirement annuities (“IRAs”) and to qualified retirement plans.

We appreciate the need to prioritize resources. We have limited this list to those items that are most important to life insurers and that satisfy the criteria set forth in Notice 2021-28. The requested guidance is relevant to a broad class of taxpayers and will greatly reduce controversy and lessen burdens on both taxpayers and the Internal Revenue Service (“IRS”). We would note in this regard that life insurers are subject to the general corporate rules as well as rules under subchapter L as life insurance companies. The guaranteed financial security and retirement products we offer consumers cover a broad class of individual taxpayers. Thus, while the general guidance Treasury and IRS issue serves our industry and its consumers as taxpayers generally, guidance specific to our industry is critical to the efficient functioning of our industry and its consumers. We have identified those items for which we previously provided substantive comments and modified them to focus on the issues that remain unaddressed and unresolved. In so doing, we have organized our requests into items that are on the current 2020-2021 PGP and those which are not.

ITEMS ON THE 2020-2021 PGP FOR WHICH LIFE INSURANCE INDUSTRY GUIDANCE IS REQUESTED/OUTSTANDING:

Changes to the Life/Nonlife Consolidated Return Regulations

ACLI has long maintained that certain aspects of the life-nonlife consolidated return regulations (Treas. Reg. § 1.1502-47) are outdated and unnecessary and in need of fundamental revision. These regulations, which affect almost every major U.S. insurance group, have in substance remained virtually unchanged since they were promulgated nearly 40 years ago,¹ despite significant subsequent changes to the taxation of both life and property and casualty insurance companies, most of which date back to the 1980's. Failure of the life-nonlife consolidated return regulations to keep pace with enacted statutory law changes — and with changes to the consolidated return regulations over the past four decades that apply to taxpayers generally — have made the life-nonlife regulations difficult for taxpayers to apply and for the IRS to administer. The changes that ACLI recommends would improve clarity and understandability for both taxpayers and the Government, thereby reducing controversy and promoting sound tax administration through more consistent application of the rules. Just as importantly, they would reduce or eliminate unnecessary disparities — beyond the differences that the Internal Revenue Code (the “Code”)² prescribes — between life-nonlife consolidated groups and other types of consolidated groups.

The 2020-2021 PGP includes a project on: “Regulations regarding life-nonlife consolidated groups under § 1.1502-47.” However, the scope of that project is unclear. The preamble to T.D. 9927 indicated that the Treasury Department and the IRS appreciate input, and welcome further comments, regarding substantive changes to § 1.1502-47 for purposes of potential further guidance. Accordingly, ACLI urges that the scope of the current PGP project include substantive changes to § 1.1502-47 necessitated by statutory changes over the past 40 years and by the evolution of the consolidated return regulations. ACLI believes that fundamental provisions of the life-nonlife regulations should be made by this PGP project, rather than merely tacking piecemeal guidance onto a framework that is already under strain to serve purposes for which it was never intended. Ultimately, the life-nonlife regulations were designed to deal with the determination, allocation and utilization of losses among the members of a life-nonlife group. ACLI believes it imperative that the regulations focus on implementing the loss limitations required by the statutory provisions, but otherwise to the extent possible incorporate “normal” consolidated return principles applicable to consolidated groups generally. ACLI's recommendations are directed towards those ends.

The substantive changes to the life-nonlife regulations advocated by ACLI include the following:

• Apply “normal” consolidated return loss allocation rules to losses of eligible and ineligible nonlife members;

• Apply SRLY principles to utilization of ineligible nonlife losses, including in the context of acquired nonlife groups;

• Apply “normal” consolidated return rules to allow the netting of capital losses against capital gains of all members of the group; and

• Simplify the eligibility and tacking rules.

Proposed Regulations under § 382 Related to Built-In Gain and Loss

On September 10, 2019, the IRS published proposed regulations (REG-125710-18) in the Federal Register regarding the items of income and deduction that are included in the calculation of built-in gains and losses under § 382 of the Internal Revenue Code for corporations that experience an ownership change under § 382. ACLI submitted comments on the proposed regulations in a letter dated November 11, 2019.

