Rent-A-Center, Inc. and Affiliated Subsidiaries v. Commissioner , 142 T.C. No. 1 ( 2014 )


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    142 T.C. No. 1
    UNITED STATES TAX COURT
    RENT-A-CENTER, INC. AND AFFILIATED SUBSIDIARIES, Petitioners v.
    COMMISSIONER OF INTERNAL REVENUE, Respondent
    Docket Nos. 8320-09, 6909-10,               Filed January 14, 2014.
    21627-10.
    P, a domestic corporation, is the parent of numerous wholly
    owned subsidiaries including L, a Bermudian corporation. P
    conducted its business through stores owned and operated by its
    subsidiaries. The other subsidiaries and L entered into contracts
    pursuant to which each subsidiary paid L an amount, determined by
    actuarial calculations and an allocation formula, relating to workers’
    compensation, automobile, and general liability risks, and, in turn, L
    reimbursed a portion of each subsidiary’s claims relating to these
    risks. P’s subsidiaries deducted, as insurance expenses, the payments
    to L. In notices of deficiency issued to P, R determined that the
    payments were not deductible.
    Held: P’s subsidiaries’ payments to L are deductible, pursuant
    to I.R.C. sec. 162, as insurance expenses.
    -2-
    Val J. Albright and Brent C. Gardner, Jr., for petitioners.
    R. Scott Shieldes and Daniel L. Timmons, for respondent.
    FOLEY, Judge: Respondent determined deficiencies of $14,931,159,
    $13,409,628, $7,461,039, $5,095,222, and $2,828,861 relating, respectively, to
    Rent-A-Center, Inc. (RAC), and its subsidiaries’ 2003,1 2004, 2005, 2006, and
    2007 (years in issue) consolidated Federal income tax returns. The issue for
    decision is whether payments to Legacy Insurance Co., Ltd. (Legacy), were
    deductible, pursuant to section 162,2 as insurance expenses.
    FINDINGS OF FACT
    RAC, a publicly traded Delaware corporation, is the parent of a group of
    approximately 15 affiliated subsidiaries (collectively, petitioner). During the years
    in issue, petitioner was the largest domestic rent-to-own company. Through stores
    owned and operated by RAC’s subsidiaries, petitioner rented, sold, and delivered
    home electronics, furniture, and appliances. The stores were in all 50 States, the
    1
    Respondent, in his amended answer, asserted an additional $2,603,193
    deficiency relating to 2003.
    2
    Unless otherwise indicated, all section references are to the Internal
    Revenue Code in effect for the years in issue, and all Rule references are to the
    Tax Court Rules of Practice and Procedure.
    -3-
    District of Columbia, Puerto Rico, and Canada. From 1993 through 2002,
    petitioner’s company-owned stores increased from 27 to 2,623. During the years
    in issue, RAC’s subsidiaries owned between 2,623 and 3,081 stores; had between
    14,300 and 19,740 employees; and operated between 7,143 and 8,027 insured
    vehicles.
    I. Petitioner’s Insurance Program
    In 2001, American Insurance Group (AIG), in response to a claim against
    RAC’s directors and officers (D&O), withdrew a previous offer to renew RAC’s
    D&O insurance policy. To address this problem, RAC engaged Aon Risk
    Consultants, Inc. (Aon), which convinced AIG to renew the policy. Impressed
    with Aon’s insurance expertise and concerned about its growing insurance costs,
    petitioner engaged Aon to analyze risk management practices and to broker
    workers’ compensation, automobile, and general liability insurance. With Aon’s
    assistance, petitioner developed a risk management department and improved its
    loss prevention program.
    Prior to August 2002, Travelers Insurance Co. (Travelers) provided
    petitioner’s workers’ compensation, automobile, and general liability coverage
    through bundled policies. Pursuant to a bundled policy, an insurer provides
    coverage and controls the claims administration process (i.e., investigating,
    -4-
    evaluating, and paying claims). Travelers paid claims as they arose and withdrew
    amounts from petitioner’s bank account to reimburse itself for any claims less than
    or equal to petitioner’s deductible (i.e., a portion of an insured claim for which the
    insured is responsible). Pursuant to a predetermined formula, each store was
    allocated, and was responsible for paying, a portion of Travelers’ premium costs.
    In 2001, after receiving a $3 million invoice from Travelers for “claim
    handling fees”, petitioner became dissatisfied with the cost and inefficiency
    associated with its bundled policies. On August 5, 2002, petitioner, with the
    assistance of Aon, obtained unbundled workers’ compensation, automobile, and
    general liability policies from Discover Re. Pursuant to an unbundled policy, an
    insurer provides coverage and a third-party administrator manages the claims
    administration process. Discover Re underwrote the policies; multiple insurers
    provided coverage;3 and Specialty Risk Services, Inc. (SRS),4 a third-party
    administrator, evaluated and paid claims. Petitioner and its staff of licensed
    adjusters had access to SRS’ claims management system and monitored SRS to
    3
    The following insurers provided coverage: U.S. Fidelity & Guarantee Co.,
    Fidelity & Guaranty Insurance Co., Discover Property and Casualty Insurance Co.,
    St. Paul Fire & Marine Co. of Canada, and Fidelity Guaranty Insurance
    Underwriters Inc.
    4
    SRS was affiliated with the Hartford Insurance Co., a well-established
    insurer, and did not have a contract with Discover Re.
    -5-
    ensure the proper handling of claims. This arrangement gave petitioner greater
    control over the claims administration process.
    Petitioner, pursuant to the Discover Re policies’ deductibles, was liable for
    a specific amount of each claim against its workers’ compensation, automobile,
    and general liability policies (e.g., pursuant to its 2002 workers’ compensation
    policy, petitioner was liable for the first $350,000 of each claim). Petitioner’s
    retention of a portion of the risk resulted in lower premiums.
    II. Legacy’s Inception
    Between 1993 and 2002, petitioner rapidly expanded and became
    increasingly concerned about its growing risk management costs. In 2002, after
    analyzing petitioner’s insurance program, Aon suggested that petitioner form a
    wholly owned insurance company (i.e., a captive). Aon representatives informed
    David Glasgow, petitioner’s director of risk management, about the financial and
    nonfinancial benefits of forming a captive. Aon convincingly explained that a
    captive could help petitioner reduce its costs, improve efficiency, obtain otherwise
    unavailable coverage, and provide accountability and transparency. Mr. Glasgow
    presented the proposal to petitioner’s senior management, who concurred with Mr.
    Glasgow’s recommendation to further explore the formation of a captive.
    Petitioner’s senior management directed Aon to conduct a feasibility study (i.e.,
    -6-
    relying on petitioner’s workers’ compensation, automobile, and general liability
    loss data) and to prepare loss forecasts and actuarial studies. Petitioner engaged
    KPMG to analyze the feasibility study, review tax considerations, and prepare
    financial projections.
    Aon, in the feasibility study, recommended that the captive be capitalized
    with no less than $8.8 million. Before deciding where to incorporate the captive,
    RAC analyzed projected financial data and reviewed multiple locations. On
    December 11, 2002, RAC incorporated, and capitalized with $9.9 million,5
    Legacy, a wholly owned Bermudian subsidiary.6 Legacy opened an account with
    Bank of N.T. Butterfield and Son, Ltd., and, on December 20, 2002, filed a class 1
    insurance company registration application with the Bermuda Monetary Authority
    (BMA), which regulated Bermuda’s financial services sector. A class 1 insurer
    may insure only the risk of its shareholders and affiliates; must be capitalized with
    at least $120,000; and must meet a minimum solvency margin calculated by
    5
    RAC contributed $9.9 million of cash and received 120,000 shares of
    Legacy capital stock with a par value of $1.
    6
    Legacy elected, pursuant to sec. 953(d), to be treated as a domestic
    corporation for Federal income tax purposes. In addition, Legacy engaged Aon
    Insurance Managers (Bermuda), Ltd., to monitor Legacy’s compliance with
    Bermudian regulations and to provide management, financial, and administrative
    services.
    -7-
    reference to the insurer’s net premiums, general business assets,7 and general
    business liabilities. See Insurance Act, 1978, secs. 4B, 6, Appleby (2008) (Berm.);
    Insurance Returns and Solvency Regulations, 1980, Appleby, Reg. 10(1),
    Schedule I, Figure B (Berm.). During the years in issue, the BMA had the
    authority to modify prescribed requirements through both prospective and
    retroactive directives for special allowances. See Insurance Act, 1978, sec. 56.
    Legacy planned to insure petitioner’s liabilities for the period beginning in
    2002 and ending December 31, 2003 (proposed period). Aon informed petitioner
    that coverage provided by unrelated insurers would be more costly than Aon’s
    estimate of Legacy’s premiums and that some insurers would not be willing to
    offer coverage. In response to a quote request, Discover Re stated that it was not
    in the market to provide the coverage Legacy contemplated. Discover Re
    estimated, however, that its premium (i.e., if it were to write one relating to the
    proposed period) would be approximately $3 million more than Legacy’s.
    7
    The Bermuda Insurance Act, the Insurance Accounts Regulations, and the
    Insurance Returns and Solvency Regulations reference “general business”,
    “admitted”, and “relevant” assets. See Insurance Act, 1978, sec. 1, Appleby
    (2008) (Berm.); Insurance Accounts Regulations, 1980, Appleby, Schedule III, Pt.
    1, 13 (Berm.); Insurance Returns and Solvency Regulations, 1980, Appleby, Reg.
    10(3), 11(4) (Berm.). For purposes of this Opinion, there is no significant
    difference among these terms.
    -8-
    III. Petitioner’s Policies
    During the years in issue, petitioner obtained unbundled workers’
    compensation, automobile, and general liability policies from Discover Re.
    Pursuant to these policies, Discover Re provided petitioner with coverage above a
    predetermined threshold relating to each line of coverage. In addition, Legacy
    wrote policies that covered petitioner’s workers’ compensation, automobile, and
    general liability claims below the Discover Re threshold. Petitioner, depending on
    the amount of a covered loss, could seek payment from Legacy, Discover Re, or
    both companies.
    The annual premium Legacy charged petitioner was actuarially determined
    using Aon loss forecasts and was allocated to each RAC subsidiary that owned
    covered stores. RAC was a listed policyholder pursuant to the Legacy policies.
    No premium was attributable to RAC, however, because it did not own stores,
    have employees, or operate vehicles. RAC paid the premiums relating to each
    policy,8 estimated petitioner’s total insurance costs (i.e., Legacy policies, Discover
    Re policies, third-party administrator fees, overhead, etc.), and established a
    8
    From December 31, 2002, through September 12, 2003, Legacy incurred a
    $4,861,828 liability relating to claim reimbursements due petitioner. This amount
    was netted against petitioner’s September 12, 2003, premium payment (i.e.,
    petitioner paid a net premium of $37,938,472 rather than the $42,800,300 gross
    premium).
    -9-
    monthly rate relating to each store’s portion of these costs. The monthly rate was
    based on three factors: each store’s payroll, each store’s number of vehicles, and
    the total number of stores. At the end of each year, RAC adjusted the allocations
    to ensure that its subsidiaries recognized their actual insurance costs. SRS
    administered all claims relating to petitioner’s workers’ compensation,
    automobile, and general liability coverage. During the years in issue, the terms of
    Legacy’s coverage varied, Legacy progressively covered greater amounts of
    petitioner’s risk, and Legacy did not receive premiums from any unrelated entity.
    From December 31, 2002, through December 30, 2007, Legacy earned net
    underwriting income of $28,761,402. See infra p. 16.
    A. Legacy’s Deferred Tax Assets
    Pursuant to the Legacy policies, coverage began on December 31 of each
    year. Because petitioner was a calendar year accrual method taxpayer, these
    policies created temporary timing differences between income recognized for tax
    purposes and income recognized for financial accounting (book) purposes.9 For
    9
    Each premium was generally paid in September of the year following the
    year in which the policy became effective. Use of the recurring item exception
    allowed petitioner to claim a premium deduction relating to the year in which the
    policy became effective, rather than the following year when the premium was
    actually paid. See sec. 461(h)(3)(A)(iii). On August 28, 2007, petitioner filed
    Form 3115, Application for Change in Accounting Method, requesting permission
    (continued...)
    - 10 -
    example, on December 31, 2002, when Legacy’s second policy became effective,
    Legacy recognized, for tax purposes, the full amount of the premium (i.e.,
    $42,800,300) relating to the taxable year ending December 31, 2002. See sec.
    832(b)(4). For book purposes, however, Legacy in 2002 recognized only 1/365 of
    the premium (i.e., $117,261), and the remaining $42,683,039 constituted a reserve.
