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April 19, 2023

Proposed rules on micro-captive transactions identify listed transactions and a transaction of interest, while accompanying Announcement obsoletes Notice 2016-66

  • Proposed rules identify micro-captive transactions that would be considered listed transactions and transactions of interest.
  • These rules would only apply to small insurance companies that have elected to be taxed only on net investment income.
  • The proposed rules respond to a court decision invalidating Notice 2016-66, which identified micro-captive transactions as “transactions of interest” under Treas. Reg. Section 1.6011-4(b)(6) and penalized participants and material advisors of those transactions for failing to comply with information reporting requirements.
  • An Announcement accompanying the notice of proposed rulemaking obsoletes Notice 2016-66 and states that the IRS will not enforce the disclosure requirements or penalties that depend on the procedural validity of Notice 2016-66.
  • The proposed rules include two listed transactions and one transaction of interest, both of which carry information reporting requirements.

In proposed rules (REG-109309-22), the IRS identifies certain micro-captive transactions that would be treated as listed transactions or transactions of interest under Treas. Reg. Section 1.6011-4(b). Material advisors and certain participants in these listed transactions and transactions of interest will be required to file disclosures with the IRS or face penalties. Listed transactions are those that the IRS has determined to be abusive tax avoidance transactions within the meaning of Treas. Reg. Section 1.6011-4(b)(2). Transactions of interest are transactions that the IRS has determined have the potential for tax avoidance or evasion within the meaning of Treas. Reg. Section 1.6011-4(b)(6).

The proposed rules were accompanied by Announcement 2023-11, which obsoletes Notice 2016-66 and explains that the rules are being proposed "in light of certain court decisions holding that the [Administrative Procedures Act (APA)] requires the IRS to identify listed transactions through notice-and-comment rulemaking." The IRS intends to finalize these rules, after considering public comments, in 2023.

In response to recent court decisions,1 the IRS said it will not enforce disclosure requirements or penalties based on Notice 2016-66. The Treasury Department and IRS noted in the Preamble to the proposed rules that Notice 2016-66's obsolescence "has no effect on the merits of the tax benefits claimed from the transactions themselves and related litigation, or income tax examinations and promoter investigations relating to micro-captive transactions."

A public hearing by teleconference is scheduled for July 19, 2023; comments on the proposed regulations may be sent to the IRS through June 12, 2023. The IRS listed the issues on which it is requesting comments in the Preamble to the proposed rules.

The micro-captive transactions described in the proposed rules would be considered listed transactions or transactions of interest, as applicable, when the final regulations are published in the Federal Register.


Businesses can create "captive" insurance companies to insure against risks. The insured business pays premiums to a "captive" insurance company (i.e., one owned by the insured or related parties) for insurance policies and deducts those premiums. A traditional captive insurance company's taxable income includes its earned premiums, losses and expenses (i.e., net underwriting income) from its insurance and reinsurance business, in addition to its net investment income. A small captive insurance company (i.e., one that meets the standards set forth in IRC Section 831(b)(2)) may elect to be taxed only on its net investment income and exclude its net underwriting income from its calculation of taxable income. Notice 2016-66 defined these electing companies as micro-captives.

Concerned that micro-captive insurance transactions could be used for tax avoidance, the IRS identified in Notice 2016-66 certain transactions with micro-captives as "transactions of interest." Taxpayers (and their material advisors) participating in transactions on or after November 2, 2006, had to disclose the transactions as outlined in Treas. Reg. Section 1.6011-4 or incur penalties.

