2016 is almost upon us. What is in the offing for the captive industry?
First, of course, 2016 will be an election year, which means that Congress will be distracted from its normal schedule and will undertake its principal job of making sure incumbents get reelected. Amendments to those pieces of legislation which affect the insurance industry – Dodd-Frank, in particular – are less likely to occur. Specifically, the “Captive Insurers Clarification Act,” which is designed to clarify that captives are not included as “nonadmitted insurers” in the Nonadmitted and Reinsurance Reform Act (title v of Dodd-Frank,) will not get much opportunity to move forward. Further, any action by the Senate Finance Committee on narrowing the use of the 831(b) election will be limited, even though the Committee recently issued a report (S. Rpt. 114-16) which endorses the proposal in S. 905 to increase the limit for the alternative tax treatment provided by Section 831(b) from $1,200,000 to $2,200,000. Interestingly, there is no restriction on the use of this election as has been predicted. Instead, the Committee requests that the Treasury study the abuse of captive insurance companies for estate planning purposes.
Second, the NAIC will continue its investigation into the captive industry. Having experienced some success examining the use of life, annuity, and long-term care captives, which is leading towards their regulation as traditional insurers, various NAIC committees will likely probe more deeply into the differences between captive and traditional regulation with the goal of achieving greater “harmony.” Whether greater uniformity is a good idea or not is not being discussed, but should be, because variations among domiciles and captive programs create new ideas and new alternative risk program structures from which commercial insureds benefit.
Third, the captive industry will continue to grow, although at a slower pace due to the soft property/casualty market. This will be particularly evident in the risk retention group marketplace, where the number of active RRGs has actually dropped by about 20. Growth will continue, although likely at a slower pace due to the characterization by the Internal Revenue Service (“IRS”) in its “Dirty Dozen Tax Scams for 2015” of some captives as being “abusive tax structures” provided by unscrupulous promoters.” A more aggressive audit program by the IRS of risk pools (which are essential to most micro-captives for risk shifting and distribution) will have a deterring effect on new micro-captive formations.
Fourth, it will be a good idea to follow the Metropolitan Life v. Financial Stability Oversight Council case in the U.S. District Court in Washington, DC. Met Life is one of four insurance entities deemed to be a “systemically important financial institution” (“SIFI”). Met Life is challenging the opinion of FSOC on various grounds, the essence of which is that FSOC is applying the wrong standards, does not understand insurance, and exceeds its authority. The outcome of this case will have a significant impact on the ability and appetite of the federal government, in particularly the Treasury, to set standards and generally become involved in insurance regulation.
Congress may have a role in the debate over insurance regulation. S. Roy Woodall, the sole voting member of FSOC with insurance expertise, testified on September 29, 2015 at a hearing before the House Financial Services Subcommittee that “the scope of federal efforts to develop and coordinate federal policy on international insurance prudential matters has gone too far in displacing authorities that Congress has reserved to the states…” Ultimately, the battle between state and federal regulation, which has been fought for 50 years in the halls of Congress, may be removed to the back rooms of the Treasury and the U.S. Trade Representative.