    This timing difference created a deferred tax asset (DTA) because in 2002 Legacy
    “prepaid” its tax liability relating to income it recognized, for book purposes, in
    2003. Each day Legacy recognized a portion of its premium income (i.e.,
    $117,261) for book purposes and reduced its reserve by the same amount. On
    December 30, 2003, the reserve was fully depleted. Upon the issuance of a new
    policy on December 31, 2003, a new DTA was created because Legacy
    recognized, for tax purposes, in 2003 the full amount of the premium; a
    corresponding tax liability was incurred; the premium reserve increased; and most
    of the premium income attributable to the 2003 policy was recognizable, for book
    purposes, in 2004.
    9
    (...continued)
    to revoke its use of the recurring item exception.
    - 11 -
    1. Bermuda’s Minimum Solvency Margin Requirement
    Pursuant to the Bermuda Insurance Act, an insurance company must
    maintain a minimum solvency margin. See Insurance Act, 1978, sec. 6. More
    specifically, a class 1 insurer’s general business assets must exceed its general
    business liabilities by the greatest of: $120,000; 10% of the insurer’s loss and loss
    expense provisions plus other insurance reserves; or 20% of the first $6 million of
    net premiums plus 10% of the net premiums which exceed $6 million. See
    Insurance Returns and Solvency Regulations, 1980, Appleby, Reg. 10(1),
    Schedule I, Figure B. DTAs generally may be treated as general business assets
    only with the BMA’s permission.
    2. Legacy Receives Permission To Treat DTAs as General Business
    Assets Through 2003
    In the minimum solvency margin calculation set forth in its insurance
    company registration application, Legacy treated DTAs as general business assets.
    On March 11, 2003, Legacy petitioned the BMA for the requisite permission to do
    so. The following letter from RAC accompanied the request:
    We write to confirm to you that Rent-A-Center, Inc., * * * will
    guarantee the payment to Legacy Insurance Company, Ltd. (the
    “Company”), * * * of all amounts reflected on the projected balance
    sheets of the Company previously delivered to you as deferred tax
    assets arising from timing differences in the amounts of taxes payable
    for tax and financial accounting purposes. This guaranty of payment
    - 12 -
    will take effect in the event of any change in tax laws that would
    require recognition of an impairment of the deferred tax asset, and will
    be effective to the extent of the amount of the impairment.
    On March 13, 2003, the BMA granted Legacy permission to treat DTAs as
    general business assets on its statutory balance sheet through December 31,
    2003.10 The BMA also informed Legacy that from December 31, 2002, through
    March 13, 2003, it “wrote insurance business without being in receipt of its
    Certificate of Registration and was therefore in violation of the [Bermuda
    Insurance] Act as it engaged in insurance business without a license.” Despite this
    violation, the BMA registered Legacy as a class 1 insurer effective December 20,
    2002 (i.e., the date Legacy filed its insurance registration request and before it
    issued policies relating to the years in issue).
    3. The Parental Guaranty: Facilitating the Treatment of DTAs as
    General Business Assets Through 2006
    In response to the recurring DTA issue, Legacy requested that RAC
    guarantee DTAs relating to subsequent years. On September 17, 2003, RAC’s
    board of directors authorized the execution of a guaranty of “the obligations of
    Legacy to comply with the laws of Bermuda.” On the same day, RAC’s chairman
    10
    See infra pp. 15-16.
    - 13 -
    and chief executive officer executed a parental guaranty and sent it to Legacy’s
    board of directors. The parental guaranty provided:
    The undersigned, Rent-A-Center, Inc. a Delaware corporation (“Rent-
    A-Center”) is sole owner of 100% of the issued and outstanding
    shares in your share capital and as such DOES HEREBY
    GUARANTEE financial support for you, Legacy Insurance Co., Ltd.,
    * * * and for your business, as more particularly set out below, which
    is to say:
    Under the [Bermuda] Insurance Act * * * and related Regulations (the
    “Act”), Legacy Insurance Co., Ltd., must maintain certain solvency
    and liquidity margins and, in order to ensure continued compliance
    with the Act, it is necessary to support Legacy Insurance Co., Ltd.
    with a guarantee of its liabilities under the Act (the “Liabilities”) not
    to exceed Twenty-Five Million US dollars (US $25,000,000).
    Accordingly, Rent-A-Center DOES HEREBY GUARANTEE to you
    the payment in full of the Liabilities of Legacy Insurance Co., Ltd.
    and further to indemnify and hold harmless Legacy Insurance Co.,
    Ltd. from the Liabilities up to the maximum dollar amount
    [$25,000,000] indicated in the foregoing paragraph.
    Seeking regulatory approval to treat DTAs as general business assets in
    subsequent years, Legacy, on October 30, 2003, petitioned the BMA and attached
    the parental guaranty.
    On November 12, 2003, the BMA issued a directive which “approved the
    Parental Guarantee from Rent-A-Center, Inc. dated 17th September, 2003 up to an
    aggregate amount of $25,000,000 for utilization as part of * * * [Legacy]’s
    capitalization”. This approval was granted for the years ending December 31,
    - 14 -
    2003, 2004, 2005, and 2006. Legacy used the parental guaranty only to meet the
    minimum solvency margin (i.e., to treat DTAs as general business assets).11 On
    December 30, 2006, RAC unilaterally canceled the parental guaranty because
    Legacy met the minimum solvency margin without it.
    B. Legacy’s Ownership of RAC Treasury Shares
    Legacy purchased RAC treasury shares during 2004, 2005, and 2006. The
    BMA approved the purchases and allowed Legacy to treat the shares as general
    business assets for purposes of calculating its liquidity ratio (i.e., its ratio of
    general business assets to liabilities). Pursuant to Bermuda solvency regulations,
    an insurer fails to meet the liquidity ratio if the value of its general business assets
    is less than 75% of its liabilities. See Insurance Returns and Solvency
    Regulations, 1980, Appleby, Reg. 11(2). During the years in issue, Legacy met its
    liquidity ratio and did not resell the shares.
    C. Legacy’s Financial Reports
    For each policy period, Legacy’s auditor, Arthur Morris & Co. (Arthur
    Morris), prepared, and provided to RAC and the BMA, reports and financial
    statements. In these reports and statements, Arthur Morris calculated Legacy’s
    11
    See infra pp. 15-16.
    - 15 -
    DTAs,12 minimum solvency margin,13 premium-to-surplus ratio,14 and net
    underwriting income.15 During each of the years in issue, Legacy’s total statutory
    capital and surplus equaled or exceeded the BMA minimum solvency margin. In
    calculating total statutory capital and surplus, Arthur Morris took into account the
    following four components: contributed surplus, statutory surplus, capital stock,
    and other fixed capital (i.e., assets deemed to be general business assets). During
    2003, 2004, and 2005, Legacy included portions of the parental guaranty as
    general business assets. During the years in issue, the amounts of Legacy’s DTAs
    exceeded the portions of Legacy’s parental guaranty treated as general business
    assets. See infra p. 16. Arthur Morris calculated Legacy’s statutory surplus by
    adding statutory surplus at the beginning of the year and income for the year,
    subtracting dividends paid and payable, and making other adjustments relating to
    changes in assets.
    12
    See supra pp. 9-10.
    13
    See supra p. 11.
    14
    Premium-to-surplus ratio is one measure of an insurer’s economic
    performance. On Legacy’s reports and statements, Arthur Morris referred to
    Legacy’s premium-to-surplus ratio as the “premium to statutory capital & surplus
    ratio”. For purposes of this Opinion, there is no significant difference between
    these terms.
    15
    Net underwriting income equals gross premiums earned minus
    underwriting expenses.
    - 16 -
    The following table summarizes key details relating to Legacy’s policies:
    Minimum                          Net
    Policy                                  Parental           Total statutory    solvency     Premium-to-     underwriting
    period      Premium        DTAs       guaranty asset      capital & surplus    margin      surplus ratio     income
    2003       $42,800,300   $5,840,613    $4,805,764           $5,898,192        $5,898,192     8.983:1       $1,587,542
    2004        50,639,000    6,275,326     4,243,823               7,036,573      7,036,572     7.695:1        (982,000)
    2005        54,148,912    7,659,009     3,987,916               8,379,436      8,379,435     6.369:1        8,411,912
    2006        53,365,926    8,742,425        -0-              10,014,206         9,284,601     6.326:1        8,810,926
    2007        63,345,022    9,689,714        -0-              12,428,663        10,888,698     5.221:1       10,933,022
    2008        64,884,392    9,607,661        -0-              23,712,022        11,278,359     2.538:1       18,391,392
    IV. Procedural History
    Respondent sent petitioner, on January 7, 2008, a notice of deficiency
    relating to 2003; on December 22, 2009, a notice of deficiency relating to 2004
    and 2005; and on August 5, 2010, a notice of deficiency relating to 2006 and 2007
    (collectively, notices). In these notices, respondent determined that petitioner’s
    payments to Legacy were not deductible pursuant to section 162. On April 6,
    2009, March 22, 2010, and September 29, 2010, respectively, petitioner, whose
    principal place of business was Plano, Texas, timely filed petitions with the Court
    seeking redeterminations of the deficiencies set forth in the notices. After
    concessions, the remaining issue for decision is whether payments to Legacy were
    deductible.
    - 17 -
    OPINION
    In determining whether payments to Legacy were deductible, our initial
    inquiry is whether Legacy was a bona fide insurance company. See Harper Grp. v.
    Commissioner, 
    96 T.C. 45
    , 59 (1991), aff’d, 
    979 F.2d 1341
    (9th Cir. 1992);
    AMERCO v. Commissioner, 
    96 T.C. 18
    , 40-41 (1991), aff’d, 
    979 F.2d 162
    (9th
    Cir. 1992). We respect the separate taxable treatment of a captive unless there is a
    finding of sham or lack of business purpose. See Moline Props., Inc. v.
    Commissioner, 
    319 U.S. 436
    , 439 (1943); Harper Grp. v. 
    Commissioner, 96 T.C. at 57-59
    . Respondent contends that Legacy was a sham entity created primarily to
    generate Federal income tax savings.
    I. Legacy Was Not a Sham
    A. Legacy Was Created for Significant and Legitimate Nontax Reasons
    After successfully resolving petitioner’s D&O insurance problem, Aon
    evaluated petitioner’s risk management department. Petitioner, with Aon’s
    assistance, improved risk management practices, switched from bundled to
    unbundled policies, and hired SRS as a third-party administrator. Aon proposed
    that petitioner form a captive, and petitioner determined that a captive would allow
    it to reduce its insurance costs, obtain otherwise unavailable insurance coverage,
    formalize and more efficiently manage its insurance program, and provide
    - 18 -
    accountability and transparency relating to insurance costs. Petitioner engaged
    KPMG to prepare financial projections and evaluate tax considerations referenced
    in the feasibility study. Federal income tax consequences were considered, but the
    formation of Legacy was not a tax-driven transaction. See Moline Props., Inc. v.
    
    Commissioner, 319 U.S. at 439
    ; Britt v. United States, 
    431 F.2d 227
    , 235-236 (5th
    Cir. 1970); Bass v. Commissioner, 
    50 T.C. 595
    , 600 (1968). To the contrary, in
    forming Legacy, petitioner made a business decision premised on a myriad of
    significant and legitimate nontax considerations. See Jones v. Commissioner, 
    64 T.C. 1066
    , 1076 (1975) (“A corporation is not a ‘sham’ if it was organized for
    legitimate business purposes or if it engages in a substantial business activity.”);
    Bass v. Commissioner, 
    50 T.C. 600
    .
    B. There Was No Impermissible Circular Flow of Funds
    Respondent further contends that Legacy was “not an independent fund, but
    an accounting device”. In support of this contention, respondent cites a purported
    “circular flow of funds” through Legacy, RAC, and RAC’s subsidiaries.
    Respondent’s expert, however, readily acknowledged that he found no evidence of
    a circular flow of funds, nor have we. Legacy, with the approval of the BMA,
    purchased RAC treasury shares but did not resell them. Furthermore, petitioner
    established that there was nothing unusual about the manner in which premiums
    - 19 -
    and claims were paid. Finally, respondent contends that the netting of premiums
    owed to Legacy during 2003 is evidence that Legacy was a sham. We disagree.
    This netting was simply a bookkeeping measure performed as an administrative
    convenience.
