National Offices of Lance Wallach
IRS Increases Audits of Section 79, 419, 412i and Captive Insurance
In recent years, the IRS has identified many of these arrangements as abusive devices to funnel tax deductible dollars to shareholders and classified these arrangements as "listed transactions."
These plans were sold by insurance agents, financial planners, accountants and attorneys seeking large life insurance commissions. In general, taxpayers who engage in a "listed transaction" must report such transaction to the IRS on Form 8886 every year that they
"participate" in the transaction, and you do not necessarily have to make a contribution or claim a tax deduction to participate. Section 6707A of the Code imposes severe penalties ($200,000 for a business and $100,000 for an individual) for failure to file Form 8886 with
respect to a listed transaction.But you are also in trouble if you file incorrectly.I have received numerous phone calls from business owners who filed and still got fined. Not only do you have to file Form 8886, but it has to be prepared correctly. I only know of two
people in the United States who have filed these forms properly for clients. They tell me that was after hundreds of hours of research and over fifty phones calls to various IRS personnel.
Captive Insurance Bogus Risk Pools
For those businesses and practitioners found uncompliant with IRS standards, the consequences are severe and could include understatement and negligence penalties, as well as potential unwinding of the captive formation and loss of important tax benefits.
Some captive managers offer their clients the opportunity to participate in "risk pools" that exist solely to give the false impression to the IRS that their captives are involved in insuring 50% or more third-party risks. In fact, these risk pools have no real risk, few or no claims, and are marketed to clients that there will be few or no claims and the captive client is assured that more than 80% of the premiums paid into such pools will ultimately be returned to the owner of the captive.
The IRS is aware of bogus risk pools and has started investigating them. Bogus risk pools have been identified in St. Lucia, St. Kitts, the British Virgin Islands and elsewhere. Bogus risk pools have also been identified in certain so-called rent-a-captive arrangements aimed at small businesses that cannot afford their own captives.
There are at least three significant potential downsides to bogus risk pools:
Captive Insurance and the IRS
Insurance agents, financial planners and even accountants sold many of these plans. The main motivations for buying into one were large tax deductions. The motivation for the sellers of the plans was the very large life insurance premiums generated. These plans, which were vetted by the insurance companies, put lots of insurance on the books.
Some of these plans continue to be sold, even after IRS disallowances and lawsuits against insurance agents, plan promoters and insurance companies. Now many of the same people selling those scams are selling captive insurance.
The formation of a Captive Insurance Company (CIC) has become a common practice among both the Fortune 1000 and small and mid-sized companies, offering businesses an alternative to appropriately manage risk while at the same time taking into account future tax and business planning. With this growth of CICs, the IRS has begun tax shelter promoter examinations and has publicly stated their concern with captive insurance companies, going so far as to add captive insurance companies to the IRS's “Dirty Dozen” list of tax scams for 2015.
By Lance Wallach, CLU, ChFC, CIMC
Small captive insurance companies that elect under Sec. 831(b) to be “mini-captives” are particularly tax-favored - Click Here
2018 Copyright Lance Wallach. All rights reserved.