U.S. Tax Update

1. U.S. Tax Update “He said, She said”

2. Speakers • Richard E. Irvine, Partner, PricewaterhouseCoopers Bermuda • P. Bruce Wright, Partner, Dewey LeBoeuf LLP New York

3. U.S. Tax Update Agenda • TECHNICAL DEVELOPMENTS • PROPOSED CELL REGULATIONS • DODD FRANK – PREMIUM TAX CHANGES • IRS NOTICE 2011-2 • “HE SAID, SHE SAID” • MEDICAL STOP LOSS • LOANBACKS • ECONOMIC SUBSTANCE

4. PROPOSED CELL REGS GENERAL RULES REGS EXPLICITLY STATE THEY DO NOT ADDRESS THE PROPER TAX CHARACTERIZATION OR FILING REQUIREMENTS OF THE CORE IF A CELL IS CLASSIFIED AS A SEPARATE CORPORATE ENTITY, THEN IT WILL BE TREATED LIKE ANY OTHER CORPORATION, INCLUDING THE ABILITY TO MAKE STAND ALONE TAX ELECTIONS REGS WILL NOT OVERRIDE GENERAL TAX LAW PRINCIPLES – FOR EXAMPLE, IF A CELL HAS NO BUSINESS PURPOSE OTHER THAN TAX AVOIDANCE, IT STILL WILL BE DISREGARDED AS A “SHAM” Proposed Cell Regulations

5. PROPOSED CELL REGS GENERAL RULES REGS INDICATE THAT OWNERSHIP OF A CELL WILL BE DETERMINED TO BE WHOMEVER “BEARS THE ECONOMIC BURDENS AND BENEFITS OF OWNERSHIP” OF THE CELL SHARES VERSUS CONTRACT RIGHT EFFECTIVE DATE – ISSUANCE OF FINAL REGULATIONS IMMEDIATE IMPACT POSSIBLITY OVERRIDES WITH NOTICE 2008-19 1 YEAR GRACE PERIOD Proposed Cell Regulations

6. Proposed Cell Regulations DOMESTIC CELL CAPTIVES EVERY CELL WILL BE TREATED AS A SEPARATE TAXPAYER, EXCEPT FOR SEGREGATED ASSET ACCOUNTS OF A LIFE INSURANCE COMPANY THE FACT THAT STATE LAW DOES NOT CONSIDER THE CELL TO BE A SEPARATE ENTITY IS NOT IMPORTANT REGS CITE VERMONT AND SOUTH CAROLINA CELL CAPTIVE PROVISIONS, BUT THIS SAME RULE SHOULD APPLY TO CELL CAPTIVES FORMED IN ALL OTHER DOMESTIC DOMICILES WITH SIMILAR LAWS, INCLUDING THE DISTRICT OF COLUMBIA

7. Proposed Cell Regulations DOMESTIC CELL CAPTIVES THE CELL'S SEPARATE ENTITY STATUS WILL BE RESPECTED EVEN IF THE CELL FAILS TO COMPLY WITH STATUTORY RECORD KEEPING REQUIREMENTS NEGATING THE LIMITATION OF LIABILITY THE CELL'S SEPARATE ENTITY STATUS WILL BE RESPECTED EVEN IF, THROUGH AN ARRANGEMENT SUCH AS GUARANTEES, THE DEBTS AND LIABILITIES OF A CELL ARE ENFORCEABLE AGAINST ASSETS OF ANOTHER CELL

8. PROPOSED CELL REGS FOREIGN CELL CAPTIVES REGS STATE THEY DO NOT ADDRESS THE PROPER TAX CHARACTERIZATION OR FILING REQUIREMENTS OF A FOREIGN CELL COMPANY OR ITS CELLS BUT AN IMPORTANT EXCEPTION EXISTS FOR A FOREIGN CELL THAT CONDUCTS AN INSURANCE BUSINESS IF THE FOREIGN CELL’S BUSINESS WOULD QUALIFY IT AS AN INSURANCE COMPANY FOR FEDERAL TAX PURPOSES HAD IT BEEN A DOMESTIC ENTITY, THEN IT WILL BE A STAND ALONE FOREIGN CORPORATION MORE THAN HALF OF THE BUSINESS OF THE CELL IS INSURANCE REGS CITE GUERNSEY, CAYMAN AND BERMUDA CELL CAPTIVE PROVISIONS, BUT THE SAME RULE SHOULD APPLY TO OTHER OFFSHORE DOMICILES WITH SIMILAR LAWS Proposed Cell Regulations

