Tax benefits of 831(b) captives – financial planning
Captive Insurance companies in their many forms have been around for decades. Most captives for Property and Casualty risks focus on high frequency, low severity risks like Workers Compensation and Auto Liability. They include reinsurance above certain retained amounts of risk. The benefits of a captive include long-term stability, better payback for loss control investment, and in some cases, tax benefits of accrued investment earnings and reserve funds off-shore and away from annual taxes.
A different angle of the tax benefits of Captive Insurance companies is becoming more popular. These captives are referred to by their IRS tax code section, 831(b) Captives. These instruments are being promoted by their sponsors as wealth transfer vehicles for owners of private businesses.
These captives still require the elements of a captive under tax law, including perhaps most importantly, true transfer of risk. But, the tax attractions include at least three possibilities.
The first is the possible corporate income tax savings. In most self-insured situations there is no tax deduction for taking on your own risk, that is of course unless you have a loss and then incur a deductible expense.
Tax deductions for premium can be as high as $1.2 MM per year without triggering any premium taxes. Due to this income tax advantage it often makes sense for a captive owner to insure items they have never formally insured before.
Having a captive allows a private business to develop a tax-deductible sinking fund that can be used for a variety of purposes. One of the purposes of that sinking fund might be to move assets in a family business from one generation to another with little or no tax consequences since captives can be owned by family trusts and other estate planning devices. Hence the greatest source of growth of these captives is coming from estate planning advisors.
Setting up and running a captive insurance company is a complicated effort but worth considering for businesses with a long-term time horizon and an appetite for risk.
About the Author
Phil Edmundson is the Chairman and CEO of William Gallagher Associates (WGA), insurance brokers and consultants for businesses with over 30 years in the insurance industry. He manages strategy, talent acquisition and development, and management / acquisitions at WGA.
617.646.0229 PEdmundson@wgains.com Connect with Phil on LinkedIn