Fed Tax Update - tncaptives.org...TCIA Tennessee Captive Insurance Association, Inc. Rent-A-Center (cont’d) • Rent-A-Center is a public company which rents furniture, etc. to the

TCIATennessee Captive Insurance Association, Inc.

EdwardK.White Charles“Chaz”Lavelle GaryBowers

1320MainStreet,17th FloorSeniorPartner Partner

Columbia,SC29201BinghamGreenebaumDollLLPJohnsonLambert,LLPDirect: 502-587-3557

[email protected] 502-587-3557 919-719-6411

803-255-9559


Rent-A-Center• Rent-A-Centerisapubliccompanywhichrentsfurniture,etc.tothepublic.• FromtheBriefsfiled(nottheopinion),Rent-A-Centerhad3to12subsidiaries[dependingontheyear],butineachyear,oneaccountedfor61to68%ofthetotalpremiumsofthecaptive.• CaptiveinsuredthedeductiblesofRent-A-Center’sG/L,AutoandWorkers’CompCommercialinsuranceprogram.• Somecommercialcarriersdeclinedtowritethecaptivecoveragesorwoulddosoonlyatamuchhigherprice

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Rent-A-Center(cont’d)• Rent-A-Centerisapubliccompanywhichrentsfurniture,etc.tothepublic.• FromtheBriefsfiled(nottheopinion),Rent-A-Centerhad3to12subsidiaries[dependingontheyear],butineachyear,oneaccountedfor61to68%ofthetotalpremiumsofthecaptive.• CaptiveinsuredthedeductiblesofRent-A-Center’sG/L,AutoandWorkers’CompCommercialinsuranceprogram.• Somec

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Rent-A-Center (cont’d)• Thecaptivechargedapremium,whichwasinternallyallocatedtothesubsidiaries(althoughfromthebriefs,itappearstheallocationcouldnotbereplicated)• Rent-A-CenterdeductedpremiumspaidinthefollowingSeptemberundertherecurringitemexceptionandprovidedparentalguaranteestothecaptive’sregulatorrelativetosomedeferredtaxassets.• CaptivepurchasedTreasurysharesofparentcompanyasaninvestment

• ThePluralityopinionfoundthattherewasnoshamandthattherewerelegitimate non-taxreasons

• Rent-A-Center hadcommonnotions ofinsurance,shifted risk(evenwiththeguarantee)andmetthebalancesheet test

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Rent-A-Center (cont’d)• Theopinionlookedattheexposureunits,notconcentration• Theconcurringfoundthepremiumsactuariallydetermined• Theprincipaldissentfoundthecaptivedidnotoperateasa“real”insurance(e.g.,guaranty,undercapitalized,illiquid[Treasuryshares])• OnJanuary21,2014,theTaxCourtheldthatRent-A-CenterhadavalidinsurancearrangementforFederaltaxpurposeona10-6vote.TheIRSchoosenottoappeal.

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Securitas• SecuritasABisaSwedishsecuritycompany(AB)withaUSHoldingCompany(US)thatacquiredPinkerton’s,BurnsSecurityandothersecuritycompanies

• USownedtwocaptives: ProtectorsandCentaur- Centaurwasinrun-offandwastax-exempt undersection 501(c)(15).ProtectorswasaVermontcaptive

• ABorganizedanIrishreinsurance company• In2004,88%ofpremiumswerethoseofonesubsidiary• Inordertoprotectthesection 501(c)(15)taxexemption, USguaranteed Protectors’ losses,whichwasnevercalledupon.

• Alossportfolioandcurrentriskswereinsured; thepartiesagreedtheywereinsurance risks.

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Securitas(cont’d)• TheTaxCourtdetermined that theguaranty didnot

invalidate riskshifting;parental guarantees donotautomatically invalidate acaptive arrangement.Protectorswasadequately capitalized andtheoffsetofpremiumsand claimsdidnotadverselyaffecttheinsurance arrangement andriskdistributionisevaluatedfromtheperspectiveofthecaptive.

• TheTaxCourtfocusedonthenumberofstatisticallyindependentriskexposures100,000USemployeesand2,240vehicles,ratherthanthenumberofentities

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Securitas(cont’d)

• OpinionquotedDr.Doherty,thetaxpayer’sexpert,whosaid: “Itisthepoolingofexposures thatbringsabouttheriskdistribution -- whoownstheexposures isnotcrucial.”