    C. The Premium-to-Surplus Ratios Do Not Indicate That Legacy Was a
    Sham
    Respondent emphasizes that, during the years in issue, Legacy’s premium-
    to-surplus ratios were above the ratios of U.S. property and casualty insurance
    companies and Bermuda class 4 insurers16 (collectively, commercial insurance
    companies). On cross-examination, however, respondent’s expert admitted that
    his analysis of commercial insurance companies contained erroneous numbers.
    Furthermore, he failed to properly explain the profitability data he cited and did
    not include relevant data relating to Legacy. Moreover, his comparison, of
    Legacy’s premium-to-surplus ratios with the ratios of commercial insurance
    companies, was not instructive. Commercial insurance companies have lower
    premium-to-surplus ratios because they face competition and, as a result, typically
    price their premiums to have significant underwriting losses. They compensate for
    16
    A class 4 insurance company may carry on insurance business, including
    excess liability business or property catastrophe reinsurance business. See
    Insurance Act, 1978, sec. 4E.
    - 20 -
    underwriting losses by retaining sufficient assets (i.e., more assets per dollar of
    premium resulting in lower premium-to-surplus ratios) to earn ample amounts of
    investment income. Captives in Bermuda, however, have fewer assets per dollar
    of premium (i.e., higher premium-to-surplus ratios) but generate significant
    underwriting profits because their premiums reflect the full dollar value, rather
    than the present value, of expected losses. Simply put, the premium-to-surplus
    ratios do not indicate that Legacy was a sham.
    D. Legacy Was a Bona Fide Insurance Company
    Petitioner presented convincing, and essentially uncontradicted, evidence
    that Legacy was a bona fide insurance company. As respondent concedes,
    petitioner faced actual and insurable risk. Comparable coverage with other
    insurance companies would have been more expensive, and some insurance
    companies (e.g., Discover Re) would not underwrite the coverage provided by
    Legacy. In addition, RAC established Legacy for legitimate business reasons,
    including: increasing the accountability and transparency of its insurance
    operations, accessing new insurance markets, and reducing risk management costs.
    Furthermore, Legacy entered into bona fide arm’s-length contracts with petitioner;
    charged actuarially determined premiums; was subject to the BMA’s regulatory
    control; met Bermuda’s minimum statutory requirements; paid claims from its
    - 21 -
    separately maintained account; and, as respondent’s expert readily admitted, was
    adequately capitalized. See Humana Inc. & Subs. v. Commissioner, 
    881 F.2d 247
    ,
    253 (6th Cir. 1989), aff’g in part, rev’g in part and remanding 
    88 T.C. 197
    , 206
    (1987); Harper Grp. v. Commissioner, 
    96 T.C. 59
    . Moreover, the validity of
    claims Legacy paid was established by SRS, an independent third-party
    administrator, which also determined the validity of claims pursuant to the
    Discover Re policies. See Harper Grp. v. Commissioner, 
    96 T.C. 59
    . Finally,
    RAC’s subsidiaries did not own stock in, or contribute capital to, Legacy.
    II. The Payments to Legacy Were Deductible Insurance Expenses
    The Code does not define insurance. The Supreme Court, however, has
    established two necessary criteria: risk shifting and risk distribution. See
    Helvering v. Le Gierse, 
    312 U.S. 531
    , 539 (1941). In addition, the arrangement
    must involve insurance risk and meet commonly accepted notions of insurance.
    See Harper Grp. v. Commissioner, 
    96 T.C. 58
    ; AMERCO v. Commissioner, 
    96 T.C. 38
    . These four criteria are not independent or exclusive, but establish a
    framework for determining “the existence of insurance for Federal tax purposes.”
    See AMERCO v. Commissioner, 
    96 T.C. 38
    . Insurance premiums may be
    deductible. A taxpayer may not, however, deduct amounts set aside in its own
    possession to compensate itself for perils which are generally the subject of
    - 22 -
    insurance. See Clougherty Packing Co. v. Commissioner, 
    84 T.C. 948
    , 958
    (1985), aff’d, 
    811 F.2d 1297
    (9th Cir. 1987). We consider all of the facts and
    circumstances to determine whether an arrangement qualifies as insurance. See
    Harper Grp. v. Commissioner, 
    96 T.C. 57
    . Respondent contends that payments
    to Legacy represent amounts petitioner set aside to self-insure its risks.
    A. The Policies at Issue Involved Insurance Risk
    Respondent concedes that petitioner faced insurable risk relating to all three
    types of risk: workers’ compensation, automobile, and general liability. Petitioner
    entered into contracts with Legacy and Discover Re to address these three types of
    risk. Thus, insurance risk was present in the arrangement between petitioner and
    Legacy.
    B. Risk Shifting
    We must now determine whether the policies at issue shifted risk between
    RAC’s subsidiaries and Legacy. This requires a review of our cases relating to
    captive insurance arrangements.
    1. Precedent Relating to Parent-Subsidiary Arrangements
    In 1978, we analyzed parent-subsidiary captive arrangements for the first
    time. See Carnation Co. v. Commissioner, 
    71 T.C. 400
    (1978), aff’d, 
    640 F.2d 1010
    (9th Cir. 1981). In Carnation, the parties entered into two insurance
    - 23 -
    contracts: an agreement between Carnation and an unrelated insurer, and a
    reinsurance agreement between the captive and the unrelated insurer. 
    Id. at 402-
    404. The unrelated insurer expressed concern to Carnation about the captive’s
    financial stability and requested a letter of credit or other guaranty. 
    Id. at 404.
    Carnation refused to issue a letter of credit or other guaranty but did execute an
    agreement to provide, upon demand, $2,880,000 of additional capital to the
    captive. 
    Id. at 402-
    404. We held, relying on Le Gierse, that the parent-subsidiary
    arrangement was not insurance because the three agreements (i.e., the two
    insurance contracts and the agreement to further capitalize the captive), when
    considered together, were void of insurance risk. 
    Id. at 409.
    The Court of
    Appeals for the Ninth Circuit affirmed and concluded that our application of Le
    Gierse was appropriate given the interdependence of the three agreements. See
    Carnation Co. v. 
    Commissioner, 640 F.2d at 1013
    . Furthermore, the Court of
    Appeals held that “[t]he key was that * * * [the unrelated insurer] refused to enter
    into the reinsurance contract with * * * [the captive] unless Carnation” executed
    the capitalization agreement. See 
    id. In Clougherty,
    our next opportunity to analyze a parent-subsidiary captive
    arrangement, the parties entered into two insurance contracts: an agreement
    between Clougherty and an unrelated insurer, and a reinsurance agreement
    - 24 -
    between the captive and the unrelated insurer. Clougherty Packing Co. v.
    Commissioner, 
    84 T.C. 952
    . We concluded that “the operative facts[17] in the
    instant case * * * [were] indistinguishable from the facts in Carnation”, analyzed
    Clougherty’s balance sheet, and held that risk did not shift to the captive:
    We found in Carnation, as we find here, that to the extent the
    risk was not shifted, insurance does not exist and the payments to that
    extent are not insurance premiums. The measure of the risk shifted is
    the percentage of the premium not ceded. This is nothing more than a
    recharacterization of the payments which petitioner seeks to deduct as
    insurance premiums.
    
    Id. at 956,
    958-959. The Commissioner urged us to adopt his economic family
    theory, which posits that
    the insuring parent corporation and its domestic subsidiaries, and the
    wholly owned “insurance” subsidiary, though separate corporate
    entities, represent one economic family with the result that those who
    bear the ultimate economic burden of loss are the same persons who
    suffer the loss. To the extent that the risks of loss are not retained in
    their entirety by * * * or reinsured with * * * insurance companies
    that are unrelated to the economic family of insureds, there is no risk-
    shifting or risk-distributing, and no insurance, the premiums for
    which are deductible under section 162 of the Code.
    Rev. Rul. 77-316, 1977-2 C.B. 53, 54. In rejecting the Commissioner’s economic
    family theory, we emphasized that “[w]e have done nothing more in Carnation and
    17
    Our Opinion emphasized that the “operative” facts related to the
    “interdependence of all of the agreements” as confirmed by the “execution dates”.
    See Clougherty Packing Co. v. Commissioner, 
    84 T.C. 948
    , 957 (1985), aff’d, 
    811 F.2d 1297
    (9th Cir. 1987).
    - 25 -
    here but to reclassify, as nondeductible, portions of the payments which the
    taxpayers deducted as insurance premiums but which were received by the
    taxpayer’s captive insurance subsidiaries.” See Clougherty Packing Co. v.
    Commissioner, 
    84 T.C. 960
    .
    The Court of Appeals for the Ninth Circuit affirmed our decision in
    Clougherty and applied a balance sheet and net worth analysis, pursuant to which
    a determination of whether risk has shifted depends on whether a covered loss
    affects the balance sheet and net worth of the insured. See Clougherty Packing
    Co. v. 
    Commissioner, 811 F.2d at 1305
    . In defining insurance, the Court of
    Appeals stated that “a true insurance agreement must remove the risk of loss from
    the insured party.” 
    Id. at 1306.
    The Court of Appeals elaborated:
    [W]e examine the economic consequences of the captive insurance
    arrangement to the “insured” party to see if that party has, in fact,
    shifted the risk. In doing so, we look only to the insured’s assets, i.e.,
    those of Clougherty, to determine whether it has divested itself of the
    adverse economic consequences of a covered workers’ compensation
    claim. Viewing only Clougherty’s assets and considering only the
    effect of a claim on those assets, it is clear that the risk of loss has not
    been shifted from Clougherty.
    
    Id. at 1305.
    Furthermore, the Court of Appeals explained that the balance sheet
    and net worth analysis does not ignore separate corporate existence:
    Moline Properties requires that related corporate entities be afforded
    separate tax status and treatment. It does not require that the
    - 26 -
    Commissioner, in determining whether a corporation has shifted its
    risk of loss, ignore the effect of a loss upon one of the corporation’s
    assets merely because that asset happens to be stock in a subsidiary.
    Because we only consider the effect of a covered claim on
    Clougherty’s assets, our analysis in no way contravenes Moline
    Properties.
    
    Id. at 1307.
    Finally, the Court of Appeals concluded that “[t]he parent of a captive
    insurer retains an economic stake in whether a covered loss occurs. Accordingly,
    an insurance agreement between parent and captive does not shift the parent’s risk
    of loss and is not an agreement for ‘insurance.’” 
    Id. 2. Precedent
    Relating to Brother-Sister Arrangements
    In Humana Inc. & Subs. v. Commissioner, 
    88 T.C. 206
    , we were faced
    with two distinct issues: the deductibility of premiums paid by a parent to a
    captive (parent-subsidiary arrangement) and the deductibility of premiums paid by
    affiliated subsidiaries to a captive (brother-sister arrangement). Humana, Inc.
    (Humana), operated a hospital network and, in 1976, was unable to renew its
    existing policies relating to workers’ compensation, malpractice, and general
    liability. 
    Id. at 200.
    Humana’s insurance broker could not obtain comparable
    coverage and recommended that Humana establish a captive insurance company.
    
    Id. Humana subsequently
    incorporated, and capitalized with $1 million, a
    Colorado captive. 
    Id. at 201-202.
    The captive provided coverage relating to
    - 27 -
    Humana and its subsidiaries’ workers’ compensation, malpractice, and general
    liability. 
    Id. at 202-204.
    Humana paid the captive a monthly premium which was
    allocated among itself and each operating subsidiary. 
    Id. at 203.
    We held that the parent-subsidiary premiums were not deductible because
    Humana did not shift risk to the captive. See 
    id. at 206-207.
    The brother-sister
    arrangement, however, presented an issue of first impression. See 
    id. at 208.
    We
    rejected the Commissioner’s economic family theory and held “that it is more
    appropriate to examine all of the facts to decide whether or to what extent there
    has been a shifting of the risk from one entity to the captive insurance company.”
    See 
    id. at 214.
    We extended our rationale from Carnation and Clougherty (i.e.,
    recharacterizing a captive insurance arrangement as self-insurance) to brother-
    sister arrangements and stated that declining to do so “would exalt form over
    substance and permit a taxpayer to circumvent our holdings by simple corporate
    structural changes.” See 
    id. at 213.
    The report on which we relied, prepared by
    Irving Plotkin, stated: “‘A firm placing its risks in a captive insurance company in
    which it holds a sole or predominant ownership position, is not relieving itself of
    financial uncertainty.’” 
    Id. at 210
    (fn. ref. omitted). In addition, the report stated:
    “True insurance relieves the firm’s balance sheet of any
    potential impact of the financial consequences of the insured peril.
    For the price of the premiums, the insured rids itself of any economic
    - 28 -
    stake in whether or not the loss occurs. * * * [However] as long as the
    firm deals with its captive, its balance sheet cannot be protected from
    the financial vicissitudes of the insured peril.”
