Showing posts with label 419e. Show all posts
Showing posts with label 419e. Show all posts
Captive Insurance Buyer Beware
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| By Lance Wallach |
Is a captive insurance cell the way to go? - Accounting
Today - Captive Insurance: Achieve large tax and cost reductions by renting a
“CAPTIVE”. Most accountants and small business owners are unfamiliar with a
great way to reduce taxes and expenses. By either creating or sharing “a
captive insurance company”, substantial tax and cost savings will benefit the
small business owner.
Over 80% of Fortune 500 companies take advantage of
some kind of captive insurance company arrangement. They set up their own
insurance companies to provide coverage when they think outside insurers are
charging too much, or coverage is simply unavailable. The parent company
creates a captive so that it has a self-financing option for buying insurance.
The captive then either retains the risk of providing insurance or pays
reinsurers (companies that reinsure insurers) to take the risk.
If you buy insurance from a standard insurance company, your money buys a service, but the money is spent and gone forever. When you utilize or “rent a captive”, your money buys a service but it is invested with a good possibility of a return.
In the event of a claim, the company pays claims from its captive or from its reinsurer. To keep costs down, captives are often based in places where there is favorable tax treatment and less onerous regulation (i.e. Vermont, South Carolina, and Bermuda).
Optimum utilization of a captive by a small business, medical practice, or professional.
The best way for a small business, medical practice, etc., to take advantage of captive benefits is to share or rent a large captive. You can significantly decrease your costs of insurance and obtain tax deductions at the same time. There are, as well, significant tax advantages to renting a large captive as opposed to owning a captive.
The advantages of “renting a captive” become apparent when you consider that the single parent captive may be forced to use less than adequate standards or marginal service so they can meet the financial requirements associated with the initial general licensing and administrative costs of establishment. Additionally, when renting a large captive, the captive bears the burden of initial capital commitment and protects reinsurers from runaway claims and unnecessary losses through their underwriting protocols and claims management practices, all at significant savings to the small business owner.
Other advantages include low policy fees and no capital responsibilities to meet solvency requirements or annual management and maintenance costs. By renting a large captive, you only pay a pro rata fee to cover all administrative expenses for the captive insurance company. Another significant advantage of renting a large captive is the ability to take a loan. It is illegal for an individual captive to make loans to subscribers. When renting a large captive, however, the individual subscriber has no ownership interest, and this difference makes it legal for a rented captive to make loans to individual subscribers. So you can make a tax deductible contribution, and then take back money tax free. Operation of an individual stand alone captive insurance company may not achieve the type of cost savings that a small business could obtain by renting a large captive. To rent a large captive, your company simply fills out some forms. Renting a captive requires no significant financial commitment beyond the payment of premiums.
Buyer Beware
As with many strategies to enjoy tax savings and advantages, you must to do this correctly. IRS and other problems have happened, in the past, to those that have done this improperly or abusively. You probably want to work with a large captive that already has over fifty million in assets and is being rented by at least 200 different companies. Also, you’ll not want to own or control any part of the captive. As an unrelated party, you can more likely significantly decrease your cost of insurance, eliminate capital requirements, and minimize maintenance costs.
You want to deal with a large captive that meets the risk shifting requirements of IRS Revenue Ruling 2005-40. Be cautious about setting up your own small captive. In addition to all the costs, a small captive may find that the expense of defending itself from regulatory oversight is much greater than any benefits received.
If you buy insurance from a standard insurance company, your money buys a service, but the money is spent and gone forever. When you utilize or “rent a captive”, your money buys a service but it is invested with a good possibility of a return.
In the event of a claim, the company pays claims from its captive or from its reinsurer. To keep costs down, captives are often based in places where there is favorable tax treatment and less onerous regulation (i.e. Vermont, South Carolina, and Bermuda).
Optimum utilization of a captive by a small business, medical practice, or professional.
The best way for a small business, medical practice, etc., to take advantage of captive benefits is to share or rent a large captive. You can significantly decrease your costs of insurance and obtain tax deductions at the same time. There are, as well, significant tax advantages to renting a large captive as opposed to owning a captive.
The advantages of “renting a captive” become apparent when you consider that the single parent captive may be forced to use less than adequate standards or marginal service so they can meet the financial requirements associated with the initial general licensing and administrative costs of establishment. Additionally, when renting a large captive, the captive bears the burden of initial capital commitment and protects reinsurers from runaway claims and unnecessary losses through their underwriting protocols and claims management practices, all at significant savings to the small business owner.
