26 June 2018Accounting & tax analysis

Reserve Mechanical case "bears no resemblance to Avrahami", says JLT's Towle

As the dust settles on the US Tax Court's latest ruling against a small captive, the captive insurance industry is still examining what the Reserve Mechanical Corp v Commissioner case means for the sector.

The tax court had ruled that Reserve Mechanical's risk pool entity, Pool Re Insurance, operated by Capstone Associated Services, was not a "bona fide insurance company" because it did not distribute risk.

It was decided that when Reserve Mechanical Corporation used Pool Re as its stop-loss insurance company from 2008 through 2010, it did not constitute insurance transactions as initially thought.

JLT Insurance Management captive practice leader Anne Marie Towle has weighed in on the matter, stating the case "bears no resemblance" to the Avrahami v Commissioner case.

"Reserve Mechanical cites numerous reasons and transactions showing how its business was insurance-related,” says Towle. “If the court gave no weight to more than three dozen previous rulings in favor of captives and similar arrangements, as it seems to have happened, I expect this will not be the last we hear of this case.”

Capstone had disputed the tax court’s comparison to Avrahami, in which the captive was also ruled against. It argued that Pool Re’s payment of substantial claims and inclusion of unaffiliated third-part reinsurance to its legitimate insuring of a mining business were valid reasons as to why the insurance transactions were legitimate and different from the comparisons made.

As the industry continues to mature, Towle urges that captives and the people that serve them should continue to follow best practices in using a risk financing arrangement that has overwhelmingly proved legitimate and necessary for business.