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Insurance Tax Update Presented by: Brandon Lagarde, CPA, JD, LLM.

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Presentation on theme: "Insurance Tax Update Presented by: Brandon Lagarde, CPA, JD, LLM."— Presentation transcript:

1 Insurance Tax Update Presented by: Brandon Lagarde, CPA, JD, LLM

2 Introduction Judicial and administrative updates 2013 Tax Changes Capitalization Regulations Affordable Care Act Reporting Foreign Asset Reporting

3 F.W. Services v. Commissioner 5 th Circuit – ruled that premium payments that were held by an insurer as a deposit against future deductibles that were to be refunded to a business at the end of the term of the policy are not deductible as an insurance premium. The holding is related to risk shifting. Since any excess premium would have been refunded and if there had been a need for more, then an additional payment would have been made.

4 State Farm v. Commissioner Court found that the standards used in the NAIC Annual Statement governed the tax treatment. Under NAIC guidance, compensatory damages for bad faith awards are taken into consideration for calculating unpaid loss reserves, not punitive damages.

5 PLR The IRS ruled that a foreign captive insurance company qualified as a domestic insurance company for income tax purposes, and that reinsurance premiums paid to the reinsurance pool are deductible. o The insurance is offered to 6 related insured corporations and other entities; o To try to achieve risk distribution, the Company takes part in a reinsurance pool with 14 other non-related insurers; o The Company cedes its risk to the pool and then through another reinsurance agreement assumes a quota share back from the pool; o The IRS ruled that none of the companies is paying a significant portion of their own risk and therefore there is risk shifting and distribution.

6 TAM The IRS ruled that a policy of insurance that insures against a market decline is not insurance. o The risks under the contract were related to investment risk as opposed to insurance risk. o Second, the IRS concluded that the risk was one of a universal nature (a market decline) as opposed to one in a group of large numbers that might fortuitously happen to one insured rather than to all. Therefore, they concluded there was no way to have risk distribution.

7 Acuity Mutual Insurance Co. v. Commissioner, T.C. Memo Actuity used in-house actuary to compute total loss reserves for 2006 o 900 pages of analysis o 8 separate methods o $660 million Acuity also used an outside consulting actuary to independently review loss reserves each year o Narrow range of reasonable reserves o $577 million to $661 million Loss reserves within range, so independent actuary signed a statement of actuarial opinion stating so. Filed Annual Statement showing loss reserves of $660M.

8 Acuity Mutual Insurance Co. v. Commissioner, T.C. Memo IRS issued deficiency notice stating that Acuity’s loss reserves were overstated by $96M. o Argued that the annual statement controls only what is includable in the loss reserves, not the amount of the reserve itself o Tax Court relied on the Seventh Circuit case law to the effect that the NAIC-approved annual statement is the starting point for computing unpaid losses o Court disagreed with IRS argument, holding that the annual statement should be the source of unpaid losses for federal tax purposes o IRS did not produce persuasive evidence to the contrary

9 Acuity Mutual Insurance Co. v. Commissioner, T.C. Memo IRS issued deficiency notice stating that Acuity’s loss reserves were overstated by $96M. o Argued that the annual statement controls only what is includable in the loss reserves, not the amount of the reserve itself o Tax Court relied on the Seventh Circuit case law to the effect that the NAIC-approved annual statement is the starting point for computing unpaid losses o Court disagreed with IRS argument, holding that the annual statement should be the source of unpaid losses for federal tax purposes o IRS did not produce persuasive evidence to the contrary

10 Rent-A-Center v. Commissioner, 142 T.C. No. 1 (Jan. 14, 2014) Captive case Held that payments to a Bermuda captive on behalf of approximately 15 subsidiaries were deductible insurance expenses. IRS took issue with the arrangement based on 4 facts: o The parent corporation was the listed policyholder and paid dividends on behalf of its subsidiaries o The parent guaranteed the liquidity of the captive insurer’s deferred tax assets o The captive invested in non-dividend paying treasury stock of its parent o Risks were concentrated in small number of sibling corporations.

