A Captive Insurance Case Law History: The Floodplain Cases

We formed and operate the first series LLC in Montana (named Aegis) for captive insurers.  Several other firms provide key services such as accounting, audit and actuarial work.  Please contact us at 832.330.4101 if you'd like to discuss forming a captive for your company.   

  Property located in a floodplain has several attractive features for commercial development.  Locations along a waterway allow a business to store or produce goods at the same place from which they will be transported to the middle or end market, thereby lowering transportation costs.  Property along waterways typically is inexpensive, due primarily to the biggest drawback: an increased potential for flooding.  That potential for flooding was the justification for the formation of a self-insured program involving a pseudo-captive structure in both Weber Paper Co. v. U. S.[1] and Consumers Oil Corporation of Trenton v. United States.[2]      

   In both cases, the location of the property had experienced recent flooding.  That flooding had driven out any potential insurance coverage by third party carriers: although the taxpayers provided evidence that they had sought third party insurance, they had not found any insurer willing to cover their properties in the floodplains forcing the taxpayers to develop an alternative.[3]  In Consumer’s Oil, the taxpayer established an independently administered trust in which it set aside payments that it intended to use to pay for any later damage from flooding.  The taxpayer sought to deduct the payments made to the trust.[4]  The taxpayer lost in Consumer’s Oil because a trust – even if independently administered – is merely a reserve, the payments to which are not deductible.[5] 

  In Weber, a group of similarly situated taxpayers joined together to form an insurance exchange to cover flooding risks.  The exchange was licensed by both the Missouri and Kansas departments of insurance.[6]  In attacking the structure, the government relied on the position set forth in Revenue Ruling 60-275[7] that an insurance exchange established solely to cover flood losses by a group of similarly situated insureds does not constitute genuine insurance because all of the potential insureds are geographically close and would all suffer similar damage in the event of a flood.  Given the fact that all would utilize coverage if one did, the purported indemnification is in essence merely a return of the insured’s premium (and any income earned while held by the exchange) and the “inter-insurance exchange” is merely a reserve for each participating insured.  The Weber court ruled against the government, holding that the arrangement was in fact a valid “inter-insurance plan” that covered multiple participants who relinquished control of premiums and whose funds could not be withdrawn during the policy year.[8]  The court also questioned the government’s reliance on the facts in Revenue Ruling 60-275 to the case.  The taxpayers in the Revenue Ruling participated in a reciprocal insurance exchange which is a loose aggregation of individuals that is “more than a partnership yet less than an insurance corporation.”[9]  The participants make a small original premium payment and are available to pay additional funds to other insureds in the event of a claim.  This stands in contrast to the plan in Weber in which the plan participants parted with dominion and control of their premium payment.[10]  After the government’s loss in Weber, Treasury issued Revenue Ruling 64-72 indicating that it would not follow Weber as precedent and setting the stage for the next round of the legal battle.[11]



[1] Weber Paper CO. v. United States, 204 F. Supp. 394 (W.D. Mis. 1962),

[2]  Consumer’s Oil Corp.

[3] Consumers Oil Corp. v. United States, 188 F. Supp. 796, 798 (D.N.J. 1960), (“The parties have agreed that because of the nature of the risk 'regular insurance companies' would not underwrite the contingent liability”); United States v. Weber Paper Co. 320 F.2d 199, 201 (“As the result of serious flood losses suffered by the taxpayer and others, a demand for flood insurance arose.  None was available.")

[4] Id at 200

[5] Consumers Oil Corp. at 798 (D.N.J. 1960) ("The payments entailed nothing more than a voluntary segregation of funds out of income as a reserve against a contingent liability and were, therefore, not allowable deductions")

[6] [pin cite needed]

[7] Rev. Rul. 60-275, 1960-2 C.B 43, 1960 WL 12637

[8] See Rev. Rul. 60-275, 1960-2 C.B 43, 1960 WL 12637; (This was a very weak argument because the challenged structure bore a striking resemblance to both a reciprocal and mutual insurer) 

[9] 3 Couch on Ins. § 39:48

[10]  Weber Paper Co. v. United States, 204 F.Supp. 394, 398 (W. D. Mo 1962)(“The conclusions contained in Rev. Rul. 60-275, C.B. 1960-2, p. 43, that the premiums paid by the taxpayer under this plan of reciprocal insurance are 'amounts set aside by a taxpayer as a reserve for self insurance', and that such a premium deposit 'represents a nondeductible contingent deposit to the extent it is withdrawable by the taxpayers' --  are not consistent with the facts disclosed in the case at bar. This is because they are based on the erroneous or irrelevant assumptions that there could be no real sharing of the risks because the occurrence of a major flood 'probably would affect all properties in a particular flood basin'; that each subscriber is substantially underinsured; and the nonsequitur that any proceeds received by the taxpayer in the event of flood damage would, therefore, in effect, be a return of the taxpayer's own money. Such conclusions are also inapplicable to the case at bar since they ignore the fact that the deposits pass from the control of the taxpayer, and that no portion thereof can be withdrawn by the taxpayer during the policy year in which they are paid. Since the facts assumed in said ruling are inconsistent with the operation of the inter-insurance plan shown by the evidence in this case and the findings of fact contained herein, said Rev. Ruling 60-275 does not constitute a correct interpretation of the law applicable to this case and should not be followed herein.)

[11] Rev. Rul. 64-72; 1964-1 C.B. 85; 1964 IRB LEXIS 185 (“The Internal Revenue Service will not follow the decision of the United States Court of Appeals for the Eighth Circuit in the case of United States v. Weber Paper Company, 320 Fed. (2d) 199 (1963), affirming 204 Fed. Supp. 394 (1962)”.