    Humana Inc. & Subs. v. Commissioner, 
    88 T.C. 211-212
    (alteration in original)
    (fn. ref. omitted). After quoting extensively from the report and analyzing the
    facts, “[w]e conclude[d] that there was not the necessary shifting of risk from the
    operating subsidiaries of Humana Inc. to * * * [the captive] and, therefore, the
    amounts charged by Humana Inc. to its subsidiaries did not constitute insurance.”
    See 
    id. at 214.
    Seven Judges concurred with the opinion of the Court’s parent-subsidiary
    holding but disagreed with the brother-sister holding. See 
    id. at 219
    (Korner, J.,
    concurring and dissenting). They found the opinion of the Court’s rationale
    “disingenuous and entirely unconvincing” and asserted that the opinion of the
    Court had implicitly adopted the Commissioner’s “economic family” theory. 
    Id. at 223.
    After emphasizing that the subsidiaries had no ownership interest in the
    captive, paid premiums for their own insurance, and would not be affected (i.e.,
    their balance sheets and net worth) by the payment of an insured claim, the dissent
    further stated:
    The theory of Helvering v. Le Gierse, 
    312 U.S. 531
    (1941), may have
    been adequate to sustain the holdings in Carnation and Clougherty,
    where only a parent and its insurance subsidiary were involved. It
    - 29 -
    cannot be stretched to cover the instant brother-sister situation, where
    there was nothing--equity ownership or otherwise--to offset the
    shifting of risk from the hospital subsidiaries to * * * [the captive]. If
    the majority is to accomplish the fell deed here, “a decent respect to
    the opinions of mankind requires that they should declare the causes
    which impel them” to such a result.
    
    Id. at 224
    (fn. ref. omitted).
    The Court of Appeals for the Sixth Circuit affirmed our decision relating to
    the parent-subsidiary arrangement, but reversed our decision relating to the
    brother-sister arrangement.18 See Humana Inc. & Subs. v. 
    Commissioner, 881 F.2d at 251-252
    . The Court of Appeals for the Sixth Circuit adopted the Court of
    Appeals for the Ninth Circuit’s balance sheet and net worth analysis and held that
    the subsidiaries’ payments to the captive were deductible. 
    Id. at 252
    (“[W]e look
    solely to the insured’s assets, * * * and consider only the effect of a claim on those
    assets[.]” (citing Clougherty v. 
    Commissioner, 811 F.2d at 1305
    )). In rejecting our
    holding relating to the brother-sister arrangement, the Court of Appeals stated that
    “the tax court incorrectly extended the rationale of Carnation and Clougherty in
    holding that the premiums paid by the subsidiaries of Humana Inc. to * * * [the
    captive], as charged to them by Humana Inc., did not constitute valid insurance
    18
    We need not defer to the Court of Appeals for the Sixth Circuit’s holding
    because this matter is appealable to the Court of Appeals for the Fifth Circuit,
    which has not addressed this issue. See Golsen v. Commissioner, 
    54 T.C. 742
    ,
    757 (1970), aff’d, 
    445 F.2d 985
    (10th Cir. 1971).
    - 30 -
    agreements” and concluded that “[n]either Carnation nor Clougherty * * * provide
    a basis for denying the deductions in the brother-sister * * * [arrangement].” 
    Id. at 252
    -253. In response to our rationalization that “[i]f we decline to extend our
    holdings in Carnation and Clougherty to the brother-sister factual pattern, we
    would exalt form over substance and permit a taxpayer to circumvent our holdings
    by simple corporate structural changes”, the Court of Appeals stated:
    Such an argument provides no legal justification for denying the
    deduction in the brother-sister context. The legal test is whether there
    has been risk distribution and risk shifting, not whether Humana Inc.
    is a common parent or whether its affiliates are in a brother-sister
    relationship to * * * [the captive]. We do not focus on the
    relationship of the parties per se or the particular structure of the
    corporation involved. We look to the assets of the insured. * * * If
    Humana changes its corporate structure and that change involves risk
    shifting and risk distribution, and that change is for a legitimate
    business purpose and is not a sham to avoid the payment of taxes,
    then it is irrelevant whether the changed corporate structure has the
    side effect of also permitting Humana Inc.’s affiliates to take
    advantage of the Internal Revenue Code § 162(a) (1954) and deduct
    payments to a captive insurance company under the control of the
    Humana parent as insurance premiums.
    
    Id. at 255-256.
    The Court of Appeals held that “[t]he test to determine whether a
    transaction under the Internal Revenue Code § 162(a) * * * is legitimate or
    illegitimate is not a vague and broad ‘economic reality’ test. The test is whether
    there is risk shifting and risk distribution.” Humana Inc. & Subs. v.
    - 31 -
    
    Commissioner, 881 F.2d at 255
    . The Court of Appeals further addressed our
    analysis and stated:
    The tax court cannot avoid direct confrontation with the
    separate corporate existence doctrine of Moline Properties by
    claiming that its decision does not rest on “economic family”
    principles because it is merely reclassifying or recharacterizing the
    transaction as nondeductible additions to a reserve for losses. The tax
    court argues in its opinion that such “recharacterization” does not
    disregard the separate corporate status of the entities involved, but
    merely disregards the particular transactions between the entities in
    order to take into account substance over form and the “economic
    reality” of the transaction that no risk has shifted.
    The tax court misapplies this substance over form argument.
    The substance over form or economic reality argument is not a broad
    legal doctrine designed to distinguish between legitimate and
    illegitimate transactions and employed at the discretion of the tax
    court whenever it feels that a taxpayer is taking advantage of the tax
    laws to produce a favorable result for the taxpayer. * * * The
    substance over form analysis, rather, is a distinct and limited
    exception to the general rule under Moline Properties that separate
    entities must be respected as such for tax purposes. The substance
    over form doctrine applies to disregard the separate corporate entity
    where “Congress has evinced an intent to the contrary” * * *
    
    Id. at 254.
    In short, we do not look to the parent to determine whether premiums
    paid by the subsidiaries to the captive are deductible. 
    Id. at 252
    . The policies
    shifted risk because claims paid by the captive did not affect the net worth of
    Humana’s subsidiaries. See 
    id. at 252-253.
                                            - 32 -
    3. Brother-Sister Arrangements May Shift Risk
    We find persuasive the Court of Appeals for the Sixth Circuit’s critique of
    our analysis of the brother-sister arrangement in Humana. First, our extension of
    Carnation and Clougherty to brother-sister arrangements was improper. As the
    Court of Appeals correctly concluded: “Carnation dealt solely with the parent-
    subsidiary issue, not the brother-sister issue. Likewise, Clougherty dealt only with
    the parent-subsidiary issue and not the brother-sister issue. Nothing in either
    Carnation or Clougherty lends support for denying the deductibility of the
    payments in the brother-sister context.” 
    Id. at 253-254.
    Second, the opinion of the Court’s extensive reliance on Plotkin’s report to
    analyze the brother-sister arrangement was inappropriate. The report in Humana
    addressed parent-subsidiary, rather than brother-sister, arrangements. See Humana
    Inc. & Subs. v. Commissioner, 
    88 T.C. 209
    ; see also supra pp. 26-31. In the
    instant cases, Plotkin explicitly addressed brother-sister arrangements and stated:
    Even though the brother, the captive, and the parent are in the
    same economic family, to the extent that a brother has no ownership
    interest in the captive, the results of the parent-captive analysis do not
    apply. It is not the presence or absence of unrelated business, nor the
    number of other insureds (be they affiliates or non-affiliates), but it is
    the absence of ownership, the captive’s capital, and the number of
    statistically independent risks (regardless of who owns them) that
    enables the captive to provide the brother with true insurance as a
    matter of economics and finance.
    - 33 -
    We agree. Humana’s subsidiaries had no ownership interest in the captive. See
    Humana Inc. & Subs. v. Commissioner, 
    88 T.C. 201-202
    . Thus, the parent-
    subsidiary analysis employed by the opinion of the Court was incorrect.
    Third, we did not properly analyze the facts and circumstances. See 
    id. at 214.
    The balance sheet and net worth analysis provides the proper analytical
    framework to determine risk shifting in brother-sister arrangements. See Humana
    Inc. & Subs. v. 
    Commissioner, 881 F.2d at 252
    ; Clougherty Packing Co. v.
    
    Commissioner, 811 F.2d at 1305
    . Instead, we implicitly employed a substance-
    over-form rationale to recharacterize Humana’s subsidiaries’ payments as amounts
    set aside for self-insurance and referenced, but did not apply, the balance sheet and
    net worth analysis. Indeed, we did not “examine the economic consequences of
    the captive insurance arrangement to the ‘insured’ party to see if that party * * *
    [had], in fact, shifted the risk.” See Clougherty v. 
    Commissioner, 811 F.2d at 1305
    .
    4. The Legacy Policies Shifted Risk
    In determining whether Legacy’s policies shifted risk, we narrow our
    scrutiny to the arrangement’s economic impact on RAC’s subsidiaries (i.e., the
    insured entities). See Humana Inc. & Subs. v. 
    Commissioner, 881 F.2d at 252
    -
    - 34 -
    253; Clougherty Packing Co. v. 
    Commissioner, 811 F.2d at 1305
    (“[W]e examine
    the economic consequences of the captive insurance arrangement to the ‘insured’
    party to see if that party has, in fact, shifted the risk. In doing so, we look only to
    the insured’s assets”[.]). In direct testimony respondent’s expert, however,
    emphasized that petitioner’s “captive program * * * [did] not involve risk shifting
    that * * * [was] comparable to that provided by a commercial insurance program.”
    We decline his invitation to premise our holding on a specious comparability
    analysis. Simply put, the risk either was, or was not, shifted.
    The policies at issue shifted risk from RAC’s insured subsidiaries to
    Legacy, which was formed for a valid business purpose; was a separate,
    independent, and viable entity; was financially capable of meeting its obligations;
    and reimbursed RAC’s subsidiaries when they suffered an insurable loss. See
    Sears, Roebuck & Co. v. Commissioner, 
    96 T.C. 61
    , 100-101 (1991), aff’d in part,
    rev’d in part, 
    972 F.2d 858
    (7th Cir. 1992); AMERCO v. 
    Commissioner, 96 T.C. at 41
    . Moreover, a payment from Legacy to RAC’s subsidiaries did not reduce the
    net worth of RAC’s subsidiaries because, unlike RAC, the subsidiaries did not
    own stock in Legacy. Indeed, on cross-examination, respondent’s expert
    conceded that the balance sheets and net worth of RAC’s subsidiaries were not
    affected by a covered loss and that the policies shifted risk:
    - 35 -
    [Petitioner’s counsel:] But if the loss gets paid, whose balance sheet
    gets affected in that case?
    [Respondent’s expert:] What’s hanging me up is that I don’t know
    whether--I guess you’re right, because * * * [RAC’s subsidiary] will
    treat the payment from--the payment that it expects from Legacy as an
    asset, so the loss would hit Legacy’s [balance sheet].
    [Petitioner’s counsel:] But it wouldn’t hit * * * [RAC’s
    subsidiary’s] balance sheet.
    [Respondent’s expert:] I would think that’s right. * * *
    [Petitioner’s counsel:] Why is that not risk-shifting?
    [Respondent’s expert:] That’s an--why is that not risk-shifting?
    [Petitioner’s counsel:] Yes. Why is that not risk-shifting? Why
    hasn’t [RAC’s subsidiary] shifted its risk to Legacy? Its insurance
    risk--why hasn’t it shifted to Legacy in that scenario?
    [Respondent’s expert:] I mean, I would say from an accounting
    perspective, it has managed to have--is it--if we’re going to respect all
    these [corporate] forms, then it will have shifted that risk.
    5. The Parental Guaranty Did Not Vitiate Risk Shifting
    Legacy, in March 2003, petitioned the BMA and received approval, through
    December 31, 2003, to treat DTAs as general business assets. On September 17,
    2003, RAC issued the parental guaranty to Legacy, which petitioned, and received
    permission from, the BMA to treat DTAs as general business assets through
    December 31, 2006. Respondent contends that the parental guaranty abrogated
    - 36 -
    risk shifting between Legacy and RAC’s subsidiaries. We disagree. First, and
    most importantly, the parental guaranty did not affect the balance sheets or net
    worth of the subsidiaries insured by Legacy. Petitioner’s expert, in response to a
    question the Court posed during cross-examination, convincingly countered
    respondent’s contention:
    [The Court]: * * * [W]hat impact does the corporate structure have
    on the effect of the parental guarantee?
