The Protecting Americans from Tax Hikes (PATH) Act was signed into law in December of 2015 to expand or renew tax credits while helping to reduce tax fraud.   

In order for a micro captive to qualify under the 831(b) tax code, the plan must meet the 2015 Path Act criteria as well as IRS safe harbor rules. As previously mentioned, a micro captive is limited to annual premium amounts as determined by the PATH Act and certain responsibilities for the business owner operating the plan.  

The 2015 PATH Act increased the 831(b) annual premium limit from $1.2 million to $2.2 million and further indexed the amount for inflation. In addition to premium increases, the PATH act also provided specific language preventing micro captives from being used to avoid estate tax planning by requiring a plan to essentially, mirror the ownership of the participating companies. Diversification requirements were added by Congress as anti-abuse measures to address estate and gift tax evasion.  In short, no one policyholder may pay more than 20 percent of the diversification pool of a micro captive’s annual net written premiums (or, if greater, direct written premiums). There is an alternative requirement which is an ownership-based test. Under the ownership test, the direct or indirect ownership of a section 831(b) company by “specified holders” must not be greater than (by more than 2 percent de minimis margin) the ownership of the business or assets being insured. 

A “Specified Holder” is any individual who holds (directly or indirectly) an interest in such insurance company and who is a lineal descendant (including by adoption) of an individual who holds an interest (directly or indirectly) in the specified assets with respect to such insurance company or their spouses. 

The annual premium limit is adjusted annually as provided by the PATH Act. 

What These Cases Mean for Businesses 

These rulings show that courts do not reject micro captives outright. Instead, they distinguish between: 

  • Captives are designed and operated to insure real business risk; vs. 
  • Arrangements primarily constructed for tax benefits without meeting insurance standards