The Internal Revenue Service announced it has withdrawn a proposed regulation that if enacted could have driven captive insurance formations offshore, according to captive experts.

The action followed an onslaught of taxpayer comments, sought by the IRS by Dec. 27, 2007, as well as industry lobbying efforts.

The regulation, 1.1502-13(e), proposed on Sept. 28, 2007, would have eliminated the tax deduction for reserves established by captive insurers for insurance sold to affiliates, if the insureds and insurer file in the same consolidated return (See NU, Jan. 21, 2008).

The IRS said in a notice issued today that “Written comments were received with respect to proposed 1.1502-13(e)(2)(ii)(c). After consideration of these comments, the IRS and the Treasury Department have decided to withdraw” the proposed regulation.

“However,” the agency added, “the IRS and the Treasury Department continue to study whether revisions to the rules for inter-company transactions are necessary to clearly reflect the taxable income of consolidated groups.”

“This is great news for the industry and it's the right answer,” said Charles J. “Chaz” Lavelle, an attorney with Greenebaum Doll & McDonald PLLC, in Louisville, Ky., and a member of the Tax Advisory Committee to the Captive Insurance Companies Association and the Vermont Captive Insurance Association. “It's the right answer because the income of the consolidated group is best reflected by allowing the insurance company to be treated in the same manner as any other insurance company.”

Mr. Lavelle added that another positive aspect is that “it also does not have the collateral effect of pushing people offshore and overruling 20 years of captive litigation.”

The Coalition for Fairness to Captive Insurers, CICA and VCIA issued a statement to express their satisfaction with the decision.

“We are thrilled that the IRS and Treasury Department have chosen to withdraw the portion of the proposed regulation involving captive insurance companies,” said Dennis Harwick, co-chair of the Coalition and president of CICA.

Molly Lambert, co-chair of the Coalition and VCIA president, said, “This decision removes the uncertainty that has hung over the captive industry since the IRS regulation was proposed last fall.”

Vermont Gov. Jim Douglas, who has taken an active role in the state's captive industry issued a statement: “I am very pleased that the Internal Revenue Service (IRS) has withdrawn a regulatory proposal that would have adversely affected captive insurance companies in Vermont and throughout United States.”

He added that the captive insurance is a “very important part of Vermont's economy and I appreciate the well-coordinated efforts spearheaded by the Vermont Captive Insurance Agency with support from me, the National Governors Association, our delegation in Washington and many others.”

Tomas M. Jones, a partner with McDermott Will & Emery in Chicago, a law firm that represented the coalition, told National Underwriter that the news is “gratifying–a once-in-a-career event, maybe.” He added that “apparently, they took the comments seriously.”

Mr. Jones said the “combination of the technical arguments, policy arguments and political efforts that were made resulted in success.”

Regarding the potential loss of captive business to offshore domiciles had the proposal been enacted, he said, “let's say that the playing field should stay level now.”

Dick Goff, president of the Self-Insurance Institute of America Inc., told NU the IRS decision is “a big win for SIIA and the industry. I think it's a matter of a government agency really understanding an industry's grievance and doing the right thing.”

SIIA officials and professional lobbyists presented the industry's case to members of Congress, congressional staff and high-level officials from the Treasury Department and IRS.

The industry's response included comments based on arcane tax principles applicable to consolidations, underlying tax policy, the impact on offshore incentives, economics and insurance regulation.

Responses came from trade associations, service providers, state captive regulators and even the National Governors Association.

The IRS also issued a notice that it had cancelled a public hearing on the proposal, scheduled for Feb. 29 in Washington, D.C.

Special Reports /

IRS Withdraws Proposed Captive Regulation

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