The ACLI comment letter made the following points with respect to application of the proposed regulations to an acquisition of a life insurance business:

• The computation of net unrealized built-in gain (“NUBIG”) and net unrealized built-in loss (“NUBIL”) under the proposed regulations' assumption of a hypothetical sale of assets at fair market value to an unrelated third party that assumes no liabilities is unworkable in the context of acquisition of a life insurance business. A sale of insurance contracts is effectuated through a reinsurance transaction, which necessarily requires an assumption of the obligations under the contracts.

• Existing regulations recognize that tax deductible reserves, as determined under the requirements of Subchapter L of the Code, are the proper measure for valuing the intangible asset for in-force insurance contracts (“value of insurance in-force” or “VIF”) for other Federal income tax purposes and should likewise be the measure of VIF for purposes of § 382. Furthermore, such deductible tax reserves, should not be treated either as a non-contingent liability or as a contingent liability in computing NUBIG or NUBIL. Instead, they should be taken into account in the same manner as a deductible accrued liability.

Accordingly, if final regulations retain the approach set forth in the proposed regulations,³ ACLI recommends that a life insurance company exception to be added to final regulations that would:

• Recognize that in a hypothetical sale of insurance contracts by a life insurance company a hypothetical buyer would necessarily have to assume the liabilities under the contracts;

• Incorporate the principles set forth in existing regulations relating to a hypothetical sale of insurance contracts treating a deemed sale as an assumption reinsurance transaction and using tax reserves in determining the value of the insurance contracts; and

• Recognize that the Internal Revenue Code prescribes rules for the determination of tax reserves deductible by a life insurance company and that increases or decreases in such prescribed deductible amounts should be taken into account in the deemed sale in the same manner as a deductible accrued liability.

The ACLI comment letter also maintained that the proposed regulations violate the “neutrality principle” underlying the statutory provisions of § 382 by denying, except in the case of a disposition, recognition of intangible assets such as VIF as recognized built-in gain (“RBIG”) as they are earned during the recognition period. Accordingly, ACLI further recommends that final regulations make allowance for such recognition.

SECURE Act Beneficiary Guidance

Section 401 of the Setting Every Community Up for Retirement (“SECURE”) Act added § 401(a)(9)(H) to the Code which shortened to 10 years the period within which an individual beneficiary must generally liquidate an IRA or qualified retirement plan following the owner's or participant's death. Exceptions are limited to surviving spouses and other eligible designated beneficiaries who generally can continue to receive amounts using prescribed life expectancy factors.

We believe that it is important for the IRS to generally declare what provisions of the existing required minimum distributions (“RMD”) regulations remain in effect and which have been superseded. The current uncertainty complicates the efforts of our member companies to administer after-death RMD provisions, including preparation of beneficiary forms, disclosures and other customer-facing materials, system programming and customer support.

This is not simply a matter of noting direct inconsistencies, such as the unavailability of payments over life expectancy to beneficiaries other than eligible designated beneficiaries.

It is reasonable to conclude that, with the SECURE Act, Congress intends the 10-year rule to be the default, available to any individual beneficiary that makes this election. It would be anomalous for payments over a life expectancy to be required in situations where such beneficiary would be happy to forego this special treatment. Conversely, it would be unreasonable to deny the option of receiving payments based on life expectancy to such beneficiaries who belatedly learned of a death or otherwise missed commencing distributions by the required beginning date. These competing considerations suggest that guidance should adopt a policy of taxpayer flexibility with regard to both the default distribution method and beneficiary elections which are responsive to very young or quite elderly beneficiaries.

Guidance is also needed to resolve uncertainty as to whether the SECURE Act RMD changes apply to 457(b) plans of non-governmental employers. Section 401(a)(9)(H)(vi) states that all eligible retirement plans other than defined benefit plans or trusts shall be treated as a defined contribution plan. A 457(b) plan of a non-governmental employer is not an eligible retirement plan and is therefore not deemed to be a defined contribution plan under subparagraph (vi). However, it is arguable that such a plan is inherently a defined contribution plan, unless established as a defined benefit plan. Since deferred compensation plans maintained for highly compensated employees are subject to strict rules governing the timing of payments, it is critical for plan administrators to resolve any uncertainty in this area.

