Comment on FR Doc # E7-19134

RE: IRS REG-107592-00 This letter is a follow up to the meeting held November 28 among your team and representatives of the Self-Insurance Institute of America, Inc. At that time, you requested comments on why we felt the Proposed Regulation regarding Section 1.1502.13(e) should be dropped. While none of the written information regarding the proposal has suggested any abusive tax practices, when we met you expressed concern about transactions similar to those of a manufacturer artificially transferring inventory through intercompany sales. Let me first distinguish the accounting for captive insurance companies from that of a manufacturing company. They differ in several respects. First, the principal judgment involved in balance sheet valuations for an insurance company is not the assets, but rather the liabilities. Just as cost of goods sold is the largest expense of a manufacturing company, incurred losses are the largest expense of an insurance company. To record these expenses on a cash basis is not in conformity with generally accepted accounting principles, and disregards the single largest operating component of an insurance company: its loss reserves. The IRS provides for discounting these liabilities to their present value for purposes of deducting the losses of an insurance company, so the insurance industry is already penalized compared to manufacturers without even thinking of totally ignoring the loss reserves in determining taxable income. Secondly, the insurance industry is a highly regulated industry. Loss reserves are monitored by departments of insurance that require certification of the loss reserves annually by independent actuaries in addition to annual opinions from independent certified public accountants. Third, from a taxation perspective, the Internal Revenue Service has recognized the unique character of the insurance industry with a unique reporting Form 1120- PC that differs from the standard Form 1120 completed by a manufacturing company. The form is designed to address the unique nature of the insurance industry. Whether transactions are between a parent and its captive or between unrelated parties, it does not make a lot of sense to try to eliminate transactions between an insured and an insurer, which prepares an altogether different type of tax return. Putting aside the analogy to a manufacturing company transferring inventory to a subsidiary through intercompany sales, let me address some reasons why it is inappropriate or ineffective to precede with the proposed regulation. Numerous judicial decisions have made it clear that the intent of legislators was to permit captive insurers to deduct losses on an accrual basis, not a cash basis. The courts have ruled in favor of the captive insurance industry in Humana Inc. vs. Commissioner; Gulf Oil Corp. vs. Commissioner; AMERICO, Inc. vs. Commissioner; The Harper Group vs. Commissioner; Sears, Roebuck & Co. vs. Commissioner; and Hospital Corp. of American vs. Commissioner. The use of administrative procedures for consolidated tax returns to eliminate this ability to deduct losses on an accrual basis circumvents the legislative and judicial intent. The Service committed not to pursue the economic family theory in Revenue Ruling 2001-31. At that time, the Service indicated that each transaction would be evaluated on the facts and circumstances particular the transaction. Having been encouraged by this Ruling, numerous captives have been formed since 2001. A reversal of the Service?s position, particularly by use of the Consolidated Return Regulations, is not fair to the many captives that have relied upon the commitment made in the 2001 Ruling. In the long run, the Proposed Regulation 1.1502-13(e) will not enhance government revenues. Captive insurance companies will be encouraged to move offshore where they will not be required to pay U.S. income taxes. With this movement offshore, U.S. jobs will be lost to offshore domiciles, and the related payroll taxes, personal income taxes, and state premium tax revenues will decline. There is apparently less than uniform agreement on aspects of this issue among professionals within the Service and Department of Treasury. When we met with you, you advised that the objective of the proposal was not to raise revenue. You further indicated that the proposal would not apply to ?fronted reinsurance transactions.? Yet, the proposed regulation cites that the IRS and Treasury believe that separate entity treatment of insurance payments from one member of a group to a captive insurer may now have a greater effect on consolidated taxable income than was anticipated when the current regulations were issued. Additionally, the proposal indicated that reinsurance transactions engaged in by group members that attempt to circumvent the single entity rules may be subject to the anti-avoidance rules of Section 1.1502-13(h). The example given was a fronted reinsurance transaction. These inconsistencies in the perceived intent and impact of the proposal may be predictive of the challenges in transitioning the new proposal, if implemented. In conclusion, we thank you for listening to industry representation. Once all facts have been considered, we strongly encourage you not to pursue the proposed regulation. Sincerely, Dick Goff, President CC: Karen Gilbreath Sowell, Deputy Assistant Secretary Tax Policy, Department of Treasury CC: William D. Alexander, Associate Chief Counsel, Internal Revenue Service