9. PROPOSED CELL REGS EXAMPLE – FOREIGN INSURANCE CELL ASSUME FOREIGN CELLCO ESTABLISHES CELL A FOR A U.S. TAXPAYER ASSUME MORE THAN HALF OF CELL A'S BUSINESS IS ISSUING INSURANCE OR REINSURANCE CONTRACTS UNDER THE REGS, CELL A WILL BE TREATED AS A SEPARATE TAXPAYER BECAUSE CELL A QUALIFIES AS AN INSURANCE COMPANY, IT WILL BE CLASSIFIED AS A FOREIGN CORPORATION Proposed Cell Regulations

10. PROPOSED CELL REGS EXAMPLE – FOREIGN INSURANCE CELL CELL A’S U.S. OWNER MAY HAVE TO REPORT SUBPART F INCOME – INSURANCE INCOME USING INSURANCE TAX ACCOUNTING BECAUSE U.S. OWNER BEARS THE BURDENS & BENEFITS OF CELL OWNERSHIP SUBPART F APPLIES TO A CONTROLLED FOREIGN CORPORATION (“CFC”) GENERAL CFC – U.S. SHAREHOLDER DEFINITION U.S. SHAREHOLDER = ≥10% VOTING SHARES, OR RELATED PERSON INSURANCE INCOME (“RPII CFC”) – U.S. SHAREHOLDER DEFINTION = “ANY” SHARES Proposed Cell Regulations

11. PROPOSED CELL REGS EXAMPLE – FOREIGN INSURANCE CELL CELL A ALSO WILL BE ELIGIBLE TO MAKE TAX ELECTIONS, INCLUDINGUNDER IRC §953(D) AND §831(B), ON A STAND ALONE BASIS Proposed Cell Regulations

12. PROPOSED CELL REGS EXAMPLE – FOREIGN NON-INSURANCE CELL ASSUME FOREIGN CELLCO ESTABLISHES CELL B FOR A U.S. TAXPAYER ASSUME LESS THAN HALF OF CELL B'S BUSINESS IS ISSUING INSURANCE OR REINSURANCE CONTRACTS REGS STATE THAT THEY DON’T ADDRESS CELL B’S TAX STATUS DUE TO THE "NOVEL FEDERAL INCOME TAX ISSUES" RAISED SO PRESUMABLY CELL B, IF ASSOCIATED WITH A NON-CFC CELL CAPTIVE, OWNER OF CELL B WILL REPORT ONLY INVESTMENT INCOME WHEN REPATRIATED Proposed Cell Regulations

13. PROPOSED CELL REGS EXAMPLE – FOREIGN NON-INSURANCE CELL CELL B WILL NOT BE ELIGIBLE TO MAKE TAX ELECTIONS, INCLUDING UNDER IRC §953(D) AND §831(B), ON A STAND ALONE BASIS POSSIBLE PASSIVE FOREIGN INVESTMENT COMPANY ISSUES IF OTHER CELL’S WHICH HAVE CONDUCTED AN “INSURANCE BUSINESS” ARE NOT FACTORED IN DETERMINING THE STATUS OF CELL B, THEN CELL B COULD BE A PFIC Proposed Cell Regulations

14. PROPOSED CELL REGS TRANSITIONAL RULES CELLS (DOMESTIC OR FOREIGN) ESTABLISHED PRIOR TO SEPTEMBER 14, 2010 MAY BE ELIGIBLE TO BE TREATED, TOGETHER WITH THE CORE, AS A SINGLE ENTITY DOMESTIC CELLS ARE ELIGIBLE IF: THE CELL CONDUCTED BUSINESS OR INVESTMENT ACTIVITY NO OWNER OF A CELL TREATED THE CELL AS A SEPARATE ENTITY THE CELL AND THE CORE HAD A REASONABLE BASIS FOR ITS CLAIMED CLASSIFICATION Proposed Cell Regulations

