Revenue Ruling 2008-15 provides four different situations involving foreign insurers and reinsurers showing how each situation will be subject to FET. The four situations described in Revenue Ruling 2008-15 are the following:
Situation 1: A foreign insurance corporation (“FIC”), incorporated in country X issues casualty insurance policies to a U.S. domestic corporation. FIC is not engaged in a trade or business in the U.S. and the Country X has no income tax treaty with the U.S. FIC reinsures the risks under the policies issued to the U.S. corporation with a foreign reinsurance corporation (“FRC”). FRC is incorporated in foreign country Y whose income tax treaty with the U.S. does not provide an exemption for FET. The IRS ruled that the 4% excise tax imposed by Section 4371(1) of the Code applies to the premiums paid by U.S. corporation to FIC. In addition, the 1% excise tax of Section 4371(3) of the Code applies to the premiums paid by FIC to FRC.
Situation 2: Domestic Insurer reinsures casualty losses with Foreign Reinsurer 1, which is incorporated in Country W. Foreign Reinsurer 1 in turn retrocedes the same contracts with Foreign Reinsurer 2 which is incorporated in Country Y. Country W and Country Y both have income tax treaties with the U.S. that do not exempt insurance premiums from FET. The IRS ruled that the 1% excise tax applies to both the reinsurance premiums paid by Domestic Insurer to Foreign Reinsurer 1 and by Foreign Reinsurer 1 to Foreign Reinsurer 2.
Situation 3: Similar to Situation 1 above, except that Country X is party to an income tax treaty with the U.S. which provides that the treaty exemption from FET does not apply if the insurance policies issued by FIC are reinsured with a foreign reinsurer not entitled to the benefits of a treaty that provides such exemptions. As a result, the 4% excise tax applies to the premiums received by FIC as of the date the insurance premiums are paid by FIC to FRC. In addition, the 1% excise tax is imposed on the premiums paid by FIC to FRC, since the income tax treaty between Country Y and the U.S. provides no exemption from foreign excise taxes. The fact pattern in this situation would likely apply where a foreign insurer located in Europe (other than the U.K.) insures a U.S. risk and then reinsures the risk with a Bermuda reinsurer.
Situation 4: Similar to Situation 1 above, except that FIC is a Country Z resident. The income tax treaty between the U.S. and Country Z contains a limitation on benefits article. The treaty also exempts from the FET insurance and reinsurance policies issued by foreign insurers unless such policies are entered into as part of conduit arrangement. FIC satisfies the limitations on benefits article and does not violate the conduit arrangement provisions. The IRS ruled that although the insurance premiums received by FIC are exempt from the FET, the premiums paid by FIC to FRC are subject to the 1% excise tax because FRC is a Country Y resident whose income tax treaty with the U.S. does not exempt insurance premiums from excise taxes. Therefore, FET applies to reinsurance premiums paid by one foreign insurer or reinsurer to another foreign reinsurer, unless the second foreign reinsurer itself is entitled to a tax treaty exemption with the U.S. The fact pattern in this situation would likely apply where a foreign insurer located in the U.K. insures a U.S. risk and then reinsures the risk with a Bermuda reinsurer. However, if the UK insurer reinsures the risk with the Bermuda reinsurer as part of a conduit arrangement, the 4% excise tax would apply as well.
Voluntary Compliance Program As part of the voluntary compliance program under Announcement 2008-18 , if a taxpayer (whether a foreign insurer, reinsurer, agent, solicitor or broker) participates in the voluntary compliance program the IRS will not examine issues arising under the four hypothetical situations explained in Revenue Ruling 2008-15 or any similar fact pattern in respect of reinsurance premiums paid by one foreign insurer or reinsurer to another prior to October 1, 2008. In general, any foreign insurer or reinsurer or any other foreign person liable for the FET who has failed to file timely Quarterly Federal Excise Tax Returns (Form 720) and has failed to pay the applicable excise tax with respect to premiums paid or received during any quarterly tax period ending prior to October 1, 2008 is eligible to participate in the voluntary compliance program. However, taxpayers with closing agreements with the IRS are generally not eligible to participate in the voluntary compliance program. In order to avoid an IRS examination, eligible taxpayers should consider participating in the compliance program by filing a Form 720 stating that the taxpayer is electing such treatment and pay any FET due with respect to premiums paid or received on or after October 1, 2008. The taxpayer must also comply with certain recordkeeping obligations.
Although Revenue Ruling 2008-15 and Announcement 2008-18 states the IRS’s position on these types of FET situations, many questions remain. These questions include how the IRS will enforce these policies on foreign insurers and reinsurers who have no nexus with the U.S. and how it will determine the amount of FET liability owed through multiple layers of complex reinsurance arrangements. A final unanswered question is whether the IRS interpretation of the FET provisions of the Code is overbroad in treating the FET as a cascading tax.
If you have any questions regarding the remedial or the recordkeeping requirements of this new IRS initiative please contact the Edwards Angell Palmer & Dodge LLP attorney responsible for your affairs or:
G. Scott Nebergall
401.276.6461
[email protected]
