In a News Release, the IRS has announced a new, stricter limited-time settlement offer for certain taxpayers who participated in abusive micro-captive insurance transactions.
Background. Broadly speaking, a micro-captive transaction is a transaction in which a taxpayer attempts to reduce the aggregate taxable income of the taxpayer, related persons, or both, using contracts that the parties treat as insurance contracts and a related company that the parties treat as a captive insurance company.
Each entity that the parties treat as an insured entity under the contracts claims deductions for premiums for insurance coverage. The related company that the parties treat as a captive insurance company elects under Code Sec. 831(b) to be taxed only on investment income and, therefore, excludes the payments directly or indirectly received under the contracts from its taxable income.
In Notice 2016-66, the IRS expressed concern that micro-captive transactions had the potential for tax avoidance or evasion and classified these transactions as “transactions of interest”. Based on this classification, persons who fail to make required disclosures may be subject to certain penalties.
In September 2019, the IRS announced its first time-limited settlement offer to certain taxpayers under audit who participated in abusive micro-captive insurance transactions.
New, stricter settlement offer. The IRS has said it will soon begin sending out new offer letters to certain taxpayers with a micro-captive transaction currently under exam. These letters will contain a new, stricter time-limited settlement offer.
Observation. The News Release does not contain the exact terms of the new settlement offer or the time limit for taxpayers to respond to the offer.
The new offers require substantial concession of the income tax benefits claimed by the taxpayer together with penalties that can be partly mitigated if the taxpayer can demonstrate good faith, reasonable reliance on an independent, competent tax advisor and if the taxpayer can demonstrate it did not participate in any other reportable transactions.
The IRS has already determined which taxpayers are eligible for this new settlement offer, so taxpayers who do not receive an offer letter are not eligible for this settlement.
Taxpayers who received, but rejected, a previous settlement offer from the IRS may also receive a new offer letter containing the new, stricter settlement offer.
Taxpayers who receive these offer letters, but who opt not to accept the settlement offer, will continue to be audited by the IRS under its normal procedures. Potential outcomes from such audits include, but are not limited to, full disallowance of captive insurance deductions, inclusion of income by the captive, withholding tax related to any foreign captives, and imposition of all applicable penalties.
Taxpayers who decline the IRS’s settlement offer will have the right to appeal their audit results to the IRS Independent Office of Appeals (“Appeals”). However, Appeals is aware of this new settlement offer, and taxpayers should not anticipate receiving better settlement terms from Appeals than those contained in the new settlement offer letter.
Source: Checkpoint Newsstand 10/23/2020