15. PROPOSED CELL REGS TRANSITIONAL RULES DOMESTIC CELLS ARE ELIGIBLE IF: NEITHER THE CELL NOR ANY OWNER NOR THE CORE WAS NOTIFIED BEFORE SEPTEMBER 14, 2010 THAT THE CLASSIFICATION OF THE CELL WAS UNDER EXAMINATION THIS EXCEPTION CEASES TO APPLY IF THERE IS A CHANGE IN OWNERSHIP OF 50% OR MORE OF THE INTERESTS IN THE CORE (OR THE CELL) Proposed Cell Regulations

16. PROPOSED CELL REGS TRANSITIONAL RULES FOREIGN CELLS ARE ELIGIBLE IF: MORE THAN 50% OF THE BUSINESS OF THE CELL WAS INSURANCE BUSINESS THE CELL’S CLASSIFICATION WAS RELEVANT (GENERALLY, AFFECTS THE LIABILITY OF ANY PERSON FOR FEDERAL TAX OR INFORMATION PURPOSES) AND MORE THAN HALF OF ITS BUSINESS WAS INSURANCE BUSINESS NO OWNER OF THE CELL TREATED THE CELL AS A SEPARATE ENTITY THE CELL AND THE CORE HAD A REASONABLE BASIS FOR ITS CLAIMED CLASSIFICATION NEITHER THE CELL NOR ANY OWNER NOR THE CORE WAS NOTIFIED BEFORE SEPTEMBER 14, 2010 THAT THE CLASSIFICATION OF THE CELL WAS UNDER EXAMINATION Proposed Cell Regulations

17. PROPOSED CELL REGS TRANSITIONAL RULES THIS EXCEPTION CEASES TO APPLY IF THERE IS A CHANGE IN OWNERSHIP OF 50% OR MORE OF THE INTERESTS IN THE CORE (OR THE CELL) Proposed Cell Regulations

18. NEW CELL ANNUAL REPORTING REQUIREMENT EACH CELL COMPANY AND EACH CELL WITHIN IT WILL ANNUALLY FILE A STATEMENT WITH THE IRS CONTAINING IDENTIFYING INFORMATION "TO ENSURE THE PROPER ASSESSMENT AND COLLECTION OF TAX” THE STATEMENT WOULD BE A STAND-ALONE FILING DUE MARCH 15 OF EACH YEAR THE IRS SOUGHT TAXPAYER WRITTEN COMMENTS BY 12/13/10 ON THIS STATEMENT REQUIREMENT AND SEVERAL OTHER ISSUES, INCLUDING: WHETHER A CELL IS A SEPARATE ENTITY IF IT HAS NO ASSETS OR CONDUCTS NO ACTIVITIES WHETHER A SERIES WITH NO MEMBERS SHOULD STILL BE TREATED AS A SEPARATE ENTITY Proposed Cell Regulations • IRS STILL REQUESTING COMMENTS

19. POTENTIAL IMPACT EFFECT OF CONVERSION OF A CELL TO A “SEPARATE ENTITY” FOR U.S. TAX PURPOSES DEEMED LIQUIDATION/CONTRIBUTION TAX FREE SPIN OFF DEEMED NOVATION/FET CONSEQUENCES APPLICATION OF CFC/RPII CFC RULES TO EXISTING CELLS PREVIOUSLY UNREPORTED CELLS HELD BY U.S. PERSONS FORM 5471 APPLICATION OF PFIC RULES TO NON INSURANCE CELLS Proposed Cell Regulations