11 Rent-A-Center v. Commissioner, 142 T.C. No. 1 (Jan. 14, 2014) Court disagreed with IRS o Captive was established for a non-tax reason. Supported by absence of circular flow of funds Premium to surplus ratios that were commercially reasonable Operation as a bona fide insurance company o Court found that there was appropriate risk shifting and risk distribution.

12 Massachusetts Mutual Life Insurance Co. v. United States, 103 Fed. Cl. 111 (Fed. Cl. 2012) IRS is appealing a Court of Federal Claims case that allowed a deduction for policyholder dividends paid within 8 ½ months after the end of the year. On the other hand, New York Life is appealing its case out of the 2 nd Circuit. The court disallowed the Company’s deduction for policyholder dividends paid after year end. New York Life Insurance Co. v. United States, 724 F. 3d 256. Split in the circuits

13 2013 Tax Rate Changes Top individual rate: 39.6% (up from 35% in 2012) Maximum capital gains rate: 20% (up from 15% in 2012) Medicare contribution tax:.9% on earned income (new for 2013) Net Investment income tax: 3.8% on net investment income (new for 2013) Top rate as high as 43.4% No change in C corporation income tax rates (yet)

14 Capitalization Regulations Final regulations issued September 2013 o Simplify and refine some of the temporary regulations and create new safe harbors o Move away from facts and circumstances and subjective nature of current standards o Taxpayer friendly Effective for years beginning on or after January 1, 2014 o Option to apply to 2012 or 2013

15 Capitalization Regulations Code Section 263 o Capitalization of amounts paid to acquire, produce or improve tangible property Code Section 162 o Deduction for all ordinary and necessary business expenses, including certain supplies, repairs and maintenance New Regulations o General framework for distinguishing capital expenses v. deductible supply, repair and maintenance costs

16 De Minimis Capitalization Final regulations o Safe harbor at the invoice or item level $5,000 per invoice or item, if applicable financial statement $500 per invoice or item, if no applicable financial statement Applicable financial statement o Certified audited financial statement Not a review or compilation o Financial statements required to be submitted to a federal or state agency Includes insurance company Annual Statements

17 De Minimis Capitalization Accounting Policy o To take advantage of the $5,000 de minimis rule, taxpayers must have written book policies in place at the start of the tax year that specify a per-item dollar amount (up to $5,000) that will be expensed for financial accounting purposes. The policy can set different thresholds for each asset class.

18 Routine Maintenance Cost of certain routine maintenance need not be capitalized o Recurring activities o More than once during the life of the property o Expect to perform to keep property in ordinarily efficient operation condition o Final regulations now include buildings and structural components o More than once over a 10 year period o No need to consider treatment of costs on financial statements

19 Safe Harbor for Small Buildings Allows taxpayers to deduct amounts paid for repairs, maintenance and improvements o Gross receipts less than $10 million o Unadjusted basis less than $1 million o Deduction can’t exceed the lesser of: $10,000 or 2% of the unadjusted basis o De minimus rule and routine maintenance count towards the $10,000.

20 Election to Capitalize Repair and Maintenance Costs Annual election to opt out of expensing repair and maintenance costs o Must be capitalized on books and records as well o Depreciate expenses

21 Dispositions Released final regulations on August 14, Taxpayer can recover the basis of “ghost assets” that may still be on the books from years past. Limited time to clean up the books. Must make the “late partial disposition election” by January 1, 2015.

