Freedom through captivity
pfpnews
BY rick a. ja Ye
Many successful small and midsized businesses are discovering
the benefits of captive insurance companies, and are pursuing
the guidance of financial advisors with experience in this arena.
Captive insurors offer opportunities in tax and estate planning
Captives can reduce insurance costs, reduce taxes, protect assets, diversify wealth
outside of the business and help transfer
business value and family wealth to future
generations. Legislative changes in the last
seven years have made this one of the most
advantageous strategies for business owners today. As a financial advisor working in
the business market, you should become
knowledgeable about this form of planning.
Whether your business owner client moves
forward with a captive program or not, you
do not want to lose an opportunity to further
differentiate yourself from your peers.
CAPTIVE 101
A captive is a property and casualty insurance company established by a business or
individual to provide a broad range of risk
management capabilities to affiliated companies. For example, a group of doctors can
form and own a captive to insure against the
exclusions of and deductibles within their
primary medical malpractice coverage, or
even against risks unrelated to malpractice,
such as the loss of a key employee, a wrongful
termination or the loss of electronic medical
records or medical licenses. Another example is a firm establishing a captive to insure
against the risk of intellectual property theft
by employees.
Captives established under Internal Rev-
enue Code Sec. 831(b) are often referred to as
wealth captives. There are restrictions placed
on these captives regarding deductibility and
the amount of premiums that can be paid.
They can be formed in the U.S. (currently ap-
proved in 39 states) or in a foreign jurisdic-
tion, depending on the needs and concerns
of the captive’s shareholders
Whether domiciled domestically or off-
shore, captives are required to file a U. S. fed-
eral corporate tax return and pay corporate
income taxes on any taxable gains each and
every year. Therefore, the premiums received
by the captive, along with its reserves, must
be managed both to meet the liquidity needs
of the insurance company and also to miti-
gate current taxable income.
in savings on annual income tax alone.
Many business owners unknowingly self-insure a tremendous amount of business risks,
including general business liability, legal and
malpractice deductibles, professional liability, employment practices, accounts receivable concentration, administrative actions
(such as Medicare or HIPAA), disability, loss
of business license or professional license,
and business interruption. Self-insurance,
whether funded out of company reserves or
personal after-tax savings, is not tax-deductible. However, with a properly structured captive, self-insurance through a captive structure can create substantial tax deductions,
resulting in tremendous tax savings.
ASSET PROTECTION VALUE
Captives may very well be the best asset-pro-tection tool available to business owners. Assets in a captive are not exposed to creditors
and plaintiffs, and are only available to pay
valid claims — claims approved by the captive company and its owners. A captive also
allows the use of customized policies that are
often too pricey or unavailable through large
insurers, allowing greater flexibility and reduced exposure.
Typically, when a business owner invests
both personal and business assets, the assets stay in their name, or the name of the
business, leaving these investments potentially subject to lawsuit claimants, creditors,
divorce settlements or bankruptcy trustees.
Using a captive, a business owner can transfer monies as a business expense into an independently operating, fully licensed insurance company. Any lawsuit, claim, divorce,
tax or other action against the business owner
or the business is completely separate from
the captive, meaning the investments held
and owned by the captive are fully protected
against litigation risks.
COLLEGE-BOUND TEENS
RECONSIDER PLANS
COLORADO SPRINGS, COLO. — Nearly two
thirds of teens are changing their college
plans due to the economy, according to
a new survey by Junior Achievement and
Allstate, which found that 63 percent of
the 1,000 teenagers polled had changed
their plans because of the economy, up
from 55 percent last year. Of the 63 percent whose college plans have changed,
41 percent are working more to pay for
college, 37 percent are staying closer to
home or are not attending college out of
state, 21 percent plan on going to a community college and 15 percent may delay
school for one year or longer.
An overwhelming majority of teens
— 90 percent — report that they and
their families are saving for college. However, a quarter haven’t determined how
they will pay for college. Interestingly, 86
percent of teens say they plan on getting
college scholarships. Yet only 66 percent
of all undergraduates received some type
of financial aid in 2007-08, according to
the U.S. Department of Education.
Rick A. Jaye is the chief financial strategist
for First Allied Securities Inc.’s wealth management group, Advanced Equities Wealth
Management Inc.
TAX BENEFITS
Sec. 831(b) captives offer additional benefits
through favorable tax treatment on receipt of
premiums. Tax exemptions on current premiums are allowed for small insurance companies receiving up to $1.2 million per year, and
larger insurance companies can take current
deductions for estimated future losses. Both
provisions make owning an insurance company an excellent investment. For example,
a business owner or company paying $1 million in premiums to a captive will receive a
business deduction for the insurance payment under IRC 162, but the captive will not
pay current income tax on the premium received. This can result in $400,000 to $500,000
ESTATE-PLANNING TOOLS
Captives can be an effective way to transfer
family net worth to future generations with or
without the use of life insurance. At the time
a captive is established, the business owner
can transfer ownership at time of capitaliza-
See CAptIvE on 18
EMPLOYERS TO KEEP CHANGES
IN RETIREMENT PLANS
NEW YORK — The majority of employers
who made changes to their retirement
plans during the economic downturn
expect to keep those changes in place
throughout 2010, according to a new
survey by Bucks Consultants. Results
showed that 77 percent of employers
with traditional defined-benefit pension plans and 52 percent of employers
with defined-contribution plans, such as
401(k)s, will not reverse changes or are
uncertain if they will reverse previous
changes. The study analyzes responses
from nearly 200 organizations across a
wide range of industries.
The most common changes employers
made to DB plans were to freeze participants’ benefits at their current levels
(68 percent of plans covering salaried
employees) and to close the plan to new
employees ( 32 percent of plans). Twenty-four percent of respondents made changes to their DC plans in 2009. The most
common change was to reduce employer
contributions.