20. Premium tax • NON-ADMITED AND REINSURANCE REFORM ACT OF 2010 ("NRRA") • EFFECTIVE DATE JULY 21, 2011 • NO STATE OTHER THAN HOME STATE OF AN INSURED MAY REQUIRE ANY PREMIUM TAX PAYMENT FOR NON-ADMITTED INSURANCE. § 521 • NON-ADMITTED INSURANCE MEANS ANY PROPERTY AND CASUALTY INSURANCE PERMITTED TO BE PLACED DIRECTLY OR THOUGH A SURPLUS LINES BROKER WITH A NON-ADMITTED INSURER ELIGIBLE TO ACCEPT SUCH INSURANCE. § 527(9)

21. Premium Tax • NRRA – DEFINITIONS • PREMIUM TAX MEANS, WITH RESPECT TO SURPLUS LINES OR INDEPENDENTLY PROCURED INSURANCE COVERAGE, ANY TAX, FEE, ASSESSMENT, OR OTHER CHARGE IMPOSED BY A GOVERNMENT ENTITY DIRECTLY OR INDIRECTLY BASED ON ANY PAYMENT MADE AS CONSIDERATION FOR AN INSURANCE CONTRACT FOR SUCH INSURANCE, INCLUDING PREMIUM DEPOSITS, ASSESSMENTS, REGISTRATION FEES, AND ANY OTHER COMPENSATION GIVEN IN CONSIDERATION FOR A CONTRACT OF INSURANCE. § 527(12)

22. Premium Tax • NRRA – DEFINITIONS • INDEPENDENTLY PROCURED INSURANCE MEANS INSURANCE PROCURED DIRECTLY BY AN INSURED FROM A NON-ADMITTED INSURER. § 527(7)

23. Premium Tax • NRRA – DEFINITION OF HOME STATE • HOME STATE MEANS WITH RESPECT TO AN INSURED: • THE STATE IN WHICH AN INSURED MAINTAINS ITS PRINCIPAL PLACE OF BUSINESS OR, IN THE CASE OF AN INDIVIDUAL, THE INDIVIDUAL'S PRIMARY RESIDENCE; OR

24. Premium Tax • NRRA – DEFINITION OF HOME STATE • IF 100 PERCENT OF THE INSURED RISK IS LOCATED OUT OF THE STATE REFERRED TO IN CLAUSE (I), THE STATE TO WHICH THE GREATEST PERCENTAGE OF THE INSURED'S TAXABLE PREMIUM FOR THAT INSURANCE CONTRACT IS ALLOCATED, PROVIDED, HOWEVER, IF MORE THAN 1 INSURED FROM AN AFFILIATED GROUP ARE NAMED INSUREDS ON A SINGLE NON-ADMITTED INSURANCE CONTRACT, THE TERM "HOME STATE" MEANS THE HOME STATES, AS DETERMINED PURSUANT TO SUBPARAGRAPH (A), OF THE MEMBER OF THE AFFILIATED GROUP THAT HAS THE LARGEST PERCENTAGE OF PREMIUM ATTRIBUTED TO IT UNDER SUCH INSURANCE CONTRACT. § 527(6)

25. Premium Tax • ALLOCATION • A STATE COMPACT MAY BE ENTERED INTO, OR STATES MAY OTHERWISE ESTABLISH PROCEDURES TO ALLOCATE AMONG THE STATES THE PREMIUM TAXES PAID TO AN INSURED'S HOME STATE. § 521(b)(1)

26. Premium Tax • ALLOCATION • TO FACILITATE THE PAYMENT OF PREMIUM TAXES AMONG THE STATES, AN INSURED'S HOME STATE MAY REQUIRE SURPLUS LINES BROKERS AND INSUREDS WHO HAVE INDEPENDENTLY PROCURED INSURANCE TO ANNUALLY FILE TAX ALLOCATION REPORTS WITH THE INSURED'S HOME STATE DETAILING THE PORTION OF THE NON-ADMITTED INSURANCE POLICY PREMIUM OR PREMIUMS ATTRIBUTABLE TO PROPERTIES, RISKS OR EXPOSURES LOCATED IN EACH STATE. THE FILING OF A NON-ADMITTED INSURANCE TAX ALLOCATION REPORT AND THE PAYMENT OF TAX MAY BE MADE BY A PERSON AUTHORIZED BY THE INSURED TO ACT AS ITS AGENT. § 521(c)

