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Deductibility of premiums to foreign affiliate reviewed.

In Malone & Hyde, Inc. v. Commisioner, the Tax Court again considered the issue of the deductibility of premiums paid to a wholly-owned foreign insurance affiliate. Eastland Insurance Ltd., a Bermuda-based insurance corporation, was a wholly-owned subsidiary of Malone & Hyde, a wholesale food distributor. Eastland reinsured the risks of Malone & Hyde and its subsidiaries. Malone & Hyde's primary insurer was Northwestern National Insurance Co. The level of case reserves on Eastland's books were determined by General Adjustment Bureau. GAB also determined reserves for reported, uncontested workers' compensation claims. Eastland claimed a deduction for each increase in the case reserve while recognizing income for each decrease.

The service disallowed as a deduction for premium the portions of Malone & Hyde's payments to Northwestern that were paid by Northwestern to Eastland as reinsurance premiums during fiscal years 1979 and 1980. The Tax Court held that premium payments which were paid as reinsurance payments to Eastland were not deductible because no requisite risk transfer and risk distribution occurred based on Helvering v. Le Gierse, 312 U.S. 531, 539 (1941). Two relevant issues were, however, noted by the court in view of two recent decisions.

First, the court noted that the situation differed from Humana, Inc. v. Commissioner, 88 T.C. 197 (1987), aff'd on the parent- subsidiary issue, 881, F2d 247 (6th Cir. 1989). It was held that premiums charged back to affiliates of the insurer by the common parent were indeed deductible. In the present case, the Malone & Hyde subsidiaries did not pay premiums for their risks and Malone & Hyde did not charge back any part of the premium to those subsidiaries. Accordingly, the court held that the position taken by the Sixth Circuit in Humana, that premiums charged back to the Humana subsidiaries were deductible, is not applicable. Second, the taxpayer argued that the court should extend the dictum in Gulf Oil Corp. v. Commissioner, 89 T.C. 1010 (1987), on the grounds that for subsequent years (not being considered by the court), Eastland insured and reinsured risks of Malone & Hyde's customers (independent retail grocery store owners), and to a small extent, wholly unrelated third parties. The court declined to find risk distribution and, therefore, deductibility in Gulf because unrelated risks only accounted for 2 percent of the gross premium in that case in the years being considered by the court. In the present case, the court also refused to find the necessary elements for deductibility where no amount of the premium was from unrelated parties for the years before the court.

ERISA Trust Ruling

In Southtrust Bank of Alabama v. Alabama Life & Disability Insurance Guaranty Association, Southtrust, the trustee of five ERISA trusts providing medical, hospital and disability benefits to five groups, brought an action to compel Alabama's guaranty fund, to provide benefits to the trusts which had purchased insurance from National Union Life Insurance Company. National Union was in receivership and unable to fulfill its obligations to the trusts. The guaranty fund refused to assume the obligations of National Union regarding the trusts. Southtrust argued that the contracts issued by National Union to the trusts are covered policies of disability insurance the guaranty fund should cover. The fund argued that the contracts issued by National Union were not "direct contracts of disability insurance" which would be covered by the fund.

The Alabama court held that the contracts between National Union and the trusts could be considered as reinsurance under state law whether or not the contracts authorized direct action by beneficiaries of the trusts against National Union. Accordingly, the court ruled that the fund had no responsibility to the trusts.
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Title Annotation:insurance companies
Author:Wright, P. Bruce
Publication:Risk Management
Article Type:column
Date:Feb 1, 1990
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