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Reinsurance’s Resurrection

January 2009, F&I and Showroom - Cover Story

by Kelli Wood - Also by this author

Ask Bob Cockerham about his reinsurance program and he’s quick to say it was his dealership’s one glimmer of hope.

“This is as rough as it gets in the car business, and a reinsurance company is one way to manage through these rough times,” said Cockerham, owner of the Santa Fe, N.M.-based Car World Kia, and client of SouthwestRe. “A lot of dealers are going to be wishing they had one.”

Ask Pat Baxter about his program with Resource Automotive and the president of Kayser Auto Group in Madison, Wisc., will say it was a “real life saver” for his dealership last year.

“It’s been helpful in the last three to four years because the car business has been tough,” he explained. “It’s nice to have a reinsurance company sitting out there that has built up significant value.”

Allowing dealers to share in the underwriting profit and investment income on the extended service contracts and other insurance products they sell, reinsurance is paying off for both dealers and providers in these unprecedented times. But there was a time when the mere mention of reinsurance struck fear in participating dealers and providers.

The PORC Conspiracy

Steve Barrett, senior vice president of Reinsurance at Resource Automotive, remembered the time well. The year was 2002 and the Internal Revenue Service (IRS) had just put reinsurance providers and users on notice.

“Even after things were resolved, there was a period of time where everybody in that part of the business took a step back to reexamine things,” he said.

The IRS’s review centered on what are known as producer-owned reinsurance companies (PORC), which are typically offshore entities that reinsure risks of customers of a related service provider, lender or retailer.

The IRS charged that PORCs were wrongly being used as tax shelters, as it claimed entities believed they were exempt from federal income taxes.

There were several court cases that prompted the IRS’s review of reinsurance, including ones against Compaq, UPS, and a partnership between Colgate-Palmolive Co. and Merrill Lynch & Co.

The IRS charged the companies with attempting to avoid taxes by entering into offshore entities that artificially created losses. It further charged that the companies allocated those losses to offset any capital gains.

Despite a series of court victories, the IRS saw many of those decisions reversed in appellate courts. Much of that litigation centered on whether the business dealings had any economic substance, or if they were structured solely for tax purposes.

“The Internal Revenue Service historically suspects that dealer-owned reinsurance companies, particularly those domiciled off-shore, are used as a means to avoid or evade tax payments,” said Bill Burfeind, executive vice president of the Consumer Credit Industry Association (CCIA), an organization that played a key role in defending reinsurance companies.

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