Dealer principals with overseas reinsurance companies take heed. You could get caught in the fallout of IRS rule changes aimed at cracking down on U.S. taxpayers with foreign accounts intending to evade U.S. taxes.
IRS changes could ensnare dealers who reinsure
The rule changes, some put in place in January and some effective next year, affect the Foreign Account Tax Compliance Act, or FATCA, for short. The changes indirectly create new reporting requirements for auto dealers who own a common type of reinsurance company that is typically located offshore, say experts that specialize in dealerships and reinsurance. Dealers who don't comply face fines and lost tax breaks.
"The IRS is increasingly concerned about U.S. taxpayers having money or investments overseas not being reported to them," says Joe Magyar, a partner at the Crowe Horwath accounting firm in Chicago. "If you have a foreign investment, you may need to report it."
Many dealers use reinsurance to boost profits from F&I products, especially extended-service contracts. Usually working with the big insurance companies that issue the contracts, dealers -- often the dealer principal, personally -- can establish their own reinsurance companies. Most are located overseas to reduce costs.
Through the reinsurance companies, dealers contribute to the reserves used to pay future claims. After claims and administrative fees are paid out of the reserves, dealers can keep a portion of the money that's left over, called the underwriting profit, plus investment income. There are big tax advantages on the profits from reinsurance.
But those advantages could be threatened by the latest IRS requirements. The changes can get so complex, Magyar says, even the tax professionals don't always agree who needs to file what and under what circumstances.
He and other experts -- including Allstate Dealer Services, which offers reinsurance programs to its dealer customers -- recommend that dealers with their own reinsurance companies contact their tax advisers to find out whether they are required to submit any additional forms in order to avoid possible penalties and to protect their tax benefits.
David Kaseff, the insurance tax practice leader for the MarksNelson Vohland Campbell Radetic accounting firm in Kansas City, Mo., says the IRS changes were targeted at U.S. taxpayers with foreign accounts who may be trying to improperly avoid U.S. taxes. That description, he says, doesn't apply to dealer-owned reinsurance companies located overseas because the tax benefits are the same whether a reinsurance company is overseas or in the United States.
Dealers locate reinsurance companies overseas, he says, because audit and reporting requirements are easier and cheaper, not because of any extraordinary tax benefits for locating outside the country.
Kaseff says there are no additional new taxes for reinsurance companies, but there are potential fines or the loss of tax breaks for failing to comply with reporting requirements. Dealers have to comply even though the changes to the Foreign Account Tax Compliance Act weren't targeting them.
"It doesn't make a tremendous amount of sense, but that's because it was aimed at these other enterprises that have accounts offshore," Kaseff says. "The IRS didn't carve out the auto industry."
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