Other advantages include low policy fees and no capital responsibilities to meet solvency requirements or annual management and maintenance costs. By renting a large captive, you only pay a pro rata fee to cover all administrative expenses for the captive insurance company. Another significant advantage of renting a large captive is the ability to take a loan. It is illegal for an individual captive to make loans to subscribers. When renting a large captive, however, the individual subscriber has no ownership interest, and this difference makes it legal for a rented captive to make loans to individual subscribers. So you can make a tax deductible contribution, and then take back money tax free. Operation of an individual stand alone captive insurance company may not achieve the type of cost savings that a small business could obtain by renting a large captive. To rent a large captive, your company simply fills out some forms. Renting a captive requires no significant financial commitment beyond the payment of premiums.
Buyer Beware
As with many strategies to enjoy tax savings and advantages, you must to do this correctly. IRS and other problems have happened, in the past, to those that have done this improperly or abusively. You probably want to work with a large captive that already has over fifty million in assets and is being rented by at least 200 different companies. Also, you’ll not want to own or control any part of the captive. As an unrelated party, you can more likely significantly decrease your cost of insurance, eliminate capital requirements, and minimize maintenance costs.
You want to deal with a large captive that meets the risk shifting requirements of IRS Revenue Ruling 2005-40. Be cautious about setting up your own small captive. In addition to all the costs, a small captive may find that the expense of defending itself from regulatory oversight is much greater than any benefits received.
Captive Insurance
Just
a few years ago, captive insurance companies were a hot news item in the arcane
world of abusive tax shelters. Sleazy promoters were signing up small businesses
in droves. If you created a cell captive as a property and casualty loss
management tool, it’s probably legitimate. If you “bought” an off the shelf
captive from a promoter who promised tax savings, there is a good chance you own
an abusive tax shelter.
After
the initial wave of fraud and audits, many of the bad promoters went away. New
reports suggest that captives are again making a comeback. And with the next
generation of captives will come the inevitable fraudsters looking to catch a
free ride on the resurgent popularity of these products.
The
new wave of captive insurance companies are sometimes called cell captive
insurance companies or “group captives.” We have also seen them called
rent-a-captive, segregated account companies, segregated portfolio companies and
incorporated protected cell companies. Whatever they are called, if properly set
up they can be completely legal and valuable risk management tool.
The
IRS issued a bulletin in 2008 to give guidance on these products
including whether premiums can be deductible as insurance costs. The IRS says
there must be adequate risk shifting and distribution to be considered
“insurance.”
The
scam promotions typically offer to shelter a large sum of money by calling it an
insurance premium. The premium is usually the same dollar amount as the
deduction you seek. The promoter offers “insurance” on a highly improbable risk.
Hurricane insurance in Nebraska, anyone? Magically, you get a big deduction and
in a few years you are promised the ability to get back your money in the form
of a “premium refund” or dividend. Sound familiar? You probably purchased an
abusive tax shelter.
If
you think that you have one of these products, seek legal help immediately.
First, the premiums in bogus captive insurance companies or cell captives are
not deductible. That has significant tax implications and likely involves big
civil penalties too.
Because
the IRS views many of these schemes as abusive tax shelters, there are special
penalties that apply. If the IRS finds that your captive insurance resembles an
illegal welfare benefit scheme (sometimes called 419 or 412 plans), your plan
might be considered a listed transaction subject to penalties of $100,000 or
more per year.
Abusive
tax shelters can also be criminally prosecuted.
Another
danger is that in many of the cell captive frauds, the money is simply not there
when you go to cancel the policy and seek a refund of premiums.
It’s
not always promoters who sell the bad plans. We know of otherwise honest
insurance agents and even accountants who were roped into selling these
products. Many promoters lure agents into their scheme by offering legitimate
looking “legal” opinion letters and slick marketing materials. If an agent or
accountant sold or recommended the plan, you may still be able to recover your
damages if the promoter – and your money – is long gone. (Insurance agents love
these plans because they usually pay above average commissions – another red
flag.)
According
to a recent story in Captive Review, Bahamian cell captives have “risen from
extinction” and are making a dramatic resurgence. Cell captives are currently
offered in Guernsey, Jersey, Malta, Gibraltar, Isle of Man, Bahamas, Bermuda,
the British Virgin Islands, Anguilla and Dubai. In the United States, they may
be offered in Nevada, Washington, Montana, Hawaii, Kentucky, South Carolina and
Oklahoma. Because they can be created in certain states doesn’t mean they pass
IRS muster, however.
Whatever
you do, don’t wait until the IRS finds you or until you discover that your
premium refund isn’t coming. If you have questions about your cell captive or
captive insurance company, give us a call. We also represent owners of phony
welfare benefit plans, 419 and 412 plans. Our tax and fraud lawyers can help you
determine if your cell captive or other plan is legitimate and if not, unwind
the transaction and get back your hard earned money.
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