Mass. Proposes Tax for Insurer-Owned Pass-Through Entities

As part of his administration’s plan for new tax revenues, Massachusetts Gov. Deval Patrick recently proposed applying a corporate tax rate to the state’s “pass-through entities” that are owned by insurance companies. The proposal was part of Gov. Patrick’s fiscal year 2015 budget recommendation, filed on Jan. 22.

Currently, income earned by pass-through entities – such as partnerships – that are owned by licensed life or property/casualty insurers is excluded from Massachusetts income tax because the owners are subject to a premiums tax, and not the income or franchise tax based on the net income of the entity, according to law firm Sutherland Asbill & Brennan LLP.

The governor’s proposal would treat pass-through entities that are at least 50 percent owned by insurance companies as corporate entities for Massachusetts tax purposes, the law firm notes.

Supporters of the governor’s proposal believe that insurers conducting non-insurance business in these pass-through entities obtain an unintended tax advantage, according to Sutherland Asbill & Brennan. The governor’s office was not immediately available for comment.

Marc Simonetti, a New York-based partner at Sutherland Asbill & Brennan who specializes in state taxation, said a similar proposal has been previously discussed at the Multistate Tax Commission, an organization of state tax administrators, but that it was later discontinued.

And Massachusetts now appears to be the only state proposing this type of pass-through tax provision, he said.

Simonetti observed that in addition to more traditional investments, insurance companies have also been putting money in different types of pass-throughs such as partnerships and limited liability companies.

“And what has transpired is that there has been some thought among some state tax administrators that the income that is being earned by a pass-through entity that ultimately flows up to an insurance company was escaping the income tax,” Simonetti said. The reason for that is because insurance companies are subject to a premiums tax, which is different from the corporate income tax.

“That’s really a fundamental unwritten rule between insurance companies and state tax administrators, that insurance companies should be and are subject to tax on premium receipts – on a gross receipts basis – and so they pay that tax in lieu of any type of income tax,” he said. “So, whether the insurance company makes money or loses money, it doesn’t matter; whatever their premium receipts are for the year is what they pay tax on.”

Historically, this arrangement has been respected from both sides, from the insurance companies’ side as well as from state legislatures and state tax administrators’ side, Simonetti said.

The next step for the governor’s proposal is the state legislature. Regarding the chances of passage, “I would say it’s a little uncertain right now,” he added. “I think you will see that as people become more aware of it, you will see a substantial push by the business community to illustrate to the governor why this is a bad tax policy.”