Captive Insurance Group Opposes Proposed Reinsurance Regs

VCIA is the world's largest captive insurance association with over 450 member organizations representing a range of organizations from not-for-profits to Fortune 50 companies. Established in 1985, the association has grown to provide programs that support the captive insurance industry on both the state and federal levels. In addition, VCIA hosts and supports special education opportunities for the captive insurance industry at large.

There is a commonly accepted practice in the business world for groups of companies in the same industry to pool their resources to form captive insurance companies. Captive insurers often are better attuned to the specific risks and needs of the industries they serve, and thus can offer better insurance coverage (or at least coverage that is better focused and better tailored to the needs of a specific industry) than what is available from third-party insurance companies. The companies that are owners of the captives also appreciate the knowledge that an insurer exists that will always be willing to offset their risks regardless of the availability in the commercial insurance marketplace. The companies holding the captive may obtain better rates if the captive is better able to understand and price the risks insured, establish good risk management practices and has efficient, non-adversarial claims handling.

The proposed regulations would subject large numbers of captive insurance companies to the PFIC regime, because captive insurers routinely are managed by third-party management companies. The companies that form captives and need the benefits that captives can offer come from many different (mostly not insurance-related) industries, and there is no reason to believe the such companies would have the insurance expertise necessary to operate an insurance company without turning to outside help for operational, managerial and compliance needs. Therefore, it makes sense that most of them would turn the day-to-day management of an insurance business over to a third-party with the necessary expertise. Such management companies range from larger, multi-national insurance companies and brokers, to smaller niche companies that focus specifically on managing captives for their owners. In addition, a third party manager serving a number of captives will have the infrastructure and benefit from economies of scale that can work to lower the costs for all of the captives it serves.

US entities have formed captives outside of the country for a number of reasons, including the ability to offer "admitted" insurance where required (e.g. European Union), and the flexibility to efficiently structure the investment portfolio to match the liabilities and support highly volatile exposures.

The Internal Revenue Code of 1986 (as amended) explicitly acknowledges the role of captive insurance companies, and already subjects them to a special tax regime to ensure that offshore captive insurers do not serve as tax shelters. Specifically, subpart F of the Code contains a set of rules designed to tax certain large shareholders of "controlled foreign corporations" ("CFCs") currently on certain types of passive income ("subpart F income"), which includes certain types of insurance premiums. Section 953(c), a component of subpart F, provides a special regime for captive insurance companies under which all "related person insurance income" ("RPII") is taxed currently to the shareholders of the captive. RPII includes all premiums received from shareholders as well as all returns on investments earned by the insurance company to support the relevant risks of those related parties. In 1991, Treasury and the IRS released detailed proposed regulations concerning, among other matters, the manner in which RPII is to be calculated and taxed.

To subject active captive insurers to the PFIC regime merely because they utilize the services of third-party managers seems inconsistent with both the intent of the proposed PFIC regulations (which we understand to be aimed primarily at investment funds looking to shelter assets under an insurance "umbrella"), and with the statutory regime already in place that is addressed specifically to the tax policy issues presented by captive insurance companies (via RPII).

VCIA also believes that there is already adequate statutory authority to address the level of capital necessary to conduct an insurance company. Congress enacted section 831(c), which together with section 816, requires that more than half the insurance company's business be from insurance and reinsurance. Determining the proper amount of capital would require a very intensive analysis of the facts and circumstances. In addressing the current concern of too much investment by an insurance company, we believe that it is better to use the current statutory standard that applies to all insurance companies, rather than introduce a new regulation that applies to only a select group of insurance companies.

For these reasons, the Vermont Captive Insurance Association is opposed to the adoption of the proposed rules as overly broad. Thank you for your consideration of our comments and request.