The U.S. Court of Federal Claims has denied a taxpayer’s motion for summary judgment in a microcaptive insurance case, finding genuine disputes of material fact as to whether the arrangement was a sham and properly transferred and distributed risk. (Capstone Associated Services, Ltd. v. The United States, 2026 WL 2919108, 9/25/2026)
Controlling legal test
Capstone Associated Services, Ltd. deducted $239,773 in premiums paid in 2016 to two captive insurers, FinServ Casualty Corporation and PoolRe Insurance Corporation. The IRS disallowed the deductions, arguing the payments did not constitute insurance premiums.
The IRS argued that the Claims Court should use the four-part insurance test commonly used by the U.S. Tax Court. However, the Claims Court held that binding precedent required it to use the three-part test from the U.S. Court of Appeals for the Federal Circuit’s decision in Ocean Drilling & Exploration Co. v. United States. Under that test, based on the totality of the circumstances, the captive insurer must not be a sham, the arrangement must transfer risk, and the insurer must distribute risk. The court noted this test was based on the Supreme Court’s decisions in Helvering v. Le Gierse (1941) and Moline Properties v. Commissioner of Internal Revenue (1943).
Factual disputes preclude finding insurers were not shams
The court found that Capstone failed to prove as a matter of law that FinServ and PoolRe were legitimate, separate insurance companies rather than shams. Numerous factual disputes, the court said, prevented it from granting summary judgment.
For FinServ, the court found genuine disputes regarding:
- Premium payments. The government presented evidence challenging whether Capstone actually paid the premiums it claimed and questioning the post-litigation-created documents used to allocate aggregate payments among related entities.
- Claims processing. Evidence suggested that in practice, FinServ’s claims handling, which was performed by Capstone staff, deviated from its formal policies and lacked sufficient verification of claims before payment.
- Investments. FinServ’s investments consisted of loans to its owners and other affiliated businesses, which the court noted could be evidence of self-dealing that supports finding the transaction a sham, rather than legitimate business activity.
For PoolRe, the court also identified several material factual disputes:
- Premium calculation. The government argued there was a circular flow of funds, as premiums PoolRe received were nearly identical to the premiums it ceded to a risk pool. Evidence also suggested that coverage options were designed to achieve a desired percentage of ceded premiums rather than to reflect market rates.
- Actual risk. PoolRe’s liability was explicitly limited to funds collected from the risk pool participants, and evidence of its claims history was conflicting. This created a dispute as to whether PoolRe faced a real likelihood of having to pay claims.
- Independence. Although formally owned by a third party, PoolRe had deep operational and financial ties to Capstone. It was described as a “wholly owned subsidiary of Capstone” in a conflict-of-interest policy, and its owner had pledged all his stock as collateral for a loan from FinServ, an affiliate of Capstone.
Issues of fact exist for risk transfer, distribution
The court also found that genuine disputes of material fact precluded a summary judgment finding under the second and third prongs of the Ocean Drilling test.
On risk transfer, the court found that the same facts calling into question whether PoolRe faced actual risk of loss also created a dispute about whether risk was truly shifted away from Capstone and its primary captive, FinServ.
On risk distribution, the court found a factual dispute over whether the risks insured by FinServ were truly independent and random. The court noted that many of the insured entities were located in the same office building and shared employees, meaning a single event could affect multiple policyholders at once. This fact, the court reasoned, could lead a factfinder to conclude that the risks were not sufficiently spread.
For more information on captive insurance arrangements, see Checkpoint’s Federal Tax Coordinator 2d ¶ L-3515.
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