Notice 2016-66

In Notice 2016-66, the IRS described the following micro-captive transaction as a transaction of interest:

  • A company that the parties treat as an insurance company (Captive) elects to exclude net underwriting income from its computation of taxable income under IRC Section 831(b)
  • The insured entity (Insured) or its owners or related persons own at least 20% of the voting power or outstanding stock
  • One or both of following apply:
    • During the Notice Computation Period, (the Captive's most recent five tax years or, if Captive existed for less than five tax years, the entire period of Captive's existence) Captive used a portion of its premiums to provide financing, directly or indirectly, to certain related persons through a guarantee, loan, or other transfer of its capital (financing factor) and these transactions did not result in taxable income or gain to the recipients
    • Captive's liabilities for insured losses and claim administration expenses during the Notice Computation Period is less than 70% of premiums earned during that period, reduced by policyholder dividends paid during that period (70% loss ratio factor)

The proposed rules

Unlike Notice 2016-66, the proposed rules create two categories of micro-captive transactions: listed transactions and transactions of interest. In the Preamble, the IRS explains that that the proposed rules were informed by (1) its experience examining and litigating micro-captive cases, (2) the information provided by taxpayers and material advisors under the Notice and the comments responding to the Notice, and (3) statistical information about loss ratios in the property and casualty insurance industry, which is published by the National Association of Insurance Commissioners (NAIC).

For purposes of the proposed rules, the IRS defines a Captive as any entity that (1) elects under IRC Section 831(b) to exclude premiums from taxable income, (2) issues a contract to an Insured and/or reinsures an Intermediary's contract for an Insured; and (3) has at least 20% of its assets, or the voting power or value of its outstanding stock or equity interests, directly or indirectly owned, individually or collectively, by an Insured, owner, or related persons.

For purposes of determining whether an Insured owns at least 20% of the assets, directly or indirectly, the proposed rules would (a) treat a person that holds a derivative as indirectly owning the assets referenced by the derivative, and (b) determine each beneficiary's interest in a trust's or estate's assets by assuming the fiduciary exercised maximum discretion in the beneficiary's favor and maximized use of the trust's or estate's interest in the company to satisfy the beneficiary's interests.

Listed transactions

The proposed rules would consider either (or both) of the following two transactions with a Captive (or substantially similar transactions) to be listed transactions:

  • Transactions that include a financing factor
  • Transactions in which the Captive's loss ratio factor is less than 65% for a computation period consisting of the Captive's 10 most recent tax years

The proposed rules would reduce the loss ratio from the "less than 70%" loss ratio used in Notice 2016-66 to a loss ratio of "less than 65%" and expand the Loss Ratio Computation Period from the Captive's five most recent tax years to the 10 most recent tax years.

More specifically, a listed transaction includes a transaction that is the same as, or substantially similar to, the following if it has one or both of the following features:

  • During the Financing Computation Period, a Captive directly or indirectly financed or conveyed (or agreed to finance or convey) a guarantee, loan or other transfer of the Captive's capital to a Recipient using payments under the Contract and the transaction did not result in taxable income or gain to the Recipient or, before the Financing Computation Period, the Captive made such financings or conveyances, and the financing remains outstanding or in effect at any point in the tax year for which disclosure is required
  • A Captive's liabilities for insured losses and claim administration expenses during the Loss Ratio Computation Period is less than 65% of the premiums earned, reduced by policyholder dividends paid, during the same period

The Financing Computation Period consists of the Captive's five most recent tax years, or all tax years, if the Captive has operated for less than five tax years. The Loss Ratio Computation Period consists of the Captive's 10 most recent tax years.

The definition of a listed transaction would exclude a transaction that would otherwise be characterized as a listed transaction, if a Captive (1) provides insurance for certain kinds of employee compensation arrangements, or (2) is a Seller's Captive. The proposed regulations define a Seller's Captive as a Captive owned by a Seller, a Seller's owner, or individuals or entities related to the Seller or owners of its Captive; a Seller is a service provider, automobile dealer, lender, or retailer that sells products or services to unrelated customers who purchase insurance contracts for those products or services.

Transaction of interest

The proposed rules would treat a transaction with a Captive that has a loss ratio of less than 65%, but has existed for fewer than 10 tax years, as a transaction of interest if it does not include a financing factor (in which case the transaction with the Captive would still be characterized as a listed transaction).

Proposed reporting requirements

The proposed rules would generally require reporting from the Captive, the Insured, and the material advisors to the transaction. According to the Preamble, the proposed rules would require significantly less reporting than Notice 2016-66. For example, the proposed regulations would not require Captive participants to (1) identify how the proposed regulations apply, (2) state the authority under which the Captive is chartered, (3) describe how premiums were determined, (4) list the reserves reported by Captive on its annual statement, or (5) describe the assets held by Captive.

The proposed regulations would, however, require a Captive to identify (1) the types of policies issued or reinsured, (2) the premiums written, (3) the name and contact information of actuaries and underwriters involved, and (4) the total claims paid by Captive. In addition, the Captive would have to identify the name and percentage of interest held directly or indirectly by each person whose interest reaches the 20% threshold. Also, each Insured would have to disclose the insurance premiums paid for coverage provided to Insured, directly or indirectly, by the Captive.


Because the market is familiar with Notice 2016-66, the proposed rules could be viewed as relieving the information-reporting burden and slightly reducing the number of Captives subject to the reporting requirements. These reductions would result from the adjustment of the loss ratio, the extension of the Loss Ratio Computation Period and the exclusion of a transaction with a Seller's Captives from being treated as a listed transaction.

The proposed rules specifically identify a transaction with a Captive that insures the risks of Unrelated Customers (i.e., third-party risk) as excluded from being treated as a listed transaction or a transaction of interest, which further expands on the discussion on this topic in the now-obsolete Notice 2016-66. This can be seen as a welcome clarification for companies that previously filed Form 8886 on a protective basis to avoid potential noncompliance challenges.

Nevertheless, the introduction of a 10-year Loss Ratio Computation period may create an undue administrative burden on taxpayers. Additionally, while a cumulative 10-year loss ratio of 65% may, upon first impression, seem significantly low, some commonly accepted insurable risks may not occur even once every 10 years. Examples of such coverage extend beyond the frequently-cited terrorism insurance and may include cyber, non-damage business interruption, or catastrophic layers of coverage placed into Captives for almost any line of business. Accordingly, under the proposed rules, a contract could be treated as an insurance contract under regulatory, accounting and actuarial guidelines but still be viewed, for federal tax purposes, as issued in an abusive transaction, triggering the responsibility to report as a listed transaction or a transaction of interest.

While representing a generally welcome step from the IRS in the spirit of addressing the questions and concerns raised by the now-obsolete Notice 2016-66, the proposed regulations also leave certain areas unclear. This lack of clarity present challenges for the captive insurance market, which continues to grow and respond to overall market conditions for insurance and the demand-versus-supply of adequate insurance coverage for certain risks.


Contact Information
For additional information concerning this Alert, please contact:
Financial Services Office – Tax Controversy
   • Maureen Nelson (
Americas Captive Insurance Services
   • Mikhail Raybshteyn (
   • Paul H. Phillips III (

Published by NTD’s Tax Technical Knowledge Services group; Andrea Ben-Yosef, legal editor


1 See CIC Services v. IRS (No. 3:17-cv-00110 (E.D. Tenn. March 21, 2022)), in which the U.S. District Court for the Eastern District of Tennessee (district court) held that Notice 2016-66 was invalid because the IRS did not comply with the notice-and-comment procedures under the APA before issuing Notice 2016-66 and separately found that the IRS acted arbitrarily and capriciously in issuing the notice (see Tax Alert 2022--0504). The district court based its ruling on the Sixth Circuit's decision in Mann Construction, et al. v. US (No. 21-1500 (6th Cir. March 3, 2022)), holding that Notice 2007-83, which identifies a certain type of employee benefit plan that participants must disclose as a "listed transaction," may not be enforced because the IRS failed to satisfy the APA's notice-and-comment procedures. In Announcement 2023-11, the IRS indicated that it plans to defend its position that listed transactions may be identified by notice or other sub regulatory guidance in judicial circuits for which Mann Construction is not controlling precedent.