We have posted several articles on captive insurance fraud and each one has prompted a certain amount of controversy. That’s good because it get people thinking. Unfortunately, as fraud recovery lawyers, we see cases where investors lost battles with the IRS over captive insurance programs. Even worse, we often see captive insurance programs that are complete scams. For some investors that means their life savings are wiped out and they still have to battle the IRS.
Last week we learned of another person who invested in a captive. This one was marketed by a stockbroker from J.P. Turner & Company. What is so sad about this case is that the broker, Dennis Edmonds, seems completely ignorant as to what he was selling, the brokerage firms that employed Edmonds appear to be asleep at the switch, and a lawyer charged $100,000 to “review” the captive. The winners, as always, are the folks charging excessive fees, making commissions or receiving kickbacks. The loser? Unfortunately, its almost always the investor.
A familiar theme emerges in most of these cases – recommending life insurance as part of the captive’s investment portfolio. Some argue that the stable returns of quality life insurance as a reason why the practice makes sense. The IRS, however, often disagrees.
The IRS has adopted an “anti-avoidance” doctrine. (The IRS isn’t alone in this position.) The anti-avoidance doctrine says the IRS can deny taxpayers the tax benefits of an arrangement if the taxpayers entered into that arrangement for an improper purpose. The IRS uses a form over substance test. Unfortunately, there is not much formal guidance from the IRS. Practitioners are left to sort through with hundreds of court cases and dozens of treatises.
If accountants and tax lawyers are confused, how can promoters know if what they are selling is legitimate? They can’t. That means customers often have no chance.
Many of the captive frauds we have seen have been “approved” by stockbrokers and insurance agents. Unfortunately, most of them have no tax background whatsoever. Brokers and agents like these products because they usually pay well above average commissions. (We also know of many illegal kickbacks that occur under the guise of an unreported commission.)
There are benefits to legitimate captive insurance products. Because of the high commissions, however, they are often marketed to the wrong clients. Worse, the products marketed are often junk and do not deliver the advertised tax benefits.
How can an investor be protected? It’s not easy. The first line of protection is to obtain written confirmation of how much the stockbroker or agent is receiving in commissions and compensation. The answers may shock you.
Second, make sure that the person assisting you in establishing a captive works for a company with deep pockets or has good errors and omissions insurance. We are not picking on independent agents but all too often we have seen customers left holding the bag and with no way to recover. (This also means being very careful when dealing with Internet promoters or companies located offshore.)
Third, have a CPA or experienced IRS attorney review the program carefully. (Being charged $100,000 by a tax lawyer is another red flag.)
Finally, be very wary of plans that rely on life insurance or so-called business protection plans (bpp) as part of the portfolio. If those are part of your plan, know you face potential scrutiny from the IRS.
The purpose of this post isn’t to dissuade people from investing in captives. Unfortunately, we have seen that many of them don’t deliver or are complete Ponzi schemes. If a non accountant is telling you that you invest tax free, get back your money after a few years tax free and have little or no risk – get a 2nd opinion! Better yet, just say “no thanks.”
The IRS tax attorneys at Mahany & Ertl represent victims of abusive tax shelters and phony welfare benefit plans, captive insurance programs and 419 plans. We are currently investigating or taking cases involving First Fidelity Trust, Nikolai Battoo, Tracy Sunderlage amongst others. For more information, please contact attorney Brian Mahany at or by telephone at (direct). All inquiries are kept in strict confidence.
Posted by Brian Mahany, Esq.