Rev. Rul. 79-138

Advice has been requested concerning the basis for computation, in the situations described below, of the excise tax on policies of reinsurance issued by a foreign reinsurer imposed by section 4371 of the Internal Revenue Code of 1954.

Situation (1). A domestic insurance company underwrites various types of casualty risks wholly or partly within the United States. In order to spread its risks with respect to such insurance, the domestic insurer entered into a coinsurance type of reinsurance pooling agreement with a foreign reinsurance company. Under the agreement, the foreign reinsurer agreed to reinsure 50 percent of the casualty insurance business developed by the domestic insurer. The domestic insurer agreed to pay the foreign reinsurer its proportionate share of the premiums received on the casualty insurance covered by the agreement, and the foreign reinsurer agreed to bear its proportionate share of all losses and loss adjustment expenses. The foreign reinsurer further agreed to allow the domestic insurer a ceding commission of 42 percent of the net premiums received (gross premiums less return premiums and cancellations) that are attributable to the foreign reinsurer's share of the risk. The ceding commission percentage was based upon agents' commissions, premium taxes, license taxes, fees, and administrative and overhead expenses incurred by the domestic insurer in underwriting the insurance plus a profit factor. For the convenience of the foreign reinsurer, the domestic insurer remits only the net amount of the foreign reinsurer's share of gross premium receipts less the ceding commission and the foreign reinsurer's share of any losses or loss adjustment expenses.

Situation (2). The facts are similar to Situation (1) except that the agreement requires the domestic insurance company to pay the foreign reinsurer an amount equal to 58 percent of the net premiums received that are attributable to the foreign reinsurer's share of the risk.

Section 4371 of the Code imposes a tax on each policy of insurance, indemnity bond, annuity contract, or policy of reinsurance issued by any foreign insurer or reinsurer.

Section 4372(f) of the Code provides that for purposes of the tax on foreign reinsurance policies, the term "policy of reinsurance" means any policy or other instrument by whatever name called whereby a contract of reinsurance is made, continued, or renewed against, or with respect to, any of the hazards, risks, losses, or liabilities covered by insurance contracts of the type described in paragraphs (1) and (2) of section 4371.

Section 46.4371-3(b) of the Regulations Relating to Miscellaneous Excise Taxes Payable by Return provides that the term "premium payment" means the consideration paid for assuming and carrying the risk or obligation, and includes any additional assessment or charge paid under the contract, whether payable in one sum or installments.

In determining the amount of a premium paid for purposes of the tax imposed by section 4371 of the Code, the law does not provide for reduction of the gross premium paid for expenses incurred in connection with underwriting the taxable insurance contract, or because a contract provides that a net amount be paid.

Accordingly, for purposes of the excise tax imposed by section 4371 of the Code in Situation (1), the premium paid is the proportionate share of the premium received by the domestic insurer and paid to the foreign reinsurer as a reinsurance premium not reduced by the ceding commission, losses, or loss adjustment expenses.

Similarly, in Situation (2) the premium paid for purposes of section 4371 of the Code is the gross proportionate share of the premiums received by the domestic insurer that is attributable to the foreign reinsurer as a reinsurance premium even though the contract provides for payment of a net amount.

The same conclusions would also apply in the case of modified coinsurance agreements.

Under the authority granted by section 7805(b) of the Code, the conclusion in this revenue ruling regarding ceding commissions will not be applied to premiums paid prior to April 30, 1979. The conclusion regarding the foreign reinsurer's share of losses and loss adjustment expenses will continue to apply retroactively.