Accountants and tax lawyers are seeing a rise in IRS audits directed at companies using captive insurance arrangements. While big businesses have long used captives as a way of managing risk, IRS efforts appear to be directed at smaller companies that rely on section 831(b) of the tax code. (In July we reported on the resurgence of so-called cell captive insurance arrangements also known as “group captives.”)
To qualify as a legitimate captive insurance arrangement, the taxpayer must demonstrate appropriate premiums and a real need for insurance. Companies that create captives simply to shelter taxable income can expect an audit and hefty penalties. As we previously reported, the captive industry was once marred by widespread fraud. The resurgence of cell captive insurance arrangements has the IRS back on high alert.
According to one expert, the IRS is focussed on companies that underwrite their own terrorism policies. Often the premiums charged for these plans bears no relationship to actual risk. The IRS considers such arrangements to be abusive tax shelters. To be considered legitimate insurance, there must be adequate risk shifting. (The IRS published a special bulletin on captive insurance arrangements in 2008 for those needing more information.)
Captive Insurance Pose Big Tax Risk For Small Businesses:
The risk for small businesses that improperly set up a captive is huge. If not properly set up, the IRS can disallow the deductibility of the insurance premiums. Because the Service believes that some of these arrangements are also abusive tax shelters, the IRS could impose civil penalties of $100,000 or more per each year the plan was in effect.
If you plan on establishing a captive insurance company, seek the help of a knowledgable CPA or tax attorney. Past scams usually were offered by offshore and Internet promoters. If approached by a promoter, spend a few dollars more and have the plan reviewed by an independent accountant or lawyer. Conduct some due diligence on the promoter too. We have seen several cases where not only was the plan considered an abusive tax shelter but the money was gone too.
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 plan is legitimate and if not, unwind the transaction and get back your hard earned money.
Mahany & Ertl – America’s Fraud Lawyers. Offices in Milwaukee, Wisconsin; Detroit, Michigan; Minneapolis, Minnesota; Portland, Maine and San Francisco, California. Services available in many jurisdictions.
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Posted by Brian Mahany, Esq.