Our collective experience is that the SECURE Act changes have greatly increased the complexity of beneficiary administration and planning. The Service's considerable efforts to explain these developments in Publication 590-B⁴ should demonstrate the benefits of simplification, wherever this is possible within the statutory plan.

Guidance under § 954, Including Foreign Base Company Sales and Services Income, and the Use of Foreign Statement Reserves for Purposes of Measuring Qualified Insurance Income under § 954(i)

Since 2017, PGPs have anticipated, and ACLI has advocated for, guidance for taxpayers seeking to use foreign statement reserves for purposes of calculating the amount of income that qualifies as an exception to the Subpart F rules under § 954(i) of the Code. The need for guidance is enhanced given statutory changes to § 807(d) effective in 2018 and the lack of clarity as to how those changes affect the § 954(i) calculation.

ACLI believes that guidance in this area would preserve substantial IRS and taxpayer resources. We look forward to following up on the details discussed during an ACLI-IRS meeting in October 2020 to help develop principles for using foreign statement reserves for purposes of measuring insurance company Subpart F income.

Tax Treatment of State Paid Family and Medical Leave (“PFML”) Programs

The IRS included guidance on contributions to and benefits from paid family and medical leave programs in the November 2020 update to its Priority Guidance Plan. We believe such guidance should remain a priority.

We commend the IRS on its 2020-2021 Priority Guidance Plan for noting the need for guidance on contribution to and benefits from paid family and medical leave programs. Many state programs are coming online with benefits paid by a private insurance company or the self-insured plan of employers. Some states have taken a position as to the federal tax treatment, including states like New York and Connecticut, who have issued guidance that paid family leave is reportable on Form 1099-R and is subject to FICA and voluntary federal income tax withholding. This state guidance is not supported by any federal guidance. Other states have publicly admitted that they do not know the federal tax treatment of the benefits and are waiting for Treasury and IRS to issue federal guidance. Private insurers issuing PFML products need IRS clarification on the tax treatment of contributions made to PFML programs and of benefits paid from such programs, including whether to characterize PFML benefits as either wage replacement or wage continuation under the regulatory definitions.

Required Minimum Distribution Guidance

Changes are still needed to the RMD regulations to modify the minimum income threshold test (“MITT”) to remove barriers to annuitization at later ages. The current MITT rules prevent individuals from receiving common forms of life annuities in certain circumstances that do not involve inappropriate deferral. This situation is impairing the retirement security of American savers.

More specifically, improvements in mortality, coupled with historically low interest rates, have made compliance with the minimum distribution rules promulgated under § 401(a)(9) impossible for many annuity payment streams that were permissible when these rules were first developed. The rules now limit the use of guarantee periods and return of premium death benefits, severely constraining the use of annuities with even modest annual increases and making annuitization less attractive when compared to the required minimum payments for non-annuity arrangements. It is important that the IRS amend the rules to eliminate the rules' distortive application in the face of unusual interest rate developments.

Reserve Reporting

During 2020, two significant pieces of guidance were issued with respect to matters relating to section 807:

• T.D. 9911 — with rules regarding computation and reporting of reserves for life insurance companies.

• Revenue Ruling 2020-19 — providing updated guidance on what constitutes a change in basis of computing reserves under section 807(f).

ACLI commends Treasury and the IRS on the issuance of this guidance, which was both timely and responsive to life insurance industry comments and requests.

One of the areas addressed by T.D. 9911 is reporting of reserves. Reg. § 1.807-3 provides that the IRS may require life insurance company reporting with respect to the opening and closing balances of reserve items described in section 807(c), and with respect to the method of computing such items for the purposes of determining income. It also states that such reporting may provide for the way separate account items are reported.

