Confirming the insurance industry's view of risk distribution in a reinsurance situation, the Internal Revenue Service recently issued Revenue Rule 2009-26, which verifies that in determining whether a policy with a reinsurance company is "insurance," and in testing whether there is "risk distribution," the relevant risks to consider are those of the ultimate insureds, not the reinsured company.
Risk distribution is required in every insurance arrangement. Under the IRS historic view, risk distribution means the insurance company must cover enough different entities so that none of those is paying its own losses in a significant way–that is, its losses are being paid from a pool of premium not dominated by that insured.
In Rev. Rul. 2005-40, the IRS made it clear it believes there can never be insurance if an insurer insures only one insured, no matter how many risks are being covered.
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