27. Surplus Lines InsuranceInsurance Multistate Compact (SLIMPACT) • SUPPORTED BY NCOIL AND SOME INDUSTRY GROUPS • WOULD ESTABLISH A COMMISSION (MADE UP OF STATE REGULATORS AND STAMPING OFFICES) TO ESTABLISH A TAX ALLOCATION FORMULA AND UNIFORM TAX PAYMENT FORMS AND PROCEDURES, AND ALSO RESOLVE DISPUTES OVER CHOICE OF HOME STATE (SO, NO ALLOCATION FORMULA YET); PROVIDES FOR A CLEARINGHOUSE

28. Surplus Lines InsuranceInsurance Multistate Compact (SLIMPACT) • NEED 10 STATES OR STATES ACCOUNTING FOR 40% OF THE SURPLUS LINES MARKET TO BECOME EFFECTIVE • UNCLEAR IF IT WILL BECOME EFFECTIVE, AND IF IT DOES IT WILL BE LESS THAN ALL 50 STATES

29. Non-admitted Insurance Multistate Agreement (NIMA) NONADMITTED INSURANCE MULTISTATE AGREEMENT (NIMA) • DRAFTED AND ADOPTED BY THE NAIC AND ENDORSED BY SOME INDIVIDUAL STATES; OPPOSED BY MUCH OF THE INDUSTRY • INCLUDES AN ALLOCATION SCHEDULE THAT PRESUMABLY WOULD BE USED BY EACH PARTICIPATING STATE; PROVIDES FOR A CLEARINGHOUSE WHICH APPARENTLY WOULD/COULD RECEIVE TAX PAYMENTS DIRECTLY FROM AN INSURED

30. NONADMITTED INSURANCE MULTISTATE AGREEMENT (NIMA) Non-admitted Insurance Multistate Agreement (NIMA) • ALSO WOULD RESULT IN AN ADDITIONAL LAYER OF REGULATION, THOUGH APPLICATION TO INSUREDS IS NOT CLEAR • ALLOCATIONS, e.g.: • PROPERTY • GL • AUTO • E&O • WORKERS' COMP

31. NONADMITTED INSURANCE (NIMA) Non-admitted Insurance Multistate Agreement (NIMA) • ANY TWO STATES CAN ENTER INTO NIMA TOGETHER – IT'S A CONTRACT RATHER THAN AN INTERSTATE COMPACT • UNCLEAR WHETHER STATES WILL ACTUALLY CONTRACT AND IF SO, HOW MANY, BUT IT WILL BE LESS THAN ALL 50 STATES

32. Medical Programs • BACKGROUND • SINCE 2000, A NUMBER OF COMPANIES HAVE SOUGHT PROHIBITED TRANSACTION EXEMPTIONS WITH REGARD TO VARIOUS TYPES OF EMPLOYEE WELFARE BENEFIT PLANS WHICH WERE REINSURED WITH THEIR CAPTIVE INSURERS

33. MEDICAL PROGRAMS Medical Programs • BACKGROUND • SEE REV. RUL. 92-93, 1992-2 C.B. 45 • OTHERS HAVE INSURED MEDICAL STOP LOSS PROGRAMS WITH THEIR CAPTIVES. SEE ADVISORY OPINION 92-02A

34. MEDICAL PROGRAMS Medical Programs • PATIENT PROTECTION & AFFORDABLE CARE ACT OF 2010 • IRC § 162(m)(6) PRECLUDES "HEALTH INSURANCE PROVIDERS" AND ANY CONTROL GROUP MEMBERS FROM DEDUCTING REMUNERATION PAID TO ANY SERVICE PROVIDER (INCLUDING, e.g., OFFICER, EMPLOYEE, DIRECTOR, OR CONSULTANT) IN EXCESS OF $500,000 PER ANNUM, SEE IRC § 162(m)(6)(c)(ii)

