The timing of the US Internal Revenue Service (IRS) and Treasury's notice on micro-captive insurance arrangements is “perplexing”, according to captive audit defense expert Tim Tarter.
Notice 2016-66, issued on 1 November, formally labelled micro-captive transactions as “transactions of interest”. Tarter commented: “What government interest is being served by the release of the notice now, only a few months before the US Tax Court releases its opinion in Avrahami?”
Abusive micro-captive transactions previously appeared on the IRS’s ‘Dirty Dozen’ list in 2015. Tarter said: “It is certainly no secret the IRS is examining many taxpayers involved in micro-captive insurance transactions.”
According to Tarter, the notice means that the IRS and Treasury have made a determination that at least some of these transactions have a potential for tax avoidance or evasion.
Both regulatory bodies “lack sufficient information” to identify which micro-captive transactions or arrangements are tax avoidance transactions from those that are sustainable under the Internal Revenue Code, he said.
Transactions of interest are a type of reportable transaction first established by the IRS in 2006 and since then, only six transactions have been labelled as such, including micro-captive transactions.
Tarter explained: “The notice alerts persons and entities involved in micro-captive transactions, and their material advisors, to various disclosure responsibilities and the penalties that arise from failure to fulfil them.”
The notice generally defines micro-captives as transactions of interest if one or both of the following apply: the captive’s insured losses and claim expenses are less than 70 percent of its earned premiums; or the captive has made financing, for example, guaranties, loans or capital, available to its insured or related persons.
Tarter suggested that since the notice “fails to provide any definitive guidance” as to what micro-captive entities will survive Tax Court scrutiny, “it is unlikely to deter most informed micro-captive participants from moving forward with their planned captive transactions”.
He summarised that all informed business owners “should already be aware of IRS scrutiny in this arena and will not be dissuaded by the additional reporting requirements demanded in the notice”.
He concluded: “The Treasury and the IRS are currently soliciting comments on how micro-captive transactions might be addressed in future published guidance. Perhaps they should simply await an opinion from the Tax Court.”
