IRS Issues Long-Awaited Regulations

By Wright, P. Bruce | Risk Management, September 1991 | Go to article overview

IRS Issues Long-Awaited Regulations


Wright, P. Bruce, Risk Management


Shareholders of many offshore captive insurers were dramatically affected by revisions in [sections of] of the Internal Revenue Code of 1986. Since that time, publication of regulations interpreting the statute were eagerly anticipated. The proposed regulations were published April 16.

Mostly, the regulations provide rules for allocating different types of income a foreign insurer can receive, such as underwriting income from the same country risk, which is not taxable under Subpart F rules; underwriting income derived from out-of-country risks, which is generally taxable only if the insurer is a controlled foreign corporation under conventional tests; and related person insurance income (RPII). Much of this has greater application to alien insurers operating in the commercial marketplace outside the United States.

For most captives formed offshore writing business only of their shareholder insureds, the proposed regulations do not provide much new insight. There are, however, a few points that generally apply to those captives. * Under [sections of]1.953-3(b)(2)(iii), a U.S. citizen that is not insured or reinsured, directly or indirectly, by the captive will not be considered a U.S. shareholder of the captive for purposes of the RPII rules if it owns shares of a foreign corporation which owns stock, directly or indirectly, in the captive if the stock of the other foreign corporation is publicly traded; the U.S. person owns less than 5 percent of the voting power and value of the stock of the foreign corporation; and the stock of the captive constitutes less than 5 percent of the gross value of all assets of the foreign corporation. * [sections of]1.953-3(b)(3) indicates that if several U.S. insurers form a foreign captive to reinsure risks, the premiums will constitute RPII whether the arrangement is a conventional contract or an assumption reinsurance contract pursuant to which the ceding company will no longer retain any rights or obligations. * Under [sections of]953-3(b)(5), cross-insurance arrangements are discussed, whereby the captive cedes business to another unrelated insurer in return for a cession of other business. It is provided that the business ceded to the captive under the circumstances will be treated as RPII. (The rule seems stringent because it does not reach the conclusion based on a form of conduct relating to the assumed business; for example, trying to equate profitability and volume.) * [sections of]1.953-3(b)(6)(iv) contains an anti-abuse rule, which provides that if premiums charged on an insurance or reinsurance contract are below those charged on comparable contracts issued to unrelated persons, the district director can recast capital contributions or other deposits made by shareholders as premium. …

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