Preamble to Prop Reg REG-103163-18; Prop Reg §1.846-1
IRS has issued proposed regs under Code Sec. 846, the Code section that provides discounting rules that are used for various calculations for insurance companies. The proposed regs would principally implement changes made by the Tax Cuts and Jobs Act (the TCJA; PL 115-97, 12/22/2017).
Background. The discounting rules of Code Sec. 846, both prior to and after amendment by the TCJA, are used to determine discounted unpaid losses and estimated salvage recoverable of property and casualty insurance companies and discounted unearned premiums of title insurance companies for Federal income tax purposes under Code Sec. 832, as well as discounted unpaid losses of life insurance companies for Federal income tax purposes under Code Sec. 805(a)(1) and Code Sec. 807(c)(2).
Section 13523(a) of the TCJA amended Code Sec. 846(c) to provide a new definition of the “annual rate” to be used by taxpayers for discounting purposes.
The “applicable interest rate” used to determine the discount factors associated with any accident year and line of business is the “annual rate” determined under Code Sec. 846(c)(2).
Before amendment by section 13523(a) of the TCJA, former Code Sec. 846(c)(2) provided that the annual rate for any calendar year was based on an average of the applicable Federal mid-term rates (as defined in Code Sec. 1274(d)). As amended by section 13523(a) of the TCJA, Code Sec. 846(c)(2) provides that the annual rate for any calendar year will be determined by IRS based on the corporate bond yield curve (as defined in Code Sec. 430(h)(2)(D)(i)).
Section 13523(b) of the TCJA amended the computational rules for determining loss payment patterns under Code Sec. 846(d).
Code Sec. 846(a)(1) provides that the amount of discounted unpaid losses as of the end of any tax year is the sum of the discounted unpaid losses, as of such time, separately computed with respect to unpaid losses in each line of business for each accident year. The amount of discounted unpaid losses in a line of business that is attributable to a specified accident year is calculated by multiplying that accident year’s undiscounted unpaid losses at the end of each tax year by a published discount factor associated with that line of business, accident year, and tax year. These discount factors are derived using the applicable loss payment pattern, determined under Code Sec. 846(d) using aggregate industry loss payment data, and the applicable interest rate determined by IRS under Code Sec. 846(c).
Section 13523(c) of the TCJA repealed the election under former Code Sec. 846(e) to use the taxpayer’s own historical loss payment pattern instead of the pattern published by IRS.
The TCJA changes are effective for tax years beginning after Dec. 31, 2017.
Prop regs would implement TCJA changes. The proposed regs would implement the abovementioned TCJA changes in the law.
...Modification of the applicable rate of interest used to discount unpaid losses. Prop Reg § 1.846-1(c) would provide that the applicable interest rate is the annual rate determined by IRS for any calendar year on the basis of the corporate bond yield curve (as defined in Code Sec. 430(h)(2)(D)(i), determined by substituting “60-month period” for “24-month period” therein). The annual rate for any calendar year is the average of the corporate bond yield curve’s monthly spot rates with times to maturity of not more than 17.5 years, computed using the most recent 60-month period ending before the beginning of the calendar year for which the determination is made.
Consistent with the text of Code Sec. 846, as amended by the TCJA, and the statutory structure as a whole, the proposed regs would provide for the use of a single annual rate applicable to all lines of business as was the case under Code Sec. 846 prior to amendment by the TCJA. The change from using the average of the applicable Federal mid-term rates to the averaged corporate bond yield curve, however, indicates that the annual rate would be determined in a manner that more closely matches the investments in bonds used to fund the undiscounted losses to be incurred in the future by insurance companies.
…Smoothing adjustments regarding loss payment pattern. Prop Reg § 1.846-1(d)(2) provides that IRS may, if necessary to avoid negative payment amounts and otherwise produce a stable pattern of positive discount factors less than one, adjust the loss payment pattern for any line of business using a methodology described by IRS in other published guidance.
Prop regs would remove parts of existing regs. Both as a result of the TCJA and for other reasons, the proposed regs would remove parts of existing final regs. For example, the proposed regs would remove Reg. § 1.846-1(a)(2)because the examples are no longer relevant. And, to reflect Section 13523(c), the proposed regs would remove Reg. §1.846-2.