    [Petitioner’s expert]: I think it has a great impact on it. None of the
    subs, as I understand it, are entering in or [are] a part of that
    guarantee. Only the subs are effectively insureds under the policy.
    They are the only ones who produce risks that could be covered. The
    guarantee in no way vitiates the completeness of the transfer of their
    uncertainty, their risk, to the insuring subsidiary.
    Even if one assumes that the guarantee increases the capital that the
    captive could use to pay losses, none of those payments would go to
    the detriment of the sub as a separate legal entity.
    Second, the cases upon which respondent relies are distinguishable.
    Respondent cites Malone & Hyde, Inc. v. Commissioner, 
    62 F.3d 835
    , 841 (6th
    Cir. 1995) (holding that a reinsurance arrangement was not bona fide because the
    captive was undercapitalized and the parent guaranteed the captive’s obligations to
    an unrelated insurer), rev’g T.C. Memo. 1993-585; Carnation Co. v.
    Commissioner, 
    71 T.C. 404
    , 409 (holding that a reinsurance arrangement lacked
    insurance risk where the captive was undercapitalized and, at the insistence of an
    - 37 -
    unrelated primary insurer, the parent agreed to provide additional capital); and
    Kidde Indus., Inc. v. United States, 
    40 Fed. Cl. 42
    , 49-50 (1997) (holding that a
    reinsurance arrangement lacked risk shifting because the parent indemnified the
    captive’s obligation to pay an unrelated primary insurer). Unlike the agreements
    in these cases, the parental guaranty did not shift the ultimate risk of loss; did not
    involve an undercapitalized captive; and was not issued to, or requested by, an
    unrelated insurer. Cf. Malone & Hyde, Inc. v. 
    Commissioner, 62 F.3d at 841-843
    ;
    Carnation Co. v. Commissioner, 
    71 T.C. 404
    , 409; Kidde Indus., Inc., 40 Fed.
    Cl. at 49-50.
    Third, RAC guaranteed Legacy’s “liabilities under the Act [(i.e., the
    Bermuda Insurance Act and related regulations)]”, pursuant to which Legacy was
    required to maintain “certain solvency and liquidity margins”. RAC did not pay
    any money pursuant to the parental guaranty and Legacy’s “liabilities under the
    Act” did not include Legacy’s contractual obligations to RAC’s affiliates or
    obligations to unrelated insurers. For purposes of calculating the minimum
    solvency margin, Legacy treated a portion of the parental guaranty as a general
    business asset. See supra pp. 15-16. In sum, by providing the parental guaranty to
    the BMA, Legacy received permission to treat DTAs as general business assets
    - 38 -
    and ensured its continued compliance with the BMA’s solvency requirements.19
    The parental guaranty served no other purpose and was unilaterally revoked by
    RAC, in 2006, when Legacy met the BMA’s solvency requirements without
    reference to DTAs.
    C. The Legacy Policies Distributed Risk
    Risk distribution occurs when an insurer pools a large enough collection of
    unrelated risks (i.e., risks that are generally unaffected by the same event or
    circumstance). See Humana Inc. & Subs. v. 
    Commissioner, 881 F.2d at 257
    . “By
    assuming numerous relatively small, independent risks that occur randomly over
    time, the insurer smoothes out losses to match more closely its receipt of
    premiums.” Clougherty Packing Co. v. 
    Commissioner, 811 F.2d at 1300
    . This
    distribution also allows the insurer to more accurately predict expected future
    losses. In analyzing risk distribution, we look at the actions of the insurer because
    it is the insurer’s, not the insured’s, risk that is reduced by risk distribution. See
    Harper Grp. v. Commissioner, 
    96 T.C. 57
    . A captive may achieve adequate risk
    distribution by insuring only subsidiaries within its affiliated group. See Humana
    19
    Legacy used a portion of the parental guaranty as a general business asset.
    See supra pp. 15-16. Legacy’s DTAs always exceeded the amount of the parental
    guaranty treated as a general business asset. See supra pp. 15-16.
    - 39 -
    Inc. & Subs. v. 
    Commissioner, 881 F.2d at 257
    ; Rev. Rul. 2002-90, 2002-2 C.B.
    985.
    Legacy insured three types of risk: workers’ compensation, automobile, and
    general liability. During the years in issue, RAC’s subsidiaries owned between
    2,623 and 3,081 stores; had between 14,300 and 19,740 employees; and operated
    between 7,143 and 8,027 insured vehicles. RAC’s subsidiaries operated stores in
    all 50 States, the District of Columbia, Puerto Rico, and Canada. RAC’s
    subsidiaries had a sufficient number of statistically independent risks. Thus, by
    insuring RAC’s subsidiaries, Legacy achieved adequate risk distribution. See
    Humana Inc. & Subs. v. 
    Commissioner, 881 F.2d at 257
    .
    D. The Arrangement Constituted Insurance in the Commonly Accepted
    Sense
    Legacy was adequately capitalized, regulated by the BMA, and organized
    and operated as an insurance company. Furthermore, Legacy issued valid and
    binding policies, charged and received actuarially determined premiums, and paid
    claims. In short, the arrangement between RAC’s subsidiaries and Legacy
    constituted insurance in the commonly accepted sense. See Harper Grp. v.
    Commissioner, 
    96 T.C. 60
    .
    - 40 -
    Conclusion
    The payments by RAC’s subsidiaries to Legacy are, pursuant to section 162,
    deductible as insurance expenses.
    Contentions we have not addressed are irrelevant, moot, or meritless.
    To reflect the foregoing,
    Decisions will be entered under
    Rule 155.
    Reviewed by the Court.
    THORNTON, VASQUEZ, WHERRY, HOLMES, BUCH, and NEGA, JJ.,
    agree with this opinion of the Court.
    GOEKE, J., did not participate in the consideration of this opinion.
    - 41 -
    BUCH, J., concurring: To the extent respondent is arguing that a captive
    insurance arrangement between brother-sister corporations cannot be insurance as
    a matter of law, we need not reach that issue. In Rev. Rul. 2001-31, 2001-1 C.B.
    1348, 1348, the Internal Revenue Service stated that it would “no longer invoke
    the economic family theory with respect to captive insurance transactions.” And
    in Rauenhorst v. Commissioner, 
    119 T.C. 157
    , 173 (2002), we held that we may
    treat as a concession a position taken by the IRS in a revenue ruling that has not
    been revoked. Because Rev. Rul. 2001-31 has not been revoked, we could treat
    the economic family argument as conceded.
    At the same time the IRS abandoned the economic family theory, it made
    clear that it would “continue to challenge certain captive insurance transactions
    based on the facts and circumstances of each case.” Rev. Rul. 2001-31, 2001-1
    C.B. at 1348. Then, in a series of revenue rulings, the IRS shed light on the facts
    and circumstances it deemed relevant. See Rev. Rul. 2005-40, 2005-2 C.B. 4;
    Rev. Rul. 2002-91, 2002-2 C.B. 991; Rev. Rul. 2002-90, 2002-2 C.B. 985; Rev.
    Rul. 2002-89, 2002-2 C.B. 984.
    The concise opinion of the Court sets forth facts and circumstances
    supporting its conclusion. I write separately to respond to points made in Judge
    Lauber’s dissent.
    - 42 -
    I.    Legacy’s Policies
    Taking into account the nature of risks that Legacy insured, Legacy was
    sufficiently capitalized.
    A.     Long-Tail Coverage
    During each of the years in issue Legacy insured three types of risk:
    workers’ compensation, automobile, and general liability. Policies relating to
    these risks are generally referred to as long-tail coverage because “claims may
    involve damages that are not readily observable or injuries that are difficult to
    ascertain.” See Acuity v. Commissioner, T.C. Memo. 2013-209, at *8-*9.
    Workers’ compensation insurance, which generated between 66% and 73% of
    Legacy’s premiums1 during the years in issue, “is generally long tail coverage
    because of the inherent uncertainty in determining the extent of an injured
    worker’s need for medical treatment and loss of wages for time off work.” 
    Id. An insurer
    pays out claims relating to long-tail coverage over an extended period.
    B.     Rent-A-Center’s Insurance Program
    Rent-A-Center did not obtain insurance solely from Legacy; Rent-A-Center
    also obtained insurance from multiple unrelated third parties. Legacy was
    1
    Legacy’s premiums attributable to workers’ compensation liability were
    $28,586,597 in 2003; $35,392,000 in 2004; $36,463,579 in 2005; $39,086,374 in
    2006; and $45,425,032 in 2007.
    - 43 -
    responsible for only a portion of each claim (e.g., the first $350,000 of each
    workers’ compensation claim during 2003). To the extent that a claim exceeded
    Legacy’s coverage, a third-party insurer was responsible for paying the excess
    amount. Rent-A-Center obtained coverage from unrelated third-party insurers for
    claims of up to approximately $75 million. Therefore, extraordinary losses would
    not affect Legacy’s ability to pay claims because they would be covered by
    unrelated third parties.
    C.     Allocation Formula
    Premiums were actuarially determined. At trial respondent conceded that
    Aon “produced reliable and professionally produced and competent actuarial
    studies.” Legacy relied on these studies to set premiums. Once Legacy
    determined the premium, Rent-A-Center allocated it to each operating subsidiary
    in the same manner that it allocated premiums relating to unrelated insurers. In a
    captive arrangement, a parent may allocate a premium among its subsidiaries. See
    Humana Inc. & Subs. v. Commissioner, 
    881 F.2d 247
    , 248 (6th Cir. 1989)
    (“Humana Inc. allocated and charged to the subsidiaries portions of the amounts
    paid representing the share each bore for the hospitals each operated.”), aff’g in
    part, rev’g in part and remanding 
    88 T.C. 197
    (1987); Kidde Indus., Inc. v. United
    States, 
    40 Fed. Cl. 42
    , 45 (1997) (“National determined the premiums that it
    - 44 -
    charged Kidde based in part on underwriting data supplied by Kidde’s divisions
    and subsidiaries * * * Kidde used these same data to allocate the total premiums
    among its divisions and subsidiaries.”).
    II.   The Parental Guaranty
    Citing a footnote in Humana, Judge Lauber’s dissenting opinion asserts that
    the existence of a parental guaranty is enough to justify disregarding the captive
    insurance arrangement. That footnote, however, addresses only situations in
    which there is both inadequate capitalization and a parental guaranty, concluding:
    “These weaknesses alone provided a sufficient basis from which to find no risk
    shifting and to decide the cases in favor of the Commissioner.” Humana Inc. &
    Subs. v. 
    Commissioner, 881 F.2d at 254
    n.2 (emphasis added). Here, the fact
    finder did not find inadequate capitalization. And the mere existence of a parental
    guaranty is not enough for us to disregard the captive insurer; we must look to the
    substance of that guaranty.
    As the opinion of the Court finds, the parental guaranty was created to
    convert deferred tax assets into general business assets for regulatory purposes.
    See op. Ct. p. 35. The circumstances relating to its issuance, including that the
    parental guaranty was issued to Legacy and that it was limited to $25 million--or,
    less than 10% of the total premiums paid to Legacy--support the conclusion that it
    - 45 -
    was created solely to encourage the Bermuda Monetary Authority to allow Legacy
    to treat DTAs as general business assets.
    In contrast, the cases that have found that a parental guaranty eliminates any
    risk shifting involved either a blanket indemnity or a capitalization agreement that
    resulted in a capital infusion in excess of premiums received. And even then, the
    indemnity or capitalization agreement was coupled with an undercapitalized
    captive. Accordingly, those cases are distinguishable from the situation presented
    here.
    Malone & Hyde, Inc. v. Commissioner, 
    62 F.3d 835
    (6th Cir. 1995), rev’g
    T.C. Memo. 1993-585, involved an insurance subsidiary established to provide
    reinsurance for the parent and its subsidiaries. After incorporating the captive,
    Malone & Hyde entered into an agreement with a third-party insurer to insure both
    its own and its subsidiaries’ risks. 
    Id. at 836.
    The third-party insurer then
    reinsured the first $150,000 of coverage per claim with the captive. 
    Id. Because the
    captive was thinly capitalized--it had no assets other than $120,000 of paid-in
    capital--Malone & Hyde executed “hold harmless” agreements in favor of the
    third-party insurer. 
    Id. These agreements
    provided that if the captive defaulted on
    its obligations as reinsurer, then Malone & Hyde would completely shield the
    third-party insurer from liability. 