• TheTaxCourtfoundthatthearrangementwasinsurance initscommonlyacceptedsense because:• Thecaptiveswereorganized,operatedandregulatedasinsurancecompanies andwereadequately capitalized

• Thepolicieswerevalidandbindingandpremiumswerereasonable andlosseswerepaid(afteroffset)

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ResidualValueInsurance– TAM201149021

• Lessors leased equipment tocustomerswithaprojectedvalueof$x

• Forexample,arentalcarcompanymaylease fleets ofcarstotaling2,000,000carsoracomputercompanymaylease 2,000,000computers

• Realestatewasalso involved

• The lessorpurchased insurancefromanunrelatedinsurancecompanytopaytotheextenttheactualvalueoftheequipment islessthan$x(excludingphysicaldamage)

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ResidualValueInsuranceTAM201149021• TAM201149021determinedthatthisisnot insurance– itis

notaninsurancerisk,butmoreofaninvestmentrisk(economicfluctuations andnotfortuitousphysicalact)

• Therewerenocommonnotions ofinsurance– economicriskandgapbetween lossandpayment

• Therewasnoriskdistribution – thesameeconomic issuesaffectthenationwidemarket

• ThetaxpayerinvolvedinthistamisRVIGuarantyLtd.

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RVIGuarantyLtd

• RVIGuarantyLtdwasthetaxpayerinvolvedinTAM201149021• This isnotacaptivecase,but itisimportanttocaptive insurancearrangements

• LastmonththeTaxCourtfoundresidual valueinsurancetobeinsurance• Iwillbesometimebeforethe IRShastodecidewhethertoappeal

• InILM201511021,theIRSfoundforeignexchangenottobe insurance. TheIRSseemed totreatbusiness riskclosertoinvestment risk.


•February9,2015theJointCommitteeoutlinedproposedlegislationtoincreasethesection831(b)limitto$2,200,000 (andindexittoinflation),butwith“tighteners”astowhatcaptivesqualifiedtomaketheelection:

• Initially: onlycaptiveswritingdirectbusiness, nomorethan20%relatedparty

• Eliminated fromproposalonFebruary11• Atthehearing,SenatorGrassleywasconcernedaboutestate planningabuses,andaskedtheTreasuryforareport

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ProposedSection831(b)Amendments


•InresponsetotheSenateFinanceCommitteeconcernaboutestateplanningabuses:

• The industryproposedthatacaptivewouldnotbeeligibletomaketheelection ifitwasownedbyatrustorinvestedinlifeinsurance

• TheNAICtweakedthatproposal• Billswereproposed inbothhouses,theSenateversionrequiredanIRSreportbyFebruary11,2016

• Mostrecent:only5%captiveownershipbyarelativeoftheowneroftheoperatingcompany

• Nobillhaspassed eitherhouse

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ProposedSection831(b)Amendments, cont


EmployeeBenefitsRelatedorUnrelatedRiskRev.Rul.92-93

• Economic risks being insured aretherisks oftheEmployees, nottheEmployer, so therisks areunrelated• Factsinvolved lifeinsurance coveragebutruling statesconclusion is thesamefor health benefits coverage• Insurance coveragewascompensation fortheperformance ofservices

EmployerEmployer Owned Insurance

Company

Employees PayBenefits

Premium

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Reinsurance

Rev.Rul.2009-26

• ReinsurancecontractshiftsunderlyingunrelatedriskstoCompanyZ

Insurance CompanyY

Insurance CompanyZ

10,000unrelated

policy holders

Reinsures

90%policyholder risks

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HealthBenefitsSourcingandReinsuranceØTAM200816029toproperlyevaluatewhetheranarrangementconstitutesinsuranceforfederalincometaxpurposes,itiscriticaltosourcetheinsurancerisk

ØRev.Rul.92-93lookedtoemployeesasthesourceoftheriskscoveredbygrouptermlifeinsurance

ØRev.Rul.1980-95lookedtoemployeesasthesourceoftheriskscoveredbydisabilityinsurance