ACLI's comments on the proposed regulations expressed the industry's view that any additional reserve reporting requirements should properly balance the burden on companies with the utility of before specific reserve reporting requirements are put into effect. The preamble to the final regulations states: 1) that the IRS understands the importance of obtaining the life insurance industry's input before imposing reserve reporting requirements, and 2) that the IRS expects to consult with the industry before imposing such requirements. Accordingly, additional reserve reporting information is not yet required to be filed on Form 1120-L, U.S. Life Insurance Company Income Tax Return.

ACLI commends the IRS on this commitment and hereby reiterates its request that future reserve reporting requirements, if any, be developed in conjunction with industry input and with proper recognition of the utility of such reporting in comparison to the burden of compliance.

ITEM FOR INCLUSION THE 2021-2022 PGP:

Publish the 60-month Average Federal Rate on an Annual Basis to Assist Life Insurers in their Compliance with Section 7702

The Consolidated Appropriations Act, 2021 (Pub. L. 116-260, the "Act") was enacted by the 116th Congress and signed into law by President Trump on December 27, 2020. The Act amended section 7702(f) by adding a new paragraph (11), setting an “insurance interest rate” to be used in applying the cash value accumulation and guideline premium tests (CVAT and GPT) in Section 7702. The insurance interest rate is the lesser of two rates, the section 7702 valuation interest rate, or) the section 7702 applicable Federal interest rate. Section 7702(f)(11)(C) defines the applicable Federal interest rate as:

the average (rounded to the nearest whole percentage point) of the applicable Federal mid-term rates (as defined in section 1274(d) but based on annual compounding) effective as of the beginning of each of the calendar months in the most recent 60-month period ending before the second calendar year prior to such adjustment year.

We request Treasury and IRS to publish annually the 60-month average Federal mid-term rate that our members could use to arrive at the insurance interest rate, and to put the recurring guidance item on the 2021-2022 PGP.

Update Lists of Required Modifications (“LRMs”) for traditional/SEP IRAs, Roth IRAs, SIMPLE IRAs for SECURE Act changes

Many insurance companies rely on the LRMs for traditional/SEP, Roth, and SIMPLE IRAs to create endorsements for the annuity contracts they issue as IRAs. These endorsements can then be submitted to the IRS for prototype approval. Those companies who choose not to obtain prototype approval can be comfortable their endorsements accurately reflect the IRS's views on the form requirements applicable to IRAs by incorporating the LRMs into their annuity endorsements.

The LRMs need to be updated to incorporate SECURE Act changes that were effective January 1, 2020 (such as the RMD age increase to 72 and incorporating the new provisions that govern distributions that apply after the owner's death). For companies that rely upon the LRMs to update endorsements, new annuity contracts continue to receive endorsements with outdated provisions, leading to questions from owners about how the new SECURE Act provisions apply. Existing contract owners also have outdated provisions in their endorsements. For these reasons, it would be helpful to have updated LRMs soon to bring the endorsements into compliance with existing laws.

As the foregoing grouping illustrates, much of the guidance our industry needs is currently on the PGP. Life insurance company and life insurer consumer guidance with input from our industry is necessary for sound and effective tax administration.

In the interest of conserving resources, we note that the 2020-2021 PGP included one insurance-related item for which the industry believes no guidance is necessary. That item is guidance on the exchange of property for an annuity contract, which was the subject of regulations proposed in 2006. At this point, we are unaware of controversy in this area, nor are we aware of any burden these transactions impose on tax administration. You might wish to consider removing the item from the 2021-2022 and future PGPs in favor of issues for which guidance is more urgent.

Thank you for your time on, and attention to, these recommendations for the 2021-2022 PGP. We welcome the opportunity to discuss our recommendations and to work with you on these issues in the coming months.

Sincerely,

Regina Y. Rose
Senior Vice President, Taxes & Retirement Security
(202) 624-2154 t
reginarose@acli.com

Mandana Parsazad
Vice President, Taxes & Retirement Security
(202) 624-2152 t
mandanaparsazad@acli.com

American Council of Life Insurers
Washington, DC