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The NRRA's Effect on Captives—What We Know

Donald Riggin | May 1, 2012

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The Nonadmitted Reinsurance Reform Act (NRRA) of 2010 is a part of the Dodd-Frank Wall Street Reform and Consumer Protection Act. Specifically, the NRRA deals with how surplus lines taxes on nonadmitted insurance premiums are levied. Prior to the Act, states would tax that portion of any surplus lines premium paid to cover loss exposures in that particular state. The Act eliminates this distribution scheme in favor of one that only allows the insured's "home state" to collect the tax.

As for captives, there was a significant amount of consternation and debate over the notion that the Act applies to captives. Last year, the Vermont Captive Insurance Association sponsored a white paper that attempted to explain the differences between captives and traditional surplus lines insurers, and that the Act's sponsors did not have captives in mind when drafting the language. Since the white paper's publication, industry commentators continue to voice the opinion that it doesn't matter what the Act intended to cover; it raises the states' awareness of these taxes, which also happen to include self-procurement taxes, which do apply to captives, if the state were to enforce the collection.

Which Captives Are Affected

Not every captive is a potential target for surplus lines or self-procurement taxes. It depends on whether the captive is fronted, meaning that it acts as a reinsurer to the fronting insurer or is a direct-writing captive. There are three categories of captive exposure to surplus lines and/or self-procurement taxes:

  • Captives that are fronted by admitted insurers are off the hook; neither surplus lines nor self-procurement taxes apply.
  • Captives fronted by surplus lines insurers indirectly pay surplus lines taxes, which are part of the front's expenses; self-procurement taxes are not applicable.
  • U.S.-domiciled nonfronted captives that transact insurance business directly with their parent companies are at risk of paying surplus lines and/or self-procurement taxes.

State Response

The major problem is the fact that these taxes are the province of the states, not the federal government. As such, each state is free to interpret the NRRA as it will, regardless of how other states do so. Two extreme examples illustrate this point. New York now taxes 100 percent of eligible captive premiums, but Ohio specifically excludes captives.

Captive experts are divided relative to how the states should act. Some think that the issue should be raised and explained away and request a specific exclusion for captives in each state, such as Ohio. Others warn against this strategy as it would alert the states of revenue opportunities that heretofore were unenforced or neglected. As it unfolds, we'll keep you informed.

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