    Id. In deciding
    whether the risk had shifted, the
    - 46 -
    court held that “[w]hen the entire scheme involves either undercapitalization or
    indemnification of the primary insurer by the taxpayer claiming the deduction, or
    both, these facts alone disqualify the premium payments from being treated as
    ordinary and necessary business expenses to the extent such payments are ceded
    by the primary insurer to the captive insurance subsidiary.” 
    Id. at 842-843.
    In
    short, Malone & Hyde, Inc. had a thinly capitalized captive insurer and a blanket
    indemnity. Here, neither of those facts is present.
    The facts in Kidde Indus., Inc. are quite similar to those in Malone & Hyde,
    Inc. Kidde incorporated a captive and entered into an insurance agreement with a
    third-party insurer who in turn entered into a reinsurance agreement with the
    captive. Kidde Indus., 
    Inc., 40 Fed. Cl. at 45
    . As in Malone & Hyde, Inc., the
    captive was significantly undercapitalized, and Kidde executed an indemnification
    agreement to provide the third-party insurer with the “level of comfort” needed
    before it would issue the policies. 
    Id. at 48.
    Again, the court held that Kidde
    retained the risk of loss and could not deduct the premiums. 
    Id. Carnation Co.
    v. Commissioner, 
    71 T.C. 400
    (1978), aff’d, 
    640 F.2d 1010
    (9th Cir. 1981), involved slightly different facts. A captive reinsured 90% of the
    third-party insurer’s liabilities under Carnation’s policy. 
    Id. at 403.
    As part of this
    arrangement, the third-party insurer ceded 90% of the premiums to the captive and
    - 47 -
    the captive paid the third-party insurer a 5% commission based on the net
    premiums ceded. 
    Id. Carnation provided
    $3 million of capital to the captive--an
    amount that was well in excess of the total annual premiums paid to the captive--
    because the third-party insurer had concerns about the captive’s capitalization. 
    Id. at 404.
    The Court held that the reinsurance agreement and the agreement to
    provide additional capital counteracted each other and voided any insurance risk.
    
    Id. at 409.
    In affirming the Tax Court, the Court of Appeals for the Ninth Circuit
    held that, in considering whether the risk had shifted, the key was that the third-
    party insurer would not have issued the policies without the capitalization
    agreement. Carnation Co. v. 
    Commissioner, 640 F.2d at 1013
    .
    Those cases are distinguishable because they all involved undercapitalized
    captives. As explained previously, the opinion of the Court found that Legacy was
    adequately capitalized. Further, in each of the three cases above, the parent
    provided either indemnification or additional capitalization in order to persuade a
    third-policy insurer to issue insurance policies. Here, Discover Re provided
    insurance before Legacy’s inception and continued providing coverage after
    Legacy was formed. The parental guaranty was issued to Legacy for the singular
    purpose of allowing Legacy to treat the DTAs as general business assets.
    Additionally, the guaranty amounted to only $25 million. This small fraction of
    - 48 -
    the $264 million in premiums for policies written by Legacy during the years in
    issue does not rise to the level of protection provided by the total indemnities in
    Malone & Hyde, Inc. and Kidde Indus., Inc.
    When we consider the totality of the facts, the parental guaranty appears to
    have been immaterial. This conclusion is bolstered by the facts that the parental
    guaranty was unilaterally withdrawn by Rent-A-Center in 2006 and that Rent-A-
    Center never contributed any funds to Legacy pursuant to that parental guaranty.
    III.   Consolidated Groups
    Judge Lauber’s dissent refers to a hodgepodge of facts about how Rent-A-
    Center operated its consolidated group as evidence that Legacy’s status as a
    separate entity should be disregarded. Examples of the facts cited in that dissent
    are that Legacy had no employees and that payments between it and other
    members of the Rent-A-Center consolidated group were handled through journal
    entries.
    In the real world of large corporations, these practices are commonplace.
    For ease of operations, including running payroll, companies create a staff leasing
    subsidiary and lease employees companywide. Or they hire outside consultants to
    handle the operations of a specialty business such as a captive insurer. Legacy,
    like Humana, hired an outside management company to handle its business
    - 49 -
    operations. Compare op. Ct. p. 6 n.6 (Legacy engaged Aon to provide
    management services) with Humana Inc. & Subs. v. Commissioner, 
    88 T.C. 205
    (Humana engaged Marsh & McLennan to provide management services). And it
    is unrealistic to expect members of a consolidated group to cut checks to each
    other. Rent-A-Center and Legacy did what is commonplace--they kept track of
    the flow of funds through journal entries. So long as complete and accurate
    records are maintained, the commingling of funds is not enough to require the
    disregarding of a separate business. See, e.g., Kahle v. Commissioner, T.C.
    Memo. 1991-203 (finding that the taxpayer “maintained complete and accurate
    records” notwithstanding the commingling of business and personal funds).
    Corporations filing consolidated returns are to be treated as separate
    entities, unless otherwise mandated. Gottesman & Co. v. Commissioner, 
    77 T.C. 1149
    , 1156 (1981). It may be advantageous for a corporation to operate through
    various subsidiaries for a multitude of reasons. These reasons may include State
    law implications, creditor demands, or simply convenience, but “so long as that
    purpose is the equivalent of business activity or is followed by the carrying on of
    business by the corporation, the corporation remains a separate taxable entity.”
    Moline Props., Inc. v. Commissioner, 
    319 U.S. 436
    , 438-439 (1943). Even the
    consolidated return regulations make clear that an insurance company that is part
    - 50 -
    of a consolidated group is treated separately. See sec. 1.1502-13(e)(2)(ii)(A),
    Income Tax Regs. (“If a member provides insurance to another member in an
    intercompany transaction, the transaction is taken into account by both members
    on a separate entity basis.”). Thus, if a corporation gives due regard to the
    separate corporate structure, we should do the same.
    IV.   Conclusion
    The issue presented in these cases is ultimately a matter of when, not
    whether, Rent-A-Center is entitled to a deduction relating to workers’
    compensation, automobile, and general liability losses.2 Because the IRS has
    conceded in its rulings that insurance premiums paid between brother-sister
    corporations may be insurance and the Court determined that, under the facts and
    circumstances of these cases as found by the Judge who presided at trial, the
    policies at issue are insurance, Rent-A-Center is entitled to deduct the premiums
    as reported on its returns. See op. Ct. pp. 21-40.
    FOLEY, GUSTAFSON, PARIS, and KERRIGAN, JJ., agree with this
    concurring opinion.
    2
    If the Court had determined that the policies were not insurance, then Rent-
    A-Center would nevertheless have been entitled to deduct the losses as they were
    paid or incurred. See sec. 162. By forming Legacy and giving due regard to its
    separate structure, Rent-A-Center achieved some acceleration of deductions
    relating to losses that would otherwise be deductible, along with other nontax
    benefits. See op. Ct. pp. 17-18.
    - 51 -
    HALPERN, J., dissenting:
    "'The principle of judicial parsimony' (L. Hand, J., in Pressed Steel Car Co.
    v. Union Pacific Railroad Co., * * * [
    240 F. 135
    , 137 (S.D.N.Y. 1917)]), if nothing
    more, condemns a useless remedy." Sinclair Ref. Co. v. Jenkins Petroleum
    Process Co., 
    289 U.S. 689
    , 694 (1933). While usually invoked by a court to
    justify a stay in discovery on other issues when one issue is dispositive of a case,
    8A Charles Allen Wright, Arthur R. Miller & Richard L. Marcus, Federal Practice
    and Procedure, sec. 2040, at 198 n.7 (3d ed. 2010), I think the principle should
    guide us in declining to overrule Humana Inc. & Subs. v. Commissioner, 
    88 T.C. 197
    (1987), aff'd in part, rev'd in part and remanded, 
    881 F.2d 247
    (6th Cir. 1989),
    to the extent that it holds that a captive insurance arrangement between brother-
    sister corporations cannot be insurance as a matter of law.
    These cases are before the Court Conference for review, see sec. 7460(b),
    because we perceive that Judge Foley's report is in part overruling Humana,
    although Judge Foley does not in so many words say so. He says: "We find
    persuasive the Court of Appeals for the Sixth Circuit's critique of our analysis the
    brother-sister arrangement in Humana." The Court of Appeals said: "We reverse
    the tax court on * * * the brother-sister issue." Humana Inc. & Subs v.
    
    Commissioner, 881 F.2d at 257
    . Under our Conference procedures, the
    - 52 -
    Conference may not adopt a report overruling a prior report of the Court absent the
    affirmative vote of a majority of the Judges entitled to vote on the case. Six of the
    sixteen Judges entitled to vote on these cases join Judge Foley, for a total of seven
    clearly affirmative votes. Six Judges voted "no". Three Judges voted "concur in
    result", and those votes, under our procedures, are counted as affirmative votes.
    Whether the Court has in fact overruled a portion of Humana undoubtedly will be
    unclear to many readers of this report. The resulting confusion is unnecessary.
    Moreover, by putting his report overruling Humana before the Conference, Judge
    Foley has put before the Conference his subsidiary findings of fact and his
    ultimate finding that the brother-sister payments were correctly characterized as
    insurance premiums. That has attracted two side opinions, one characterizing
    Judge Foley's opinion as "concise" (Judge Buch) and emphasizing evidence in the
    record that supports his findings and the other characterizing his ultimate findings
    as "conclusory" (Judge Lauber) and contending "the undisputed facts of the entire
    record warrant the opposite conclusion * * *, [that] the Rent-A-Center
    arrangements do not constitute 'insurance' for Federal income tax purposes."
    Whether I describe Judge Foley's analysis as concise or as conclusory, simply put,
    there is insufficient depth to it to persuade me to join his findings (i.e., that there is
    risk shifting, that there is risk distribution, and, in general, that there is a bona fide
    - 53 -
    insurance arrangement). I do agree with Judge Lauber that "[w]hether the facts
    and circumstances, evaluated in the aggregate, give rise to 'insurance' presents a
    question of proper characterization. It is thus a mixed question of fact and law."
    Nevertheless, had Judge Foley steered clear of Humana, I believe that we could
    have avoided Conference consideration and have left it to the appellate process (if
    invoked) to determine whether Judge Foley's findings are persuasive.
    And I believe that Judge Foley could have steered clear of Humana. As
    both Judges Buch and Lauber point out, the Commissioner has given up on
    arguing that captive insurance arrangement between brother-sister corporations
    cannot be insurance as a matter of law. See, e.g., Rev. Rul. 2001-31, 2001
    C.B. 1348. Judge Foley ignores that ruling and its progeny when, pursuant to
    Rauenhorst v. Commissioner, 
    119 T.C. 157
    , 173 (2002), he could have relied on
    the Commissioner's concessions to steer clear of revisiting Humana. I agree with
    Judge Foley that Humana is not dispositive of the brother-sister insurance question
    in these cases, but not because I would overrule Humana on that issue; rather, I see
    no reason to address Humana in the light of the Commissioner's present
    administrative position. While I agree with Judge Foley that the facts and
    - 54 -
    circumstances test provides the proper analytical framework, I otherwise dissent
    from his opinion.
    LAUBER, J., agrees with this dissent.
    - 55 -
    LAUBER, J., dissenting: These cases, like Humana Inc. & Subs. v.
    Commissioner, 
    88 T.C. 197
    (1987), aff’d in part, rev’d in part and remanded, 
    881 F.2d 247
    (6th Cir. 1989), involve what I will refer to as a “classic” captive
    insurance company. In these cases, as in Humana, the captive has no outside
    owners and insures no outside risks. Rather, it is wholly owned by the parent of
    the affiliated group and it “insures” risks only of the parent and the operating
    subsidiaries, which stand in a brother-sister relationship to it.
    In Humana we held that purported “insurance” premiums paid to a captive
    by other members of its affiliated group--whether by the parent or by the sister
    corporations--were not deductible for Federal income tax purposes. An essential
    requirement of “insurance” is the shifting of risk from insured to insurer. Helver-
    ing v. LeGierse, 
    312 U.S. 531
    , 539 (1941). We held in Humana that “there was
    not the necessary shifting of risk” from the operating subsidiaries to the captive,
    and hence that none of the purported “premiums” constituted amounts paid for
    “insurance.” 
    88 T.C. 214
    . The Court of Appeals for the Sixth Circuit affirmed
    as to amounts paid to the captive by the parent, but reversed as to amounts paid to
    the captive by the sister 
    corporations. 881 F.2d at 257
    .
    The opinion of the Court (majority) adopts the reasoning and result of the
    Sixth Circuit, overrules Humana in part, and holds that amounts charged to the
    - 56 -
    captive’s sister corporations constitute deductible “insurance premiums.” I dissent
    both from the majority’s decision to overrule Humana and from its holding that
    amounts charged to the sister corporations constituted payments for “insurance”
    under the totality of the facts and circumstances.
