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How a 37-year Old Tax Code Can Help You Sleep Better at Night

Published: Aug 3, 2023

Everyone has heard the saying, "If it seems too good to be true, it probably is."  

Can you imagine how many people said that in 1978 when they first heard about a new-fangled type of retirement plan called the 401k? Fast forward to 2023 and today, if someone told you that adopting a 401k plan for your business is way too risky, you would no doubt wonder where they have been for the last 45 years, right? 

Yet, that attitude is an all too common response towards another tax law that has 37 years of history behind it, known as the 831(b) Plan (aka, a captive insurance company). Once a person truly understands what the 831(b) Plan can do for their business, those doubts evaporate quickly. 

What is an IRC 831(b) Plan? 

831(b) is the tax code section that allows your business to create its own insurance company with tax deferral benefits. Like your company's 401k plan, the 831(b) plan shares many similarities.

Here are five areas where the 401k and the 831(b) plan are similar. 

  1. ︎401k contributions are tax deductible. 831(b) premiums are a deductible business expense.
  2. Contributions (Premiums) fund a specific future benefit: 401ks for personal retirement savings and 831(b) for under or uninsured business risks. 
  3. 401ks have maximum contribution limits as do 831(b) plans. 
  4. Each plan must comply with strict guidelines; 401k has ERISA guidelines, and the 831(b) Plans must follow a 4-Part Test to ensure compliance. 
  5. Each plan requires a 3rd party administrator to insulate it from self-dealing. 

To further understand these similarities, click here

Can this type of plan be managed in-house?

The short answer is no. Like the tried and true 401k plan, the 831(b) plan also has safe harbor rules to comply with and requires an administrator. 

One strict requirement of an administrator is to ensure compliance. Built on the foundations of Rev. Ruling 2009-26 and recent court rulings, SRA Admin follows a stringent 4-Part Test as part of its guidelines to ensure ongoing compliance. Each part of the test is essential to successfully implementing an 831(b) Plan and maintaining its tax-deferred status under the Tax Code.

  1. Risk Transfer: A contractual risk transfer must be from the operating company to the insurer.
  2. Risk Distribution: To reduce the possibility that a single claim exceeds the amount of premiums collected, the 831(b) Plan must utilize the law of large numbers to disperse risk among unrelated parties.
  3. Fortuitous Risk: Contractually transferred risk is unpredictable and not considered an ordinary business risk.
  4. Principles of Insurance: The 831(b) Plan must act as an ordinary for-profit insurance company would.

5 benefits that make an 831(b) plan so attractive:

1. Self-insuring can save money. 

You will have the flexibility of self-insuring against future risks where commercial insurance is overly expensive or will not underwrite the risk. It fills the gaps in traditional insurance. 

2. Substantial premium contributions are deductible as a business expense. 

As of 2023, tax-deductible premiums of as much as $2.65 million per year are allowed with an inflation rider. Not all companies may qualify for the maximum amount. Guidelines on contribution limits are available through your plan admin. 

3. Withdrawals for other expenses outside of claims are allowed. 

Premiums are dedicated to specific policies and considered at risk. While at risk, these premiums are conservatively invested in liquid assets. Once policies expire and funds are no longer at risk (typically one year and one day), they can be more aggressively invested, loaned, or distributed as dividends. 

4. Withdrawals are tax friendly. 

Withdrawals are considered qualified dividends, and the recipient is assessed at a long-term capital gains rate of 20%. 

5. The 831(b) plan can provide all types of risk coverage, including:  

  • Brand Protection: Protects against any adverse media event that affects consumer trust and brand perception.
  • Supply Chain Interruption: Manufacturing disruption due to adverse weather, unplanned outages, acts of God, terrorism, or civil unrest - foreign or domestic.
  • Data breach and loss of income: Intentional and unintentional acts from employees. This policy protects business income from cyber breaches (ransomware, phishing, malware). 
  • Political Risk: Protects against the hazard that a foreign or domestic government will take some action that causes the insured to experience an unforeseen financial loss
  • Dispute Resolution: Any legal or arbitration dispute between employees, customers, and contractors.
  • Protects Directors and Officers: Protects the individuals who serve as directors or officers of a company from personal losses if they are involved in a lawsuit with the company's employees, vendors, customers, shareholders, or other parties.
  •  And much more.

How do you know if your company qualifies for the 831(b) Plan?  

  • You have risks that you cannot insure on the open market.
  • Your company is paying high insurance premiums but has low claims history.
  • You have consistent cash flow and profitability. 
  • Your company has unique risk exposures that are prohibitively expensive to insure commercially. Or commercial insurance will not underwrite. 
  • You are searching for a solution to mitigate the cost of commercial insurance.

In review, much like the venerable 401k plan, the 831(b) Plan has a long history of use by savvy business owners like yourself, who understand the importance of proactive planning for a future of both known and unknown risks (think pandemic). 

By the way, "Don't try this at home, kids." Like your company's 401k plan, choosing an 831(b) administrator is an essential first step. 

SRA 831(b) Administrators care deeply about the financial security of our clients and their businesses. Our talented team of risk managers has an average of 10+ years of industry experience and strives to provide creative, quality, well-designed plans to address the varying needs of our clients. Take our assessment to see if you may qualify for an 831(b) Plan today. 

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