Part 9 of Jim Sacher’s 12 Great Ideas for Tax Savings series
What to Look For
You may be the owner of a profitable business and want to better manage your insurance costs or build an asset base to fund future risks. Perhaps you have experienced difficulty obtaining cost-effective coverage for your company. With either scenario, if you have annual insurance premiums of approximately $1 million, you may want to consider creating a captive insurance company to better control insurance costs, manage risk and generate tax savings.
A captive insurance company is created and owned typically by one or more owners of an operating business to insure the risks of the related operating company. In other words, captive insurance is essentially a form of self-insurance whereby the insurer is owned by the same group that owns the operating company. However, the captive is a true insurance company and is regulated like any other insurer.
When you create a captive insurance company, you are able to provide the first layer of coverage for your business risks through this private insurance. You’re also able to insure otherwise problem risks that traditional insurance companies won’t cover, such as product liability or environmental claims.
By having your own insurance company, you are better able to control risk management. At the same time you can generate tax deductions at the operating company level that don’t result in taxable income at the captive insurance company. An insurance company qualifying under section 831(b) of the Internal Revenue Code allows an insurance company to earn up to $1.2 million of premiums, tax-free.
There are numerous benefits associated with captive insurance:
- Better control of insurance costs since the operating business can take the first layer of risk
- Coverage for hard-to-insure risks
- Create a tax deduction for the operating business without creating taxable income for the insurance company
- Possibly convert ordinary income into capital gain
- Build a war chest for future claims
There are very specific requirements for forming and operating a captive insurance company, both from a regulatory and tax perspective. Proper planning and documentation are a must and business owners must be prepared to provide adequate capital and ongoing attention to the captive. However, the benefits are significant.
If you would like to have a conversation about creating a captive insurance company, or how you can take advantage of our tax savings ideas, please contact Jim Sacher at 440-605-7145 or firstname.lastname@example.org. Stay tuned for the next article in our series on creating an Employee Stock Ownership Plan (ESOP) as an option to selling your business.