The benefits of owning your own Small Insurance Company (CIC’s) are numerous.  As a group, we have found no other single financial and asset protection strategy which can accomplish so much, often solving many financial issues with just this one strategy. Since 831(b) Captive Insurance Companies have their own code section and revenue rulings and IRS published Technical Advice Memoranda abound, CIC’s are considered by legal experts as a very conservative choice for clients who qualify. 

Here are a few basic questions and answers.

What is a CIC?

For our purposes, a CIC is a small casualty insurance company that you or those close to you own or control, and which provides insurance of your choosing primarily to entities that you or those close to you own or control.

What does a CIC do?

Typically CIC’s are used to do two things:

• Insure risks that you presently cover via third party insurance arrangements, but at a cost that is expected to be more economical for you over time. For example, it might be more economical in the long run for a medical practice with a history of very low med-mal claims to purchase med-mal insurance from their own CIC rather than on the open market. In this manner, the “profits” that are presently being realized by the third party insurance provider can be retained for the physician owners’ benefit.

• Insure risks that are presently being self-insured (i.e., not insured). Many small businesses fail to insure against very real and highly insurable risks simply because the cost of purchasing the coverage is deemed to be too high or too low of a chance that the risk will occur.  Examples of such risks might include terrorism, kidnapping, administrative actions issues, loss of business to competitors, or loss of electronic data stored on computers. Any one of these contingencies would be devastating to a business, yet most don’t insure against them simply due to cost.

Other uses of CICs include:

Asset protection

CIC’s can be one of the most effective ways of providing numerous layers of protection from potential future creditors or claimants. Under the laws of most jurisdictions, assets of insurance companies enjoy varying degrees of statutory protection, in order to insure that these assets are preserved for the benefit of policyholders rather than at risk to various creditors.

Second, if your CIC is incorporated in certain international jurisdictions, the laws of the international jurisdiction will make it extremely difficult, if not impossible, for any non-policyholder creditor, especially one in the US, to get to the assets of the company.

Third, as discussed above, the CIC can invest its profits and excess capital in such a way that, even if a creditor were successful in penetrating the CIC, it still could not get to the money invested in your LLC.

Utilization of favorable claims history

Assuming a favorable claims history, self-insuring via a CIC may permit you, or those close to you, to retain profits presently realized by independent third-party insurers.

Second, because with a CIC you, or those close to you, reap the benefits of a favorable claims history, you no longer have a disincentive to purchase more expensive varieties of insurance.

Third, when properly structured, CIC’s provide significant tax benefits. In order to incentivize companies to purchase needed coverage via a self-insurance arrangement with a related CIC, Congress enacted express provisions governing the taxation of CIC’s, which are referred to as “Small Insurance Companies” under the code (see, e.g., Code Section 831(b)).

Financial implications

A primary advantage of a Section 831(b) Small Insurance Company is the first $1.2 million of its premium income each year is taxed at a 0% bracket. Essentially, one can imagine a 831(b) Small Insurance Company as a C-Corporation which is in a zero percent federal tax bracket up to $1.2 million per year of premium revenue. Thus, via a CIC, businesses can “reserve” up to $1.2 million per year on a pre-tax basis to pay future claims or cover future contingencies.  The benefits of the CIC strategy are almost limitless. It can be used, among other things, to:   

• Save up to $720,000 per year in taxes assuming a 60% tax on earnings over $250,000 (39.6% Fed, 6.2% xs 2 Social, 1.45% xs 2 Medicare, 8% State = 54.9% TN, TX, FL, etc. and 62.9% most states.  This assumes that the new administration will implement their proposed tax increases as stated);
• Create an asset-protected nest egg;
• Accumulate wealth for the business owner’s retirement, functioning as an alternative or supplement to the owner’s other retirement plans.
• Facilitate a buy-out of the business or a completely separate business
• Fund college education for the owner’s children or grandchildren;
• For Temporary High Earners, i.e. entertainers, professional athletes, etc, a CIC can be utilized to create assets that may be drawn upon to continue life style after high earning years pass

Estate Tax Planning

Given the right situation, CIC’s can be powerful estate planning tools.  If properly structured, a CIC could be owned by trust for the benefit of heirs, i.e. children and/or even grandchildren, and, assuming a favorable claims history, could move substantial wealth to younger generations in a very tax efficient manner.  Having the CIC owned by a trust for the benefit of the next generation(s) allows for significant asset protection.

How much does it cost to set up a CIC?

Cost depends upon the jurisdiction in which the CIC incorporated. Under most circumstances, a quality CIC can be set up and operated in an international jurisdiction for an “all in” cost of about $70k - $100k the first year, and $40k - $60k in subsequent years. CICs can also be set up domestically, though the administrative, regulatory, and capitalization costs are considerably much higher (exact requirements varying from state to state), usually making them unaffordable to smaller businesses.

Tax Implications of International versus Domestic Captive Formation

None of the federal income tax benefits of CIC’s (Small Insurance Companies under the Code) is attributable to the fact that they may be set up internationally. Said another way, the federal taxation of a CIC is the same whether you incorporate internationally or domestically.  When working with our clients, all international CIC’s file a specific election with the IRS to be taxed as a US Corporation in full accordance with US tax law. The benefits of incorporating internationally are significant, but are limited to asset protection, reduced regulatory and administrative costs, and lower initial capital requirements.