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An Old Money Strategy for todayʼs taxes
Small to medium sized companies & the Captive Insurance Company
This is for educational purposes only and therefore does not constitute tax, legal or financial advice in any form whatsoever. This is only intended to prompt the further exploration of the concepts presented in this paper with licensed and experienced financial, legal & tax professionals.
Are you paying $150,000.00 or more in taxes?
If so, you might be interested in exploring strategies that could potentially help you keep more of your money. Establishing a Captive Insurance Company might be such a strategy for you and your tax planner to consider. Because of recent guidance and clarification from the IRS, small to medium sized companies are using this strategy to reduce their tax burden where applicable.
How it works
A business owner establishes an insurance company to serve the risk management needs of his or her “parent” company. This new company, the “captive”, is a full fledged insurance company. It is licensed and regulated by the appropriate Insurance Commissioner. Risk is transferred to it just as it would be if you were using a traditional insurance company. This is similar to self insuring. The difference is the tax treatment of the captive and deductibility of the premiums paid. Your new insurance company, the captive, elects to be taxed under code 831(b).
The parent company is transferring risk to a separate company so it continues to deduct the premiums it pays to the captive. The deductions are the same as when when it pays premiums to a traditional insurance company. However, because the captive has elected to be taxed under 831(b) all of the premiums it receives are non-taxable up to $1.2 million dollars annually. This could make a big difference in the overall tax burden for some.
More Comprehensive Coverage Possible
In addition to the tax advantages, the captive often covers risk not covered by their traditional insurance company. These risks could be large deductibles, loss of a key employee or account, policy exclusions or any other type of coverage that is either too expensive or not available.
Multiple Captives are Possible
If cash flows are sufficient and legitimate risks exist for the parent company, multiple captives are possible.
The General Concept
This is for illustrative and conceptual purposes only. It may be impossible to eliminate the entire tax burden. It may also be impossible or unnecessary to eliminate the complete use of traditional insurance companies. Having a mix of traditional insurance in conjunction with the captive concept is sometimes desirable.
Without a Captive Insurance Company
With a Captive Insurance Company
Managing the surplus
A tax advantaged surplus is possible if claims are less than the premiums paid each year. This surplus can be utilized to cover other business risk. Gift, estate or generation skipping advantages for the owners families may also become possible. This wholly owned insurance company could potentially make distributions to family members or key executives at favorable tax rates. This is especially applicable for companies with a low history of claims.
Leveraging time and expertise
Usually, the parent company outsources the establishment and operation to a company who helps them create this wholly owned subsidiary. Utilizing an experienced servicing company that can work in conjunction with your current tax advisor is important. Having an experienced financial advisor that will manage the assets using a conservative investment strategy is equally important.
It should be obvious that a high amount of importance be given to having experienced professionals involved. There are professionals that specialize in the formation and ongoing operation of captives. Much care should be taken so that you comply with all IRS laws and regulations.
This is nothing new
While this might be new to you, large companies have been doing this for a long time. This concept has been used since the 1500ʼs when ship owners met in london coffee houses. Sears & Roebuck started a captive in 1931 and it was so successful, they spun if off on its own. So the next time you see an ALLSTATE commercial you are looking at a company that started out as a Captive Insurance Company.
This is an old strategy that has been used for decades by Fortune 500 companies. General Motors makes billions of dollars of their overall profit from their captive and Google just established one. The list is actually shorter for fortune 500 companies who DON’T have a captive than those that do. So this is nothing new. It’s an old strategy.
Possible benefits of your captive:
- Increasing the pace of your wealth building due to the tax advantages available.
- Through proper management of claims and losses, surpluses could be created over time.
- Estate, gift and inheritance advantages are possible.
- Greater flexibility in managing your business risk.
- Possibly increase deductions by transferring risk to your captive that you might have not have had coverage for in the past.
- Enough cash flow to consistently pay premiums.
- Experienced & conservative money management for your reserves.
- Integration of this strategy with your financial goals.
- Employing a company experienced in the establishment and ongoing operation of Captive Insurance Companies.
So where do we fit in?
We can help you jump start the due diligence process for yourself, tax and legal advisors. If after youʼve done your due diligence, you, your tax and legal advisors decide to establish a Captive Insurance Company, you will require specialized management of your insurance companies reserves. We specialize in customized money management. We are part of the largest Registered Investment Advisor in the state of Florida with over $31 Billion under advisement as of 3/31/2012.
Due diligence is very important for you and your tax planner.
Your current premium dollars
Buying insurance retail or “off the shelf” from traditional carriers is like pouring money into a bucket with a hole in bottom. You know the only way you ever get any of that money back is if you have the good fortune of having a claim paid. That’s assuming the carrier does not fight you over whether they will pay the claim. Otherwise, you pay premiums year after year knowing full well you will never see that money again. With a Captive Insurance Company you know “they” will never fight you on paying the claim because you own the insurance company. As a captive owner, you potentially have more control over your companies risk management. When you combine this with the tax advantages that are possible, each of your premium dollars are working harder for you.You need insurance anyway, why not get the tax benefits?
Saving money & protecting your company.
Establishing a captive is NOT advisable for every business. However, if taxes and risk are concerns for you and your business, perhaps itʼs worth learning more. For those where this concept fits, the possibility to save hundreds of thousands in taxes annually might be appealing.
For questions about this or any other financial matter just give me a call. 941-286-3120
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