CAPTIVE INSURANCE
Trade Groups Urging Feds to Repeal 'Transaction of Interest' Microcaptive Rules
WASHINGTON //BestWire// - A coalition of captive insurance, banking and other stakeholder organizations are calling for the repeal of an Internal Revenue Service rule that aims to rein in “abusive” microcaptives but significantly burdens small businesses, the group says.
In the works since 2023 and finalized in January, the rule will label a microcaptive as a transaction of interest if the insured entity owns at least 20% of the voting power or value of the captive, and the loss ratio is less than 60% or the transaction didn’t generate taxable income during the past five years for the recipients of the funds (BestWire, Jan. 21, 2025).
While the rule was published in January, the IRS announced in April it would waive the penalties for any microcaptive that doesn’t file required disclosure by July 31. Initially, these disclosures were due in April, but the deadline was pushed back due to challenges in preparing the disclosure during tax season, the IRS said.
In a letter to leadership at the IRS and the United States Department of Treasury, stakeholders such as the 831(b) Institute called for the rule’s repeal ahead of the July 31 deadline.
While the final rule did include some modifications supported by the group, it would still burden small businesses as it runs counter to Congress’ intent when it enacted Section 831(b) of the tax code, they said.
This part of the tax code incentivizes the use of microcaptive by small- and medium-sized businesses that struggle to place a policy in traditional markets or if the cost of coverage is too high, the trade groups wrote. Once certain conditions are met, these businesses can exempt the premium from federal income taxes.
However, the IRS launched a nationwide audit program in 2008 as it felt a high percentage of these microcaptives were abusive.
The trade groups said the IRS has more than 1,100 small captive audit cases pending but had only litigated 10 as of June 16. Among the cases that went to trial, more than 27% were settled for 10% or less of what was initially assessed by the IRS.
Should the IRS proceed with the rule, a critical risk management tool leveraged by small businesses would be dismantled, said Dustin Carlson, president of the 831(b) Institute.
“Commercial insurance is often insufficient, unavailable, or unaffordable to many small businesses; by further restraining access to alternative plans with wide-sweeping and ill-informed regulations, the IRS threatens the continued existence of our nation’s small businesses,” Carlson said in an email.
The groups said the rule also violates the Administrative Procedure Act by failing to back up accusations of tax avoidance with data, curtailing benefits granted by Congress and incorporating an “arbitrary and nonsensical limit on small captives.
“Actions like this ruling are based on a flawed understanding of small captive insurance and, as a result, have become a major talking point in the highest levels of American politics,” Carlson said. “They aren’t good for our small business owners, and they aren’t good for the health of our economy.”
(By Steve Hallo, senior associate editor, BestWire: Steve.Hallo@ambest.com)