Law Memo

Transferring the Family Business Through Trusts

December 19th 2016

As baby boomers are nearing retirement, a consistent question arises among those who are small business owners regarding what to do with their family business.  Typically, the business has been in operation for numerous years grown from the effort of that owner. Now, this owner is ready to retire and begin the next stage of their life.  If the owner has one or more children working in the business, they may want to transfer the business directly to them.  

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Structuring Funds:Tax Considerations

October 08th 2016

There are many considerations in structuring a venture capital or a private equity fund – taxation, securities laws, alignment of interests, valuation issues and segregation of liabilities. We find that taxation tends to drive the structure of the deal. There is no one “silver bullet” structure, but most funds will utilize an entity for the fund itself, and another entity for the interest of the fund manager. Click to read complete article.

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Asset Protection for Small Business Owners

July 08th 2016

Small business owners usually work around the clock, building something tangible out of an idea, and performing an intricate juggling act, hoping to keep all their balls in the air. Unfortunately, in our litigious society, there is a high probability that a small business owner will get sued at least once. Being proactive is the best defense. 

Read the full memo here. 

Captive Insurance Companies – New Law Passed by Congress

March 10th 2016

Captive insurance companies were introduced into the Tax Code in 1986 and have remained one of the most popular income tax planning tools.  A “captive” is an insurance company owned by the policyholder or in some way related to the policyholder through common ownership. Internal Revenue Code Section 831(b) allows an insurance company to elect not to be taxed on its premium income so long as the premium income does not exceed $1.2 million.  This allows policyholders to write off insurance premiums as ordinary and necessary business expenses, without including those premiums in the income of the insurance company.  If the policyholder and the insurance company are owned by the same person, there is a net tax gain. Captives were introduced as a means of allowing farming (and other) cooperatives to effectively self-insure, without taxing the self-insurance arrangements or forcing the farmers to seek tax-exempt status for the insurance companies.  There are significant non-tax uses of captives, but they are primarily used by taxpayers for tax minimization. The PATH Act (Protecting Americans from Tax Hikes Act) was passed by Congress on December 18, 2015.  It contained the first revision to Code Section 831(b) since the 1986 Tax Reform Act.  Pushed through by Sen. Grassley (his constituents are Iowa farmers), the revised Code Section 831(b) raises the captive premium ceiling to $2.2 million, but introduces two new alternative requirements.

Diversification Test: To make an 831(b) election, a single policyholder may not pay more than 20% of the aggregate premiums paid to the captive.  Related policyholders are treated as one.  This means that if George owns 10 farming corporations that all purchase casualty insurance from George’s captive insurance company, this test is failed.  This test is also failed if each of the farming corporations is owned by one of George’s ten kids.

Ownership Mirror Test: If the owners of the policyholder and the captive insurance company are spouses or lineal descendants (i.e., parents own the policyholder and kids own the captive), then the two entities must be owned in exactly the same way by the same persons (within a 2% margin).  This test is specifically intended to deter ‘creative’ estate tax planning by family businesses.  It is somewhat common to set up structures where the policyholder is owned by an older generation and the captive by the younger generation.  This creates a significant wealth shift from the older to the younger generation without incurring transfer taxes.   In the above example, George fails the ownership mirror test if he owns the policyholder and his kids own the captive. One of the above two tests needs to be satisfied, but not both.  The diversification test is satisfied by something like a farming cooperative, or a group of independent business owners – each business is unrelated to the other.  It is not clear how some clients with existing captives insuring several related policyholders will satisfy this test.  It is possible that each captive will require access to at least four risk sharing pools to meet the 20% test.  Keep in mind that the diversification test is avoided if the ownership mirror test is satisfied.  If, in the earlier example, George owns the captive and each farming corporation, he meets the ownership mirror test and does not have to satisfy the diversification test.  George is effectively allowed to use a captive as income tax planning tool, but not an estate tax planning tool. The captive’s world is still waiting on guidance from the IRS and an industry consensus as to these rules.  Some of the above tests are not well defined and their application is not clear.  It is also not yet clear how existing case law and guidance from the IRS fits with the revised Section 831(b).  Please stay tuned for that. The new law for captives goes into effective January 1, 2017.  Those with existing captives should urgently consult their tax advisors to determine if their structures work, need an adjustment or should be dismantled.

Jacob Stein specializes in complex tax planning and has over ten years of experience structuring captive insurance arrangements. Please contact Jacob with any questions. 

Expert Counsel is Great.

April 15th 2015

Our clients are everywhere and their needs are complex. That is why Valant, LLP works with top-notch attorneys all over the world who not only provide great legal services, but are also familiar with the local jurisdiction of the client, which plays a big role in determining the best legal action to take.