Morris Manning & Martin, LLP

Opportunities to Reduce Effective Tax Rate for Georgia Premium Taxes

11.20.2012

Benjamin Franklin said, “A penny saved is a penny earned.”  This saying is doubly true when using tax credits to lower the amount of premium or surplus lines taxes due in Georgia.

The insurance industry is used to thinking about premium taxes as an inevitable liability that accrues regardless of a company’s profits or operating results.  But for insurance companies, risk retention groups and surplus lines brokers with Georgia premium or surplus lines tax liabilities, there are multiple ways to reduce tax liability through the use of premium tax credits.

Premium tax credits equate to a dollar for dollar reduction in the premium tax due and were created by the Georgia Legislature to reward certain investments in Georgia.  Georgia currently has three premium tax credits for investments in low-income housing1, clean energy2, and the creation of new jobs in Georgia.3 This article focuses on low-income housing tax credits (“LIHTCs”) because these credits are the most widely available of the three credits and the only ones that apply to risk retention groups and surplus lines brokers in addition to insurance companies. 

Overview

Pursuant to the Tax Reform Act of 1986, federal low-income tax housing tax credits (“Federal Credits”) were authorized under Section 42 of the Internal Revenue Code (“IRC”).  Subsequently, several states, including Georgia in 2001, enacted a parallel incentive authorizing state low-income housing tax credits (“Georgia Credits”).  Federal Credits and Georgia Credits are utilized to encourage private business to provide a source of funding for certain affordable housing projects (“Affordable Housing Projects”).       

In order to generate Federal and Georgia Credits, the Affordable Housing Project must be operated and maintained in accordance with prescribed rules under Section 42 of the IRC.  Under this Section, Federal Credits are available with respect to “qualified low-income residential properties”; that is, residential rental properties in which: (a) 20% or more of the aggregate residential rental units are occupied by tenants with incomes of 50% or less of area median income, as adjusted for family size or (b) 40% or more of the aggregate residential rental units are occupied by tenants with incomes of 60% or less of area median income, as adjusted for family size (each test being the “Minimum Set-Aside Test” which must be satisfied).  Additionally, the gross rent charged to tenants of units comprising the Minimum Set-Aside cannot exceed 30% of the applicable Set-Aside income (i.e., 50% or 60% of area median income) for a family of a specified size.  Georgia Credits are allowed for projects placed in service after January 1, 2001 which qualify for Federal Credits.  

Federal Credits and Georgia Credits are generated during the first ten years of an Affordable Housing Project’s operation.  However, the Affordable Housing Project must comply with the rules set forth in Section 42 of the IRC for the first 15 years of its operation, otherwise some of the credits would be subject to recapture.  The Georgia Department of Community Affairs administers the Georgia Credit program subject to rulings from the Georgia Department of Revenue and Department of Insurance.

How Georgia Credits Work

A robust secondary market for Georgia Credits has developed, and insurers can obtain such credits from a number of participants in the tax credit industry, ranging from large financial institutions to specialized tax credit funds to developers.  Under Section 42 of the IRC, Federal Credits are available to the owners of Affordable Housing Projects.  Typically, an entity taxed as a partnership for income tax purposes (the “Property Partnership”) will own the Affordable Housing Project.  An affiliate of the developer will serve as the general partner of the Property Partnership, and tax credit investors are admitted as the limited partners—which may include a separate limited partner for the Federal Credits and a separate limited partner for the Georgia Credits.  

In exchange for a capital contribution to the Property Partnership, the limited partners are entitled to a share of the Project Partnership’s cash distributions as well as an allocation of a specified portion of the Project Partnership’s tax attributes, which include the Federal Credits and/or the Georgia Credits.  Georgia Credits may be allocated among some or all of the partners of the Project Partnership in any manner agreed to by such persons.  This is true even if a partner is not allocated or allowed any portion of the Federal Credits available to the Project Partnership.  The limited partnership agreement of the Project Partnership will specifically provide an allocation of the Georgia Credits among the partnership’s partners as agreed to by them.  

The investments are also considered to be Georgia sitused investments for purposes of calculating Georgia’s premium tax abatement for companies that invest assets in the state.4

Economics - Reducing Effective Premium Tax Rate

Generally, the capital contribution made by an insurer to a Project Partnership is based on a discount vis-à-vis the total amount of the Georgia Credits to be allocated to the insurer.  The discounting creates a positive rate of return on funds which would have otherwise be paid as taxes.  An eligible insurer, risk retention group or surplus lines broker5 that has been allocated Georgia Credits files Form IT-HC (typically provided by the bank) with its Georgia return.  Georgia Credits normally are delivered in the first quarter for the previous tax year.  As mentioned, the Georgia Credits offset premium and surplus lines taxes dollar for dollar.  For example, $100 of Georgia Credits will offset $100 of Georgia premium or surplus lines taxes due.  Any unused Georgia Credits may be carried forward for up to three years but cannot be applied to previously filed returns.  

There is a risk that the Georgia Credits could be recaptured if the underlying property no longer qualifies for the Federal Credits.  To guard against that risk, the general partner (and its principals) of the Project Partnership may provide a guaranty to the limited partner in the event that the amount of Georgia Credits allocated to the insurer is less than projected.  A market for insurance coverage against recapture is also beginning to form.  In the event of recapture, the insurance policy would be triggered to pay out the economic value of the lost credits.   

The Georgia low-income housing tax credit program benefits Georgians by subsidizing the cost of low-income housing, and it can be used by premium and surplus lines tax payers to lower their total tax cost.  Of course, before investing in any partnerships that generate LIHTCs, insurers should consult with their tax and legal advisors.

1 Off. Code Ga. Ann. § 33-1-18.
2 Off. Code Ga. Ann. § 48-7-29.14.
3 Off. Code Ga. Ann. § 33-8-4.1.
4 See Off. Code Ga. Ann. § 33-8-5.
5 While Georgia Credits are available to offset surplus lines tax, the surplus lines broker arguably must purchase the Georgia Credits individually since the surplus lines tax is paid by the broker.