Opinion
286-21
02-07-2024
CURTIS K. KADAU & LORI A. KADAU, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent
ORDER
Christian N. Weiler, Judge
This case is calendared for trial at a two-week special trial session of the Court in Tampa, Florida, commencing on February 20, 2024. On December 18, 2023, respondent filed a Motion for Partial Summary Judgment (Motion), moving pursuant to Rule 121 that this Court grant summary adjudication on the issue of whether Risk and Asset Protection Services, Ltd. (Captive) was an insurance company for federal tax purposes because the purported reinsurance transactions between it and RMC Property & Casualty, Ltd. (RMC) did not transfer risk to Captive and Captive did not achieve risk distribution. On January 18, 2024, petitioners filed their Response to Motion for Partial Summary Judgment.
Unless otherwise indicated, statutory references are to the Internal Revenue Code, Title 26 U.S.C. (I.R.C. or Code), in effect at all relevant times, and Rule references are to the Tax Court Rules of Practice and Procedure.
We are now prepared to rule on respondent's Motion, which we will deny for the reasons explained herein.
Background
The following facts are derived from the parties' pleadings, motion papers, and exhibits attached thereto. These facts are stated solely for the purpose of deciding the Motion before us and not as findings of fact in this case. Sundstrand Corp. v. Commissioner, 98 T.C. 518, 520 (1992), aff'd, 17 F.3d 965 (7th Cir. 1994).
I. General Micro-Captive Transactions
Raymond Ankner promoted a micro-captive transaction (Micro-Captive Promotion) to owners of successful businesses (Insureds). Along with the assistance of RMC Consultants, Ltd. (Consultants), the owner of each insured formed a captive insurance company. Each captive insurance company elected under section 831(b) to be taxed only on its investment income. The captive insurance companies, with the assistance of Consultants, wrote insurance policies covering only related entities (Primary Layer Coverage), which provided first coverage to any claims brought against the Insureds up to the Primary Layer Coverage's policy limits.
However, in some instances the Primary Layer Coverage policies answered claims only after the Insureds' commercial coverage was exhausted.
RMC issued excess layer coverage policies to the Insureds (Excess Layer Coverage), which responded to claims against the Insureds once the Primary Layer Coverage limits were exhausted. RMC pooled all the purported risks and premiums it received from selling the Excess Layer Coverage to the Insureds. RMC entered into agreements with the captive insurance companies whereby each captive purportedly reinsured a percentage of the purported risks pooled until 100 percent of the purported risks under the Excess Layer Coverage were reinsured with the captives participating in the Micro-Captive Promotion. In exchange for agreeing to accept a share of the purported pooled risks, each captive insurance company received a reinsurance premium from RMC equal to the entire premium paid by its related insured for the Excess Layer Coverage, less a fee retained by RMC.
Respondent argues that RMC's ability to pay claims was dependent on the reinsurance pool and the ability of the reinsurers to pay claims. RMC billed each captive-reinsurer for the captive-reinsurer's share of any purported losses.
All premiums in the Micro-Captive Promotion originated with the Insureds and terminated with each of the Insureds' respective captive insurance company. With respect to the Primary Layer Coverage, all premiums originated with the Insureds and were paid directly to the Insureds related captive insurance company. With respect to the Excess Layer Coverage, all premiums originated with the Insured and were initially paid to RMC. RMC then purchased reinsurance from the Insureds' captive insurance companies for an amount equal to the total premiums each of the Insureds paid to RMC for the Excess Layer Coverage, less a fee retained by RMC. On an ongoing basis, Consultants provided the captive insurance companies administrative and management services related to operation of the captive.
II. Petitioners' Micro-Captive Transactions
As of October 3, 2012, Curtis Kadau formed Captive under the jurisdiction of the Island of Nevis. Mr. Kadau is Captive's sole owner, which was presumably formed to provide insurance to his wholly owned company, Surface Engineering and Alloy Company (Surface). The Captive issued two to four polices to Surface each year. Captive issued Primary Layer Coverage policies to Surface for "Excess Business Interruption Reimbursement," "Collection Risk Reimbursement," and "Directors & Officers Liability Reimbursement," "Loss of Key Contract Reimbursement," Product Service Rework Reimbursement," and "Commercial General Liability."
The periods covered by these policies were November 2012 through November 2018; however, not all the policies were in effect during this timeframe.