    I.    Background
    The captive insurance issue has a rich history to which the majority refers
    only episodically. It has been clear from the outset of our tax law that taxpayers
    (other than insurance companies) cannot deduct contributions to an insurance
    reserve. Steere Tank Lines, Inc. v. United States, 
    577 F.2d 279
    , 280 (5th Cir.
    1978); Spring Canyon Coal Co. v. Commissioner, 
    43 F.2d 78
    , 80 (10th Cir. 1930).
    Thus, if a unitary operating company maintains a reserve for self-insurance,
    amounts it places in that reserve are not deductible as “insurance premiums.”
    One strategy by which taxpayers sought to avoid this nondeductibility rule
    was to place their self-insurance reserve into a captive insurance company. In
    cases involving “classic” captives--i.e., captives that have no outside owners and
    insure no outside risks--the courts have uniformly held that this strategy does not
    work. Employing various legal theories, every court to consider the question has
    - 57 -
    held that amounts paid by a parent to a classic captive do not constitute “insurance
    premiums.”1
    Insurance and tax advisers soon devised an alternative strategy for avoiding
    the bar against deduction of contributions to a self-insurance reserve--namely,
    adoption of or conversion to a holding company structure. In essence, an
    operating company would drop its self-insurance reserve into a captive; drop its
    operations into one or more operating subsidiaries; and have the purported
    “premiums” paid to the captive by the sister companies instead of by the parent.
    In Humana, we held that this strategy did not work either, reasoning that “we
    would exalt form over substance and permit a taxpayer to circumvent our holdings
    1
    See Beech Aircraft Corp. v. United States, 
    797 F.2d 920
    (10th Cir. 1986);
    Stearns-Roger Corp. v. United States, 
    774 F.2d 414
    , 415-416 (10th Cir. 1985);
    Humana Inc. & Subs. v. Commissioner, 
    88 T.C. 197
    , 207 (1987), aff’d in part,
    rev’d in part and remanded, 
    881 F.2d 247
    (6th Cir. 1989); Clougherty Packing Co.
    v. Commissioner, 
    84 T.C. 948
    (1985), aff’d, 
    811 F.2d 1297
    , 1307 (9th Cir. 1987);
    Carnation Co. v. Commissioner, 
    71 T.C. 400
    (1978), aff’d, 
    640 F.2d 1010
    , 1013
    (9th Cir. 1981). On the other hand, the courts have held that parent-captive
    payments may constitute “insurance premiums” where the captive has a sufficient
    percentage of outside owners or insures a sufficient percentage of outside risks.
    See, e.g., Sears, Roebuck & Co. v. Commissioner, 
    96 T.C. 61
    (1991)
    (approximately 99.75% of insured risks were outside risks), supplemented by 
    96 T.C. 671
    (1991), aff’d in part and rev’d in part, 
    972 F.2d 858
    (7th Cir. 1992);
    Harper Grp. v. Commissioner, 
    96 T.C. 45
    (1991) (approximately 30% of insured
    risks were outside risks), aff’d, 
    979 F.2d 1341
    (9th Cir. 1992); AMERCO v.
    Commissioner, 
    96 T.C. 18
    (1991) (between 52% and 74% of insured risks were
    outside risks), aff’d, 
    979 F.2d 162
    (9th Cir. 1992).
    - 58 -
    [involving parent-captive payments] by simple corporate structural changes.” 
    88 T.C. 213
    . In effect, we concluded in Humana that conversion to a holding-
    company structure--without more--should not enable a taxpayer to accomplish
    indirectly what it cannot accomplish directly, achieving a radically different and
    more beneficial tax result when there has been absolutely no change in the
    underlying economic reality.
    While the Commissioner had success litigating the parent-captive pattern,
    he had surprisingly poor luck litigating the brother-sister scenario. The Tenth
    Circuit, like our Court, agreed that brother-sister payments to a classic captive are
    not deductible as “insurance premiums.”2 By contrast, the Sixth Circuit in
    Humana reversed our holding to this effect. And after some initial ambivalence,
    the Court of Federal Claims appears to have concluded that brother-sister
    “premium” payments are deductible.3
    2
    See Beech Aircraft 
    Corp., 797 F.2d at 922
    ; Stearns-Roger 
    Corp., 774 F.2d at 415-416
    .
    3
    Compare Mobil Oil Corp. v. United States, 
    8 Cl. Ct. 555
    , 566 (1985) (“[B]y
    deducting the premiums on its tax returns, [the affiliated group] achieved indirect-
    ly that which it could not do directly. It is well settled that tax consequences must
    turn upon the economic substance of a transaction[.]”), with Kidde Indus., Inc. v.
    United States, 
    40 Fed. Cl. 42
    (1997) (brother-sister payments deductible for years
    for which parent did not provide indemnity agreement). See generally Ocean
    Drilling & Exploration Co. v. United States, 
    988 F.2d 1135
    , 1153 (Fed. Cir. 1993)
    (continued...)
    - 59 -
    The Commissioner had even less success persuading courts to adopt the
    “single economic family” theory enunciated in Rev. Rul. 77-316, 1977-2 C.B. 53,
    upon which his litigating position was initially based. That theory was approved
    by the Tenth Circuit4 and found some favor in the Ninth Circuit.5 But it was
    rejected by our Court6 as well as by the Sixth and Federal Circuits.7
    Assessing this track record, the Commissioner made a strategic retreat. In
    2001 the IRS announced that it “will no longer invoke the economic family theory
    3
    (...continued)
    (1991) (brother-sister payments deductible where captive insured significant
    outside risks).
    4
    See Beech Aircraft Corp., 
    797 F.2d 920
    ; Stearns-Roger 
    Corp., 774 F.2d at 415-416
    . See generally 
    Humana, 881 F.2d at 251
    (“Stearns-Roger, Mobil Oil, and
    Beech Aircraft * * * each explicitly or implicitly adopted the economic family
    concept.”).
    5
    See Clougherty 
    Packing, 811 F.2d at 1304
    (“[W]e seriously doubt that the
    use of an economic family concept in defining insurance runs afoul of the
    Supreme Court’s holding in Moline Properties.”); 
    id. at 1305
    (finding
    “considerable merit in the Commissioner’s [economic family] argument” but
    finding it unnecessary to rely on that theory); Carnation 
    Co., 640 F.2d at 1013
    .
    6
    See Humana, 
    88 T.C. 214
    (rejecting the Commissioner’s “economic
    family” concept); Clougherty Packing, 
    84 T.C. 956
    (same); Carnation Co., 
    71 T.C. 413
    (same).
    7
    See Malone & Hyde, Inc. v. Commissioner, 
    62 F.3d 835
    (6th Cir. 1995)
    (rejecting “economic family” theory but ruling against deductibility of payments to
    captive based on facts and circumstances), rev’g T.C. Memo. 1993-585; Ocean
    Drilling & Exploration 
    Co., 988 F.2d at 1150-1151
    ; 
    Humana, 881 F.2d at 251
    .
    - 60 -
    with respect to captive insurance transactions.” Rev. Rul. 2001-31, 2001-1 C.B.
    1348, 1348. In 2002 the IRS likewise abandoned its position that there is a per se
    rule against the deductibility of brother-sister “premiums,” concluding that the
    characterization of such payments as “insurance premiums” should be governed,
    not by a per se rule, but by the facts and circumstances of the particular case. Rev.
    Rul. 2002-90, 2002-2 C.B. 985; accord Rev. Rul 2001-31, 2001-1 C.B. at 1348
    (“The Service may * * * continue to challenge certain captive insurance
    transactions based on the facts and circumstances of each case.”).
    II.   Overruling Humana
    We decided Humana against a legal backdrop very different from that which
    we confront today. The Commissioner in Humana urged a per se rule, predicated
    on his “single economic family” theory, against the deductibility of brother-sister
    “insurance premiums.” The Commissioner has long since abandoned both that per
    se rule and the theory on which it was based. Given this change in the legal
    environment, I see no need for the Court to reconsider Humana, which in a
    practical sense may be water under the bridge.
    Respondent’s position in the instant cases is consistent with the ruling
    position the IRS has maintained for the past 12 years--namely, that characterization
    of intragroup payments as “insurance premiums” should be determined on the basis
    - 61 -
    of the facts and circumstances of the particular case. See Rev. Rul. 2001-31, 2001-
    1 C.B. at 1348. The majority adopts this approach as the framework for its legal
    analysis. See op. Ct. p. 22 (“We consider all of the facts and circumstances to
    determine whether an arrangement qualifies as insurance.”). The Court need not
    overrule Humana to decide (erroneously in my view) that respondent should lose
    under the facts-and-circumstances approach that respondent is now advancing. In
    Humana, “we emphasize[d] that our holding * * * [was] based upon the factual
    pattern presented in * * * [that] case,” noting that in other cases “factual patterns
    may differ.” 
    88 T.C. 208
    . That being so, the Court today could rule for
    petitioners on the basis of what the majority believes to be the controlling “facts
    and circumstances,” distinguishing Humana rather than overruling it. Principles of
    judicial restraint counsel that courts should decide cases on the narrowest possible
    ground.
    III.   The “Facts and Circumstances” Approach
    Although I do not believe it necessary or proper to overrule Humana, the
    continuing vitality of that precedent does not control the outcome. These cases can
    and should be decided in respondent’s favor under the “facts and circumstances”
    approach that he is currently advancing. In Rev. Rul. 2002-90, 2002-2 C.B. at 985,
    the IRS concluded that brother-sister payments were correctly characterized as
    - 62 -
    “insurance premiums” where the assumed facts included the following (P = parent
    and S = captive):
    P provides S adequate capital * * *. S charges the 12 [operating]
    subsidiaries arms-length premiums, which are established according to
    customary industry rating formulas. * * * There are no parental (or other
    related party) guarantees of any kind made in favor of S. * * * In all
    respects, the parties conduct themselves in a manner consistent with the
    standards applicable to an insurance arrangement between unrelated parties.
    The facts of the instant cases, concerning both “risk shifting” and conformity
    to arm’s-length insurance standards, differ substantially from the facts assumed in
    Rev. Rul. 
    2002-90, supra
    . The instant facts also differ substantially from the facts
    determined in judicial precedents that have characterized intragroup payments as
    “insurance premiums.” Whether the facts and circumstances, evaluated in the
    aggregate, give rise to “insurance” presents a question of proper characterization.
    It is thus a mixed question of fact and law.
    The majority makes certain findings of basic fact, which I accept for
    purposes of this dissenting opinion. In many instances, however, the majority
    makes no findings of basic fact to support its conclusory findings of ultimate fact.
    In other instances, the majority does not mention facts that tend to undermine its
    ultimate conclusions. In my view, the undisputed facts of the entire record warrant
    the opposite conclusion from that reached by the majority and justify a ruling that
    - 63 -
    the Rent-A-Center arrangements do not constitute “insurance” for Federal income
    tax purposes.
    A.    Risk Shifting
    1.    Parental Guaranty
    Rent-A-Center, the parent, issued two types of guaranties to Legacy, its
    captive. First, it guaranteed the multimillion-dollar “deferred tax asset” (DTA) on
    Legacy’s balance sheet, which arose from timing differences between the captive’s
    fiscal year and the parent’s calendar year. Normally, a DTA cannot be counted as
    an “asset” for purposes of the (rather modest) minimum solvency requirements of
    Bermuda insurance law. The parent’s guaranty was essential in order for Legacy to
    secure an exception from this rule.
    Second, the parent subsequently issued an all-purpose guaranty by which it
    agreed to hold Legacy harmless for its liabilities under the Bermuda Insurance Act
    up to $25 million. These liabilities necessarily included Legacy’s liabilities to pay
    loss claims of its sister corporations. This all-purpose $25 million guaranty was
    eliminated at year-end 2006, but it was in existence for the first three tax years at
    issue.
    When approving the brother-sister premiums in Rev. Rul. 2002-90, 2002-2
    C.B. at 985, the IRS explicitly excluded from the hypothesized facts the existence
    - 64 -
    of any parental or related-party guaranty executed in favor of the captive.
    Numerous courts have likewise ruled that the existence of a parental guaranty,
    indemnification agreement, or similar instrument may negate the existence of
    “insurance” purportedly supplied by a captive. See, e.g., Malone & Hyde, 
    62 F.3d 835
    , 842-843 (6th Cir. 1995) (finding no “insurance” where parent guaranteed cap-
    tive’s liabilities), rev’g T.C. Memo. 1993-585; 
    Humana, 881 F.2d at 254
    n.2
    (presence of parental indemnification or recapitalization agreement may provide a
    sufficient basis on which to find no “risk shifting”); Carnation Co., 
    71 T.C. 400
    ,
    402, 409 (1978) (finding no “insurance” where parent agreed to supply captive
    with additional capital), aff’d, 
    640 F.2d 1010
    (9th Cir. 1981); Kidde Indus., Inc. v.