22 Affordable Care Act 2014 – Individual Mandate enforced 2015 – Large Employer Mandate (offer minimum affordable coverage or pay penalty) o Transitional relief for employers with employees. o Reporting of information begins in 2016 with information from o 1094-B, 1094-C, 1095-B and 1095-C

23 Report of Foreign Bank and Financial Accounts FBAR o Not a tax return o Fin Cen Form 114 o Filed by United States Persons with a financial interest in or signature authority over a foreign financial account Aggregate value of accounts must exceed $10,000 at any time during a calendar year

24 Report of Foreign Bank and Financial Accounts FBAR o Financial interest – US person is owner of record or has legal title o Owner or legal title holder is defined as: Person acting as agent for US person Corporation with 50% of vote or value owned by US person Partnership with 50% of profits or capital owned by US person Trust US person is grantor and has ownership interest, or Greater than 50% in assets of trust, or US person has appointed protector subject to US persons instruction

25 Report of Foreign Bank and Financial Accounts FBAR o Signature Authority Authority of an individual to control the disposition of money, funds or other assets held in financial account by direct communication Authority can be alone or in conjunction with another individual o Personal financial managers often have such authority

26 Report of Foreign Bank and Financial Accounts FBAR o Filings Must be received by June 30 Mailbox rule does not apply o Penalties Up to 50% of account value for each failure to file Criminal penalties may include prison

27 Report of Foreign Bank and Financial Accounts Form 8938 o Required by section 6038D o Tax form filed with annual income tax return o Filed by “Specified Individuals” with an interest in “Specified Foreign Financial Assets” o Until further guidance is issued, only individuals need to file this form.

28 Report of Foreign Bank and Financial Accounts Specified Foreign Financial Asset o Financial accounts with a foreign financial institution o Stock or securities issued by non-US entity o Financial instruments with non-US issuer or counterparty o Interest in non-US entity o Interest in foreign trust or estate o Interest in foreign pension or deferred compensation plan

29 Report of Foreign Bank and Financial Accounts Specified Foreign Financial Asset (exceptions) o Assets held through US or foreign custody account Foreign custody account must be reported o Assets held by non-disregarded entities Interest in entity may be reportable Look through applies to disregarded entities o Real estate if not held through foreign entity o Foreign social security o Assets reported on certain other forms

30 Foreign Account Tax Compliance Act (“FATCA”) FATCA was enacted in Regulations were enacted in January 17, 2013 to implement FATCA and took effect on July 1, Purpose is the uncover and deter US individuals hiding unreported financial accounts outside the US To accomplish goal, the US needs information from financial institution outside the U.S. for these accounts to ensure the US residents/citizens are reporting their financial accounts. To “incentivize” foreign financial institutions (“FFI”) to enter into agreements with the IRS, FATCA requires withholding agents making “withholdable payments” to non-participating FFI to withhold 30% on such payments.

31 Foreign Account Tax Compliance Act (“FATCA”) FATCA was enacted in Regulations were enacted in January 17, 2013 to implement FATCA and took effect on July 1, Purpose is the uncover and deter US individuals hiding unreported financial accounts outside the US To accomplish goal, the US needs information from financial institution outside the U.S. for these accounts to ensure the US residents/citizens are reporting their financial accounts. To “incentivize” foreign financial institutions (“FFI”) to enter into agreements with the IRS, FATCA requires withholding agents making “withholdable payments” to non-participating FFI to withhold 30% on such payments.

32 Foreign Account Tax Compliance Act (“FATCA”) FATCA o Withholding agents include US entities making a withholding payment under FATCA o If withholding agent fails to withhold, they are liable for the 30% withholding plus interest and penalties. FATCA withholding is required when: o A withholding agent; o Has control, receipt, custody or disposal of income that is a type identified as “withholdable” under FATCA o Makes a payment of this “withholdable” income to a foreign recipient; and o That foreign recipient has not provided information attesting to its compliance with FATCA.

33 Foreign Account Tax Compliance Act (“FATCA”) A US entity will only be a US withholding agent under FATCA if the payments it makes are withholdable payments under FATCA In general o US source FDAP (“fixed, determinable, annual, periodic”) income. o Gross proceeds from the sale or other disposition of property of a type that can produce US source interest or dividends More specifically for FATCA- o Payments in connection with a lending transaction o Payments in connection with a forward, futures, option or notional principal contract or similar financial instruments o Premiums for insurance contracts o Amounts paid under cash surrender insurance or annuity contracts o Dividends o Interest o Investment advisory, custodial, bank and brokerage fees


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