Beginning in 2012, Surface acquired Excess Layer Coverage from RMC. Effective November 1, 2012, RMC and Captive entered into an agreement titled Reinsurance Agreement, wherein RMC (as Ceding Company) ceded and Captive (as Reinsurer) purported to reinsure a portion of the pooled risks from RMC-issued Excess Layer Coverage (excluding liabilities from policies issued by RMC to Surface). In exchange, RMC paid a reinsurance premium to Captive. The reinsurance premium paid by RMC to Captive was equal to the amount of premium Surface paid to RMC for the Excess Layer Coverage, less a fee retained by RMC.
RMC's pool consisted of all Excess Layer Coverage that it issued to the Insureds in the Micro-Captive Promotion.
Under Article 1.3 of the Reinsurance Agreement, the "Reinsurer's obligations in connection with the Covered Liabilities shall never exceed an amount that corresponds to the reinsurance premiums paid to the Reinsurer in accordance with Article III."
Captive annually received the majority of its reported premium income from its Primary Layer Coverage issued to Surface, and it received its remaining reported premium income from its Reinsurance Agreement with RMC.
Analysis
The purpose of summary judgment is to expedite litigation and avoid unnecessary and time-consuming trials. See FPL Grp., Inc. & Subs. v. Commissioner, 116 T.C. 73, 74 (2001). We may grant summary judgment when there is no genuine dispute of material fact and a decision may be rendered as a matter of law. Rule 121(b); Elec. Arts, Inc. v. Commissioner, 118 T.C. 226, 238 (2002). However, it is not a substitute for trial; it should not be used to resolve genuine disputes over material factual issues. Id. When determining whether to grant summary judgment, we must view factual materials and inferences drawn therefrom in the light most favorable to the nonmoving party. See FPL Grp., Inc. & Subs., 116 T.C. at 75; Bond v. Commissioner, 100 T.C. 32, 36 (1993).
While the Code permits the deduction of insurance premiums paid, it also taxes insurance premiums received. Insurance companies-other than life-insurance companies, see I.R.C. § 832, are generally taxed on their income in the same manner as other corporations. See I.R.C. §§ 831(a), 11. Section 831(b), however, provides an alternative taxing structure for certain small insurance companies. Insurance taxation gets slightly more complicated when the insurer and the insureds are related because the line between insurance and self-insurance begins to blur. A pure captive insurance company is one that insures only the risks of companies related to it by ownership.
When the issue of captive insurance has come before us, we have applied and construed the Supreme Court's definition of insurance and its four nonexclusive criteria. Helvering v. Le Gierse, 312 U.S. 531, 539 (1941). To be considered insurance the arrangement must involve risk-shifting, involve risk-distribution, involve insurance risk and meet commonly accepted notions of insurance. See Rent-A-Center, Inc. v. Commissioner, 142 T.C. 1, 13 (2014); see also R.V.I. Guar. Co. v. Commissioner, 145 T.C. 209, 225 (2015). In this case, respondent has moved with respect to the issue of whether Captive was an insurance company for federal tax purposes, alleging it is not, since (i) the transactions between Captive and RMC did not transfer risk and (ii) Captive did not achieve risk distribution.
It is undisputed that Mr. Kadau formed Captive under the jurisdiction of the Island of Nevis, and this entity provided insurance to Surface, the petitioner husband's wholly owned Captive. Captive issued 18 insurance coverage policies to Surface during the years in issue, i.e., 2012 through 2018.
According to respondent's Motion, the reinsurance pools or arrangements between RMC and Captive under the Reinsurance Agreement failed to transfer risk, since the risk assumed does not exceed the premium paid, thereby not transferring any real risk between RMC and Captive. Respondent's Motion also asserts that Captive did not achieve risk distribution based on the low number of policies issued (only 18 in total) and having only one insured entity.
Petitioners oppose the relief being sought by respondent. First, they contend the policies do in fact transfer risk between Captive, RMC, and Surface, since the insurance coverage offered by Captive does exceed the premium paid. Second, petitioners contend that Captive did achieve risk distribution, which is based (at least in part) on their expert witness' opinion. In sum, petitioners contend that respondent's Motion should not be granted since, at a minimum, there are genuine disputes over material facts in this case. We agree with petitioners' contentions.
Based on the facts before us, we conclude there are material facts in dispute between the parties. Consequently, we conclude summary judgment is inappropriate here and we will permit these issues to be resolved at trial on the merits.
After due consideration, it is
ORDERED that respondent's Motion for Partial Summary Judgment, filed on December 18, 2023, is denied.