    United States, 
    40 Fed. Cl. 42
    , 50 (1997) (finding no “insurance” where parent
    issued indemnification letter).
    By guaranteeing Legacy’s liabilities, Rent-A-Center agreed to step into
    Legacy’s shoes to pay its affiliates’ loss claims. In effect, the parent thus became
    an “insurer” of its subsidiaries’ risks. The majority cites no authority, and I know
    of none, for the proposition that a holding company can “insure” the risks of its
    wholly owned subsidiaries. The presence of this parental guaranty argues strongly
    against the existence of “risk shifting” here.
    - 65 -
    The majority asserts that Rent-A-Center’s parental guaranty “did not vitiate
    risk shifting” and offers three rationales for this conclusion. See op. Ct. pp. 35-38.
    None of these rationales is convincing. The majority notes that the parent “did not
    pay any money pursuant to the parental guaranty” and suggests that the guaranty
    was really designed only to make sure that Legacy’s DTAs were counted in calcu-
    lating its Bermuda minimum solvency margin. See 
    id. pp. 37-38.
    The fact that the
    parent was never required to pay on the guaranty is irrelevant; it is the existence of
    a parental guaranty that matters in determining whether a captive is truly providing
    “insurance.” And whatever may have prompted the issuance of the guaranty, the
    fact is that it literally covers all of Legacy’s liabilities up to $25 million. The
    DTAs never got above $9 million during 2003-06. See 
    id. p. 16.
    Legacy’s
    “liabilities” obviously included Legacy’s liability to pay the insurance claims of its
    sister companies.
    The majority contends that the judicial precedents cited above “are distin-
    guishable” because the guaranty issued by Rent-A-Center “did not shift the
    ultimate risk of loss; did not involve an undercapitalized captive; and was not
    issued to, or requested by, an unrelated insurer.” See op. Ct. pp. 36-37. The
    majority’s first asserted distinction begs the question because it assumes that risk
    has been shifted to Legacy, which is the proposition that must be proved. The
    - 66 -
    majority’s second asserted distinction is a play on words. While Legacy for most
    of the period at issue was not “undercapitalized” from the standpoint of Bermuda’s
    (modest) minimum solvency rules, it was very poorly capitalized in comparison
    with real insurance companies. See infra pp. 67-70. Moreover, the Court of
    Appeals for the Sixth Circuit in Humana indicated that a parental guaranty alone,
    without regard to the captive’s capitalization, can “provide[] a sufficient basis from
    which to find no risk 
    shifting.” 881 F.2d at 245
    n.2. The majority’s third asserted
    distinction is a distinction without a difference. While Rent-A-Center’s guaranty
    was not requested by “an unrelated insurer,” it was demanded by Legacy’s nominal
    insurance regulator as a condition of meeting Bermuda’s minimum solvency
    requirements.
    As the “most important[]” ground for deeming the guaranty irrelevant, the
    majority asserts that the parental guaranty “did not affect the balance sheets or net
    worth of the subsidiaries insured by Legacy.” See op. Ct. p. 36. The majority here
    reprises its argument that the “net worth and balance sheet analysis” must be
    conducted at the level of the operating subsidiaries. See 
    id. pp. 25,
    33. Whatever
    the merit of that argument generally, as applied to the guaranty it clearly proves too
    much. A parental guaranty of a captive’s liabilities will never affect the balance
    sheet or net worth of the sister company that is allegedly “insured.” But the Sixth
    - 67 -
    Circuit, the Federal Circuit, and this Court have all held that the existence of a
    parental guaranty may negate the existence of “insurance” within an affiliated
    group.
    2.     Inadequate Capitalization
    When blessing the brother-sister premium payments in Rev. Rul. 
    2002-90, supra
    , the Commissioner hypothesized that the parent had supplied the captive with
    “adequate capital.” Numerous judicial opinions have likewise held that risk cannot
    be “shifted” to a captive unless the captive is sufficiently capitalized to absorb the
    risk. See, e.g., Beech 
    Aircraft, 797 F.2d at 922
    n.1 (no “insurance” where captive
    was undercapitalized); Carnation Co., 
    71 T.C. 409
    (same).
    The majority bases its conclusion that Legacy was “adequately capitalized”
    on the fact that Legacy “met Bermuda’s minimum statutory requirements” once the
    parental guaranty of the DTA is counted. See op. Ct. pp. 20-21. The fact that a
    captive meets the minimum capital requirements of an offshore financial center is
    not dispositive as to whether the arrangements constitute “insurance” for Federal
    income tax purposes. Indeed, the Sixth Circuit in Malone & Hyde held that intra-
    group payments were not “insurance premiums” even though the captive met “the
    extremely thin minimum capitalization required by Bermuda 
    law.” 62 F.3d at 841
    .
    - 68 -
    In fact, Legacy’s capital structure was extremely questionable during 2003-
    06. The only way that Legacy was able to meet Bermuda’s extremely thin
    minimum capitalization requirement was by counting as general business assets its
    DTAs, and those DTAs could be counted only after Rent-A-Center issued its par-
    ental guaranty. The DTAs were essentially a bookkeeping entry. Without treating
    that bookkeeping entry as an “asset,” Legacy would have been undercapitalized
    even by Bermuda’s lax standards.
    The extent of Legacy’s undercapitalization is evidenced by its premium-to-
    surplus ratio, which was wildly out of line with the ratios of real insurance com-
    panies. The premium-to-surplus ratio provides a good benchmark of an insurer’s
    ability to absorb risk by drawing on its surplus to pay incurred losses. In this ratio,
    “premiums written” serves as a proxy for the losses to which the insurer is exposed.
    Expert testimony in these cases indicated that U.S. property/casualty insurance
    companies, on average, have something like a 1:1 premium-to-surplus ratio. In
    other words, their surplus roughly equals the annual premiums for policies they
    write. By contrast, Legacy’s premium-to-surplus ratio--ignoring the parental
    guaranty of its DTA--was 48:1 in 2003, 19:1 in 2004, 11:1 in 2005, and in excess
    of 5:1 in 2006 and 2007. In other words, Legacy’s surplus covered only 2% of
    premiums for policies written in 2003 and only 5% of premiums for policies
    - 69 -
    written in 2004, whereas commercial insurance companies have surplus coverage
    in the range of 100%. Even if we allow the parental guaranty to count toward
    Legacy’s surplus, its premium-to-surplus ratio was never better than 5:1.
    Legacy’s assets were undiversified and modest. It had a money market fund
    into which it placed the supposed “premiums” received from its parent. This fund
    was in no sense “surplus”; it was a mere holding tank for cash used to pay
    “claims.” Apart from this money-market fund, Legacy appears to have had no
    assets during the tax years at issue except the following: (a) the guaranties issued
    by its parent; (b) the DTA reflected on its balance sheet; and (c) Rent-A-Center
    treasury stock that Legacy purchased from its parent. For Federal tax purposes, the
    parental guaranties cannot count as “assets” in determining whether Legacy was
    adequately capitalized. They point in the precisely opposite direction.
    The DTA and treasury stock have in common several features that make
    them poor forms of insurance capital. First, neither yields income. The DTA was
    an accounting entry that by definition cannot yield income, and the Rent-A-Center
    treasury stock paid no dividends. No true insurance company would invest 100%
    of its “reserves” in non-income-producing assets. With no potential to earn
    income, the “reserves” could not grow to afford a cushion against risk.
    - 70 -
    Moreover, neither the DTA nor the treasury stock was readily convertible
    into cash. The DTA had no cash value. The treasury stock by its terms could not
    be sold or alienated, although the parent agreed to buy it back at its issue price. In
    effect, Legacy relied on the availability of cash from its parent, via repurchase of
    treasury shares, to pay claims in the event of voluminous losses.8
    Finally, Legacy’s assets were, to a large degree, negatively correlated with
    its insurance risks. During 2004-06, Legacy purchased $108 million of Rent-A-
    Center treasury stock, while “insuring” solely Rent-A-Center risks. Thus, if
    outsized losses occurred, those losses would simultaneously increase Legacy’s
    liabilities and reduce the value of the Rent-A-Center stock that was Legacy’s
    principal asset. No true insurance company invests its reserves in assets that are
    both undiversified and negatively correlated to the risks that it is insuring.
    In sum, when one combines the existence of the parental guaranty, Legacy’s
    extremely weak premium-to-surplus ratio, the speculative nature and poor quality
    of the assets in Legacy’s “insurance reserves,” and the fact that Legacy without the
    parental guaranty would not even have met “the extremely thin minimum capi-
    8
    Because Legacy “insured” losses only below a defined threshold, there was
    a cap on the size of any individual loss that it might have to pay. See op. Ct. p. 8.
    However, the number of individual loss events within that tranche could exceed
    expectations.
    - 71 -
    talization required by Bermuda law,” Malone & 
    Hyde, 62 F.3d at 841
    , the absence
    of “risk shifting” seems clear. Under the totality of the facts and circumstances, I
    conclude that there has been no transfer of risk to the captive and hence that the
    Rent-A-Center arrangements do not constitute “insurance” for Federal income tax
    purposes.
    B.     Conformity to Insurance Industry Standards
    When blessing the brother-sister premiums in Rev. Rul. 
    2002-90, supra
    , the
    IRS hypothesized that “the parties [had] conduct[ed] themselves in a manner
    consistent with the standards applicable to an insurance arrangement between
    unrelated parties.” Our Court has similarly ruled that transactions in a captive-
    insurance context must comport with “commonly accepted notions of insurance.”
    Harper Grp. v. Commissioner, 
    96 T.C. 45
    , 58 (1991), aff’d, 
    979 F.2d 1341
    (9th Cir.
    1992). Because risk shifting is essential to “insurance,” Helvering v. 
    LeGierse, 312 U.S. at 539
    , the absence of risk shifting alone would dictate that the Rent-A-Center
    payments are not deductible as “insurance premiums.” However, there are a
    number of respects in which Rent-A-Center, its captive, and the allegedly “insured”
    subsidiaries did not conduct themselves in a manner consistent with accepted
    insurance industry norms. These facts provide additional support for concluding
    that these arrangements did not constitute “insurance.”
    - 72 -
    Several facts discussed above in connection with “risk shifting” show that
    the Rent-A-Center arrangements do not comport with normal insurance industry
    practice. These include the facts that Legacy was poorly capitalized; that its
    premium-to-surplus ratio was way out of line with the ratios of true insurance
    companies; and that is “reserves” consisted of assets that were non-income-
    producing, illiquid, undiversified, and negatively correlated to the risks it was
    supposedly “insuring.” No true insurance company would act this way.
    It appears that Legacy had no actual employees during the tax years at issue.
    It had no outside directors, and it had no officers apart from people who were also
    officers of Rent-A-Center, its parent. Legacy’s “operations” appear to have been
    conducted by David Glasgow, an employee of Rent-A-Center, its parent.
    “Premium payments” and “loss reimbursements” were effected through bookkeep-
    ing entries made by accountants at Rent-A-Center’s corporate headquarters.
    Legacy was in practical effect an incorporated pocketbook that served as a
    repository for what had been, until 2003, Rent-A-Center’s self-insurance reserve.
    Legacy issued its first two “insurance policies” before receiving a certificate
    of registration from Bermuda insurance authorities. According to those authorities,
    Legacy was therefore in violation of Bermuda law and “engaged in the insurance
    - 73 -
    business without a license.” (Bermuda evidently agreed to let petitioners fix this
    problem retroactively.)
    For the first three months of its existence, Legacy was in violation of Ber-
    muda’s minimum capital rules because the DTA was not cognizable in determining
    capital adequacy. Only upon the issuance of the parental guaranty in March 2003,
    and the acceptance of this guaranty by Bermuda authorities, was Legacy able to
    pass Bermuda’s capital adequacy test.
    There was no actuarial determination of the premium payable to Legacy by
    each operating subsidiary based on the specific subsidiary’s risk profile. Rather, an
    outside insurance adviser estimated the future loss exposure of the affiliated group,
    and Rent-A-Center, the parent, determined an aggregate “premium” using that
    estimate. The parent paid this “premium” annually to Legacy. The parent’s
    accounting department subsequently charged portions of this “premium” to each
    subsidