21 November 2016Law & regulation

Advisers to small captives must declare certain transactions to IRS

Taxpayers associated with captive insurers that claim the benefit of Section 831(b), which allows non-life insurers with less than $1.2 million in written premiums ($2.2 million in 2017) to elect to be taxed only on their taxable investment income, should consider whether the Internal Revenue Service (IRS) notice also applies to them, according to a PwC report.

In a report, titled ‘New reporting requirements apply to small captive insurers and their advisors’, PwC stresses that if a company and policyholder, the IRS has expressed concern about such arrangements.

The new reporting requirements, effective from November 2016, identify certain captive insurance transactions where certain persons involved with the transaction must disclose their involvement to the IRS.

The IRS has expressed concern previously that some companies present a risk of abuse – especially if the company and the policyholder are related – due to a business policyholder still being able to deduct premiums paid to an insurance company.

“The notice describes features of some Section 831(b) insurance transactions that concern the IRS, such as uneconomic premiums, failure to observe terms of the underlying insurance contracts, and insurance or improbable risks,” PwC said.

“Regardless of whether those features exist, an insurance arrangement is a transaction of interest under the notice if it has the following elements: a) a business owner directly or indirectly owns an entity conducting a trade or business; b) an insurance company directly or indirectly owned by the business owner or a related person enters into an insurance contract with (reinsures risk of) the business and c) the insurance company elects to be taxed under Section 831(b).”

The report also said: "The IRS acknowledges in the notice that not all captive insurance structures are abusive. Taxpayers who are parties to arrangements described in the notice, or are parties to similar arrangements, should evaluate the applicability of the notice and the qualification of their arrangements as insurance companies. Notice 2016-66 is the most recent development in the area, but is likely not the last.”