Taxation and Captives
Important: East Isles Re cannot and does not provide advice regarding the legal, accounting, regulatory, and tax issues associated with participating in an East Isles Re insurance program. If you’re considering participating in a segregated account or captive-type insurance program, you should seek appropriate tax, accounting, regulatory, and legal counsel regarding your rights and obligations. The following is not an exhaustive list of the questions you should consider and is not a substitute for obtaining appropriate counsel.
Are premiums tax deductible?
You and your advisers should evaluate the deductibility of your costs related to your participation in an insurance program and whether they are an “ordinary and necessary expense” of carrying on a trade or business. One area to consider is the degree to which your participation in the segregated account program involves risk transfer. Risk transfer refers to both “risk shifting” and “risk distribution.” Risk shifting is a process where an insurable loss will be borne by someone other than the insured. Risk distribution is the process of pooling risks from various insureds.
East Isles Re structures its segregated account programs so that the losses of each program participant are shared with the other participants in that segregated account. Therefore, each participant has exposure to the losses of the other participants in their particular segregated account program. East Isles Re assumes that the premiums paid by each program participant to the insurance carrier will be deducted by the participant as an ordinary and necessary business expense in the year in which such premiums are paid.
How does East Isles Re treat U.S. taxes?
1. U.S. Federal Taxes
East Isles Re, as a Bermuda-domiciled insurance company, requires each segregated cell to be treated as a U.S. corporation for federal income tax purposes, under Section 953(d) of the Internal Revenue Code. Accordingly, each cell is subject to U.S. federal income taxes.
2. Effect of Tax Income/Losses on Distributions
Each segregated account is governed by a tax-sharing arrangement outlined in the Segregated Account Program Agreement (SAPA). Taxable income in each segregated account results in taxes that are due and payable. Alternatively, if a segregated account has a tax loss, a tax benefit is only allocated to such segregated account if it has the ability to carry the tax loss back or forward to years with taxable income from that segregated account. This timing may result in the delay of policyholder distributions made to program participants.
3. Effect of Future IRS Opinions on Taxation of Segregated Accounts
If East Isles Re’s board of directors declares that a policyholder distribution is payable to program participants, it will be paid from the surplus of the segregated account. East Isles Re intends to reflect a tax deduction for policyholder distributions. Should the U.S. Internal Revenue Service (IRS) change its current opinion that distributions are not a tax-deductible business expense, then the segregated account may incur additional taxes.
Segregated Accounts Company Tax Guidance – IRS Notice 2008-19
In early 2008, the IRS proposed changes in the way segregated account companies are taxed. The IRS proposed that taxes be calculated and paid by each segregated account. Depending on the IRS’s final determination, the tax allocations as described above may change.