The IRS has issued proposed regs that identify transactions that are the same as, or substantially similar to, certain micro-captive transactions as listed transactions, a type of reportable transaction, and certain other micro-captive transactions as “transactions of interest,” another type of reportable transaction. Material advisors and certain participants in these listed transactions and transactions of interest are required to file disclosures with the IRS and are subject to penalties for failure to disclose. (Preamble to Prop Reg REG-109309-22: Micro-captive Listed Transactions and Micro-captive Transactions of Interest; IR 2023-74; Ann 2023-11, 2023-17 IRB)
Notice 2016-66, 2016-47 IRB 745, identified certain micro-captive transactions as transactions of interest. Examinations of taxpayers and promoters and information received through disclosures filed in response to Notice 2016-66 have clarified the IRS’ understanding of micro-captive transactions, including the scope of participation. Based on such information, the IRS has determined that certain changes to the micro-captive transaction identified in Notice 2016-66 are appropriate for the proposed regs. The transactions described in Prop Reg §1.6011-10 and Prop Reg §1.6011-11 share common features with the micro-captive transactions described in Notice 2016-66, but with modifications to the scope of the 20% relationship factor and the factors used to distinguish between listed transactions, transactions of interest, and transactions that are not reportable transactions under the proposed regulations.
The proposed regs contain two general definitions of a listed transaction. One is a “transaction [that] involves a Captive that, at any time during the Financing Computation Period, directly or indirectly made available as financing or otherwise conveyed or agreed to make available or convey to a Recipient, in a transaction that did not result in taxable income or gain to the Recipient, any portion of the payments under the Contract, such as through a guarantee, a loan, or other transfer of Captive’s capital, or made such financings or conveyances prior to the Financing Computation Period that remain outstanding or in effect at any point in the taxable year for which disclosure is required. Any amounts that a Captive made available as financing or otherwise conveyed or agreed to make available or convey to a Recipient are presumed to be portions of the payments under the Contract to the extent such amounts when made available or conveyed are in excess of Captive’s cumulative after-tax net investment earnings minus any outstanding financings or conveyances.” (Prop Reg §1.6011-10(c)(1))
The other is a “transaction [that] involves a Captive for which the amount of liabilities incurred for insured losses and claim administration expenses during the Loss Ratio Computation Period is less than 65% of the amount equal to premiums earned by Captive during the Loss Ratio Computation Period less policyholder dividends paid by Captive during the Loss Ratio Computation Period.” (Prop Reg §1.6011-10(c)(2))
Recent court decisions have held that the IRS’ longstanding practice of issuing notices to identify listed transactions and transactions of interest does not comply with the Administrative Procedure Act (APA), 5 USC 551 through 5 USC 559. See, e.g., Mann Construction, (CA 6 2022) 29 AFTR 2d 2022-885; CIC Services, (DC TN 2022) 129 AFTR 2d 2022-1983; Green Valley Investors, LLC, (2022) 159 T.C. No. 5 (2022).
In an announcement, the IRS says it disagrees with the recent court decisions holding that listed transactions cannot be identified by notice or other subregulatory guidance. However, it will no longer take the position that transactions of interest can be identified without complying with APA notice-and-comment procedures. Accordingly, the IRS is obsoleting Notice 2016-66 (as modified by Notice 2017-8) and will not enforce the disclosure requirements or penalties that are dependent upon the procedural validity of Notice 2016-66.
The IRS says it will continue to take the position that listed transactions can be identified by notice or other subregulatory guidance. As stated in Announcement 2022-28, 2022-52 IRB 659, the IRS will continue to defend existing listing notices in cases in which Mann Construction is not controlling precedent.
The IRS intends to finalize the proposed regs in 2023 and intends to issue proposed regs identifying additional listed transactions in the near future.
For more information on micro-captive transactions as transactions of interest, see Checkpoint’s Federal Tax Coordinator ¶S-4445.6.
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