IRS concession hands taxpayers a major win in microcaptive insurance case, but leaves uncertainty on how the Tax Court will address 831(b) microcaptive insurance arrangements

Last month, the Tax Court in Puglisi v. Commissioner overruled the taxpayer’s objection to entry of an IRS full concession final decision relating to their microcaptive insurance company. The taxpayers asked that the Court first issue an opinion on the merits of their microcaptive arrangements, which would provide more guidance in a hotly-contested area of tax law. An opinion would also protect the taxpayers in future years, because the deductibility of their insurance premiums would be a recurring issue moving forward. Seeking to avoid a taxpayer-favorable opinion, however, the IRS offered to concede all adjustments and penalties.

The Service’s motivation for conceding the adjustments is clear. Microcaptive insurance arrangements have been an IRS target in recent years as tax abusive, and even designated as a transaction of interest. The facts in the Puglisi case presented a significant hurdle in the Service’s litigation strategy.

Tax Court records show that the taxpayers at issue were the owners of a family-run egg farm, which sought to insure against certain risks to their farm, such as avian influenza. When the taxpayers failed to find insurance specific to their needs, they used a microcaptive insurance company.

Following an audit, the IRS disallowed the deductions claimed by the taxpayers for insurance premiums paid, claiming the insurance was deceptive and the microcaptive arrangement lacked economic substance. The IRS asserted over $2.1 million in tax deficiencies and nearly $700,000 in penalties.

Following discovery in Tax Court, the IRS conceded all of the insurance deficiencies and penalties, leaving the Judge with no option but to enter decision for the taxpayers, without an opinion.

Although the end result for the taxpayers was a major victory, the taxpayers, as well as many others, hoped this would be the case which would result in a Tax Court opinion affirming the legitimacy of section 831(b) microcaptive insurance arrangements.

Just in time for the holidays the IRS has given taxpayers a ray of hope that not all microcaptive insurance arrangements will automatically be deemed abusive and ultimately disallowed. The hope going forward is that the IRS will begin to view these highly scrutinized tax deductions in a less negative light, providing taxpayers certainty as they file their returns.

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About Michelle Levin

Michelle Abroms Levin is a shareholder in Dentons Sirote’s Huntsville office, where she is a member of the Tax practice group. She represents clients during all phases of federal income tax controversies, including IRS audit, administrative appeals, and court proceedings in the U.S. Tax Court, U.S. Court of Federal Claims, federal district court and the Courts of Appeals. Michelle has secured major victories for her clients in the Eleventh Circuit, Fifth Circuit, and Tax Court, elevating important Administrative Procedure Act issues in the tax controversy context. Her experience includes a wide range of complex tax issues. Michelle also counsels clients in tax and business planning. She works with clients to structure transactions in a manner that maximizes tax benefits, reduces risk, and complies with tax law at local, state, and federal levels. Michelle has also been elected as a Fellow of the American College of Tax Counsel.

About Sarah Green

Sarah Green is a senior managing associate in Dentons Sirote’s Huntsville, Alabama office. She is a member of the Tax practice group. Her practice focuses on Tax Controversy and Litigation.