Did you know that Insurers Play State Insurance Regulators? Here’s what you need to know about Life Insurance Companies and Big Tax Breaks.
When you think of a life insurance company, you expect it to be conservative, even old-fashioned, but definitely doing nothing too edgy. The most important thing for a life insurance company should be to have sufficient money on hand (called reserves in the insurance world) to pay even an unusually high year of policy benefit payouts. The security of a life insurance policy comes in large part from expecting the company to be solid, and there to help, if, unfortunately, your loved one passes away. The life insurance companies know this; that is why most of their advertising is about their long time in business, how they care about you and your family, and how they will be there when you need them. They spend more than a billion dollars annually just on domestic advertising (including all forms) to get you to believe this.
But the reality is that the insurance companies are playing the state regulators off against each other, trying to see which will permit the companies to retain really low reserves? Even more, when one of these companies releases their reserves, going from a high to low reserve, that money is usually taxed – which is fair.
The company is moving money from being held by the company, to being paid by the company, to its executives and stockholders. For an example of Life Insurance Companies and Big Tax Breaks, Transamerica life insurance used this technique to move $1.8 billion off its books recently.
The life insurance company’s game plan is simple: move big money out of the safe reserves, into the company’s general revenues, available for payment of executive bonuses and increased salaries.
Usually, the money would be counted as income for the company when it moves out of reserves, which is to be paid to executives – but, state insurance regulators report the reserve levels as unchanged. Federal law states that reductions in reserves are treated as taxable income, but because the complex plan on paper appears that the reserves have remained the same, the insurers do not pay any federal tax. The maneuvers are sometimes known as “shadow insurance.” The financial regulator in New York, Benjamin Lawsky, has been calling some these transactions “financial alchemy” because they seem to make money appear out of nowhere.
These transactions are modeled after reinsurance, a business in which an insurer pays another company to take over some of the obligations to pay claims. Reinsurance is widely used and is considered beneficial, because it allows insurers to spread their risks evenly and remain stable as they grow. The obligations fall off the original insurer’s books because the reinsurer has picked them up.
In the “shadow version” life insurance companies created wholly owned subsidiaries, sometimes called captives, which they use as a reinsurance company, to move their obligation to the subsidiary. So, then the parent insurance company removes the obligations off their books, even though the “reinsurance companies” here are really just part of the insurance company. Those “shadow companies” are not really separate companies.
Iowa, at this time, appears to have the state of the art statutes and regulations, which permit this shadow insurance. This has helped encourage more life insurance companies to move to Iowa – and, as an added benefit, reserves are tax-deductible as an ordinary business expense. So, thanks to the regulations being influenced by the life insurance companies, they get to keep their large tax-deduction, avoid paying taxes on the money moved out of reserves, and don’t have to increase their reserves. It really does make a difference who you know.
While this is complex, and your concern about your life insurance policy may be much different, this shows an important lesson: The insurance companies will use complex regulations to try to give themselves every advantage, even when their action makes no independent business sense.
Because a life insurance company can be only concerned with their own profits, you need an experienced life insurance lawyer now to help get your policy paid.