ØRev.Rul.2005-40arrangemententeredintowithonepolicyholdercannotqualifyasaninsurancecontractiftheissuerdoesnotenterintocontractswithotherpolicyholders

ØRev.Rul.2006-26allowsreinsuranceofunrelatedrisksthroughasinglecontractØRentaCenter– allowedonlythreepolicyholdersandtwo-thirdsoftheriskrelatedtoonepolicyholder

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EmployeeBenefitsRev.Rul.2014-15

§ Retireehealthinsurancerisksbeingshiftedaretheretiree'srisks§ IRSstatesthatRev.Rul.2014-15isnotintendedtoapplyifaVEBAisnotinvolved

Employer VEBA Insurer Captive

Retirees

RetireeMedical Benefits

ContributionInsures StopLoss

Reinsures

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ERISAPermittedStop-LossHealthBenefitCoverage

§ PaymentstoarelatedcaptivetofundhealthinsurancecantriggerERISA'sprohibitedtransactionrule

§ Exceptionappliesifthehealthbenefitrisksareshiftedtoarelatedcaptivethroughastop-losspolicy• Premiumsmustbepaiddirectlybytheemployeroutoftheemployer'sassetsandanyproceedsfromthepolicymustbepaiddirectlytotheemployer

Employer Captive

Employees PayBenefits

PremiumReinsuresSelf Insured

Plan

Stop LossPolicy

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HealthBenefitsCaptiveIssuedMedicalStopLossPolicy

§NeedtopayattentiontoIRC§ 162(m)(6)whichlimitsdeductionsforcompensationtoofficers,directors,etc.,to$500,000 perannum

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TaxReturnPositions

1. Avoid20%substantialunderstatementofincomepenaltyifeither:a)substantialauthorityforthepositionorb)positionhadareasonablebasisandadequatelydisclosed

2.Avoid20%negligence penaltyifhaveareasonablebasisfortheposition

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EconomicSubstanceDoctrine

• IRC§ 7701(o)containsatwo-parttest:(1) "thetransactionchangesinameaningfulway(apartfrom

Federalincometaxeffects)thetaxpayer'seconomicposition,and"

(2) "thetaxpayerhasasubstantialpurpose(apartfromFederalincometaxeffects)forenteringintosuchtransaction."

20%accuracyrelatedpenaltyforadisallowanceofadeductionwithouteconomicsubstanceandnoreasonablecauseexemption.40%penaltyiftherewasafailuretodisclose.

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DocumentOngoingBusinessPurpose• Reviewgoalsofhavingacaptiveandannuallydocumentwhethercaptiveisachievingthosegoals,orifnotwhynot• Wheregoalsarechangingdocumentreasoningbehindthechangesonacontemporaneousbasis

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StateandLocaltaxes


StateandLocalTaxes

• Background• Premiumtaxesimposedbycaptivejurisdiction• Directplacementtaxes• Taxationofcaptiveincome 24


TwoTypes:PremiumTaxesindomicile

• DirectProcurement• Contemplatesinsureddirectlyaccessingunlicensed,unregulatedinsurer• Statutoryprovisions

• Directplacement laws• Industrial insuredexceptions

• Non-StatutoryProvisions

25

StateandLocalTaxes


UPSvStateofIndiana

• Casewasaboutwhetherthecaptiveinsurancecompanieswere“subject”tothepremiumstaxandifso,exemptfromthecorporateincometax

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UPSvStateofIndiana

• UPSwaschallengingthephysicalpresencerequirementofthepremiumtax

• ChallengedtheincometaxundertheCommerceClause 27


UPSvStateofIndiana• Courtheldthatthephysicalpresencetestisappropriateforthepremiumtaxbasedon:• USSupremeCourtholdinginToddShipyardsCorp.• Indianaandotherstatejurisdictions

• CommerceClausechallengewasdeniedonthebasisoftheSupremeCourt’sinterpretationofMcCarren-FergusonAct

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Wendy’svStateofIllinois

• CasewasachallengetoWendy’sexclusionofitscaptiveinsurancecompanyfromtheincometaxbaseoftheconsolidatedreturn• IllinoistriedtoarguethatthecaptivewasnotaninsurancecompanyundertheIRC

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• SciotowasformedinVTtowriteamorecomprehensiveprogramforWendy’sandBIcoverage• VTrequiredsufficientcapitalizationtocoverallinsuranceobligationsincludingCATcoverage

• SciotoacquiredanaffiliateofWendy’sthatheldWendy’strademark

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• SciotosurvivedtwoIRSauditsontheissueofwhetheritwasaninsurancecompany• Theacquiredaffiliategenerated$389MinroyaltyincomeandSciotowrote$20Minpremiums

• Illinoisarguedthatthemajorityofincomewasfromroyaltynotinsurance

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• Courtheldontheincomeissuethatitwasthecharacterofthebusinessconductednotthepercentageofincomethatdetermineswhatacompanydoes• HeldSciotowaslicensedasainsurancecompanyinVTandthattheyownedtheaffiliatetomeetcapitalizationrequirements

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• Therefore,theincomeshouldbeexcludedfromtheIllinoisunitaryreturnasSciotowasaninsurancecompany.

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CostcovStateofOregon

• CostcofiledOregonconsolidatedexcisetaxreturnsbutexcludeditswholly-ownedcaptiveinsurancecompany• Oregonchallengedandconcludedthattheinsurancecompanywasunitaryandshouldbeincluded 34



• CaptivewasaBermudaentityandhadmadeasection953(d)election• CaptivereceivedpremiumsfromCostco”affiliatesandreinsurancepremiumsfromGreenIsland• CaptivehadnoconnectiontoOregon 35



• TheCourtconcludedthattheOregonunitarytaxruleswereapplicabletotheinsurancecompanyandthatCostcowasrequiredtoincludetheincomeofthecaptiveintheconsolidatedreturn.

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• Ruling:

• A4.85%taxisassessed onnonadmitted Captive InsuranceCompanies• Captive insurer isdefinedasaninsurance companythat isformedforthepurposeofinsuringtherisksofentities thatarerelatedtoitthroughcommonownership.Thesemaybereferredtoassingle-parent, in-house,orpurecaptives.

• Thetaxpayermustallocate thepremiumusingtheallocation standardthatmostreasonablyandequitably apportionsthepremiumapplicable totheriskinTexas,otherstates,andnontaxable jurisdictions basedonthetypeofpolicy.

• Inthecaseofanindemnity policythatreimburses theinsuredforlosses paid,thelocationoftheriskorexposure insured isthe locationofthe insured's homeoffice.

TexasRule3.835


• Combinable Captive Insurance Company:

§ Forthose Captivemeetingthefollowingcriteria,theymustbeincludedintheParent’sNYincometaxreturnandbesubjecttoNY incometax.

§ Combinable Captive insurance company means anentity that istreated asanassociation taxable as a corporation under the internal revenue code

(a)more than fifty percent of the voting stockof which isowned or controlled, directly or indirectly, by a single entity that istreated asanassociation taxableasacorporation under the internal revenue code andnot exempt from federal income tax;

(b) that islicensed asacaptive insurance company under the lawsofthis state or another jurisdiction;

(c) whose business includes providing, directly andindirectly, insurance or reinsurance covering therisks ofitsparent and/or members of itsaffiliated group;and

(d) fiftypercent orless ofwhose gross receipts for the taxable yearconsist ofpremiums from arrangements that constitute insurance forfederal income taxpurposes.

NewYork


• Beginningwithcalendaryearsafter2012a$2,500 taxisduetothetreasuryofIndiana forcertaincaptiveinsurers:

• CaptiveInsurermeansaforeignoraliencompany:

§ Thatissupervised intheforeignoralienjurisdiction;§ ThatisownedbyapersonwhoconductsbusinessinIndiana;§ Whoseexclusivepurpose istoinsureproperty andcasualtyrisksof:

§ Theparententity§ Affiliatesoftheparent;or§ Controlledunaffiliatedbusiness

§ Thathasnotmorethan$2,000,000ofannualdirectpremium

IndianaHouseEnrolledActNo.1206

Documents

Fed Tax Update - tncaptives.org...TCIA Tennessee Captive Insurance Association, Inc. Rent-A-Center (cont’d) • Rent-A-Center is a public company which rents furniture, etc. to the