35. MEDICAL PROGRAMS Medical Programs • PATIENT PROTECTION & AFFORDABLE CARE ACT OF 2010 • "HEALTH INSURANCE PROVIDER" IS AN ENTITY THAT PROVIDES HEALTH INSURANCE COVERAGE ("HIC") WHICH IS PROVIDED DIRECTLY, THROUGH INSURANCE OR REIMBURSEMENT, IF AT LEAST 25% OF PROVIDER'S GROSS PREMIUM IS DERIVED FROM HIC PROVIDING "MINIMUM ESSENTIAL COVERAGE" INDIVIDUALS WILL BE REQUIRED TO MAINTAIN UNDER NEW HEALTH CARE RULES, SEE IRC§ 162(m)(6)(c)(i)

36. MEDICAL PROGRAMS Medical Programs • PATIENT PROTECTION & AFFORDABLE CARE ACT OF 2010 • MINIMUM ESSENTIAL COVERAGE" IS DEFINED AS ONE OF ESSENTIALLY TEN KINDS OF COVERAGE (INCLUDING MEDICARE, MEDICAID, SCHIP, VETERANS HEALTHCARE, HEALTH PROGRAMS FOR PEACE CORPS VOLUNTEERS, ELIGIBLE EMPLOYER-SPONSORED PLANS, INDIVIDUAL MARKET PLANS THROUGH STATE EXCHANGES, GRANDFATHERED HEALTH PLANS AND OTHER TYPES OF HEALTH INSURANCE ACCEPTABLE TO THE SECRETARY OF HHS AND THE SECRETARY OF THE TREASURY. SEE PPACA § 5000A(f)

37. MEDICAL PROGRAMS Medical Programs • PATIENT PROTECTION & AFFORDABLE CARE ACT OF 2010 • EMPLOYERS THAT SELF INSURE ARE NOT COVERED, SEE IRC § 162(m)(6)(c)(i) • IRS NOTICE 2011-02 • INDEMNITY REINSURANCE NOT COVERED • DE MINIMIS RULE IF LESS THAN 2% OF PREMIUM IS FOR MINIMUM ESSENTIAL COVERAGE • COMMENTS REQUESTED ON STOP LOSS • PPACA § 9010 IMPOSES AN ANNUAL FEE ON HEALTH INSURANCE PROVIDERS BASED ON THE AMOUNT OF PREMIUMS WRITTEN

38. Medical Programs • PATIENT PROTECTION & AFFORDABLE CARE ACT OF 2010 • RATE – THE TAX IS BASED ON HEALTH INSURANCE PROVIDER'S PROPORTIONATE SHARE OF THE MARKET AS APPLIED TO AN APPLICABLE AMOUNT (DESIGNATED FOR EACH YEAR IN THE STATUTE) • EFFECT ON QUOTA SHARE SESSION TO CAPTIVE

39. POLICY Medical Stop Loss Policy • ISSUE – IS MEDICAL STOP LOSS UNRELATED BUSINESS FOR PURPOSES OF DETERMINING WHETHER A DEDUCTION IS AVAILABLE FOR RELATED PREMIUM • COURTS CREATED TWO METHODS OF “RISK SHIFTING” • BROTHER SISTER RISK (E.G., HUMANA, KIDDE, HCA) • SUFFICIENT UNRELATED RISK (E.G., SEARS, AMERCO, HARPER AND ODECO) • IRS REQUIRES DIVERSE POOL OF “INSUREDS” FOR RISK DISTRIBUTION • REVENUE RULING 2005-40

40. MEDICAL STOP LOSS POLICY Medical Stop Loss Policy • ISSUES – IS MEDICAL STOP LOSS UNRELATED BUSINESS FOR PURPOSES OF DETERMINING WHETHER A DEDUCTION IS AVAILABLE FOR RELATED PREMIUM • PER REQUEST FOR COMMENTS BY IRS, SHOULD THIS BE CONSIDERED PREMIUM FOR MINIMUM ESSENTIAL COVERAGE FOR PURPOSES OF DETERMINING WHETHER IRC § 162(m)(6) APPLIES, i.e., WHETHER DEDUCTIONS FOR COMPENSATION TO OFFICERS, DIRECTORS, ETC., SHOULD BE LIMITED TO $500,000 PER ANNUM

41. Medical Stop Loss Policy • UNRELATED OR RELATED RISK

42. Medical Stop Loss PolicyICAL STOP LOSS POLICY • UNRELATED OR RELATED RISK

43. Medical Stop Loss Policy • UNRELATED OR RELATED RISK

44. Loanbacks • ISSUE – WILL A LOANBACK HAVE AN ADVERSE TAX CONSEQUENCE ON A OTHERWISE VALID INSURANCE ARRANGEMENT AND IF SO, WHY? • CURRENTLY NO TAX LAW LIMITS THE USE OF LOANBACKS FOR FEDERAL INCOME TAX PURPOSES • COMMONLY USED IN “NON INSURANCE GROUPS” • POSSIBLE ATTACKS • SHAM • LACK OF RISK SHIFTING • FAILS COMMON NOTIONS OF INSURANCE • CIRCULAR CASH FLOW

45. Loanbacks • FACTORS TO BE CONSIDERED • EVIDENCE OF OBLIGATION/ DOCUMENTATION – NOT JUST A BAR NAPKIN Joes Bar & Grill XYZ CORP OWES ABC CAPITAL $50,000,000 BY_________________________CFO

46. Loanbacks • FACTORS TO BE CONSIDERED • AMOUNT • CAPITAL • PREMIUM • IS THERE A LIMIT? (50% RULE???) • SECURITY • ABILITY TO REPAY • LIQUIDITY • ACTUARIAL EVIDENCE • IDENTITY OF DEBTOR

47. Loanbacks • FACTORS TO BE CONSIDERED • REGULATORY APPROVAL • INTEREST • RATE • PAYMENTS • NETTING • CAN YOU VARY WITH A 24 HOUR DEMAND FEATURE? • EVIDENCE OF ISSUES CONSIDERED BY THE BOARD OF THE CAPTIVE • CREDIT RATING OF COUNTER-PARTY • CASH FLOW NEEDS

48. Economic Substance/Business Purpose • ISSUES – ON MARCH 18, 2010, THE “ECONOMIC SUBSTANCE” DOCTRINE (IRC §7701(o)) BECAME LAW AS PART OF THE HIRE ACT (THE “ACT”). • The Act States that “in the case of any transaction to which the economic substance is relevant, such transaction shall be treated as having economic substance only if: • (a) the transaction changes in a meaningful way (apart from Federal income tax effects) the taxpayer’s economic position, and • (b) the taxpayer has a substantial purpose (apart from federal income tax effects) for entering into such transaction.” • WHAT LEVEL OF ECONOMIC SUBSTANCE IS REQUIRED FOR A CAPTIVE INSURANCE COMPANY? • WHAT IS THE “BUSINESS PURPOSE” OF A CAPTIVE?

49. Economic Substance/Business Purpose • SEVERAL CASES CITE “COST OR LACK OF COVERAGE” OR “INSURANCE COMPANY REFUSED COVERAGE” AS BUSINESS DRIVERS FOR ESTABLISHING A CAPTIVE • CAPTIVE FEASIBILITY STUDIES INCLUDE A LONG LIST OF REASONS FOR FORMING A CAPTIVE • ACCESS TO REINSURANCE MARKETS • RISK PROFIT CENTER • ETC. • THE IRS ON CAPTIVE EXAMS HAVE BEEN REQUESTING COPIES OF THE FEASIBILITY STUDY AND ASKING IF THE BENEFITS CITED WERE ACHIEVED

50. Economic Substance/Business Purpose • THE BUSINESS PURPOSE OF THE CAPTIVE WAS ESTABLISHED WHEN THE OWNER CHOSE TO RETAIN RISK (AND THE ASSOCIATED ECONOMICS) • RETENTION OF POTENTIAL PROFIT OF THE INSURANCE COMPANY IS THE ECONOMIC TEST TO BE CONSIDERED • SAVINGS FROM OTHER “BENEFITS” ARE IRRELEVANT • FORMATION OF THE CAPTIVE TO “HOUSE” THIS RISK IS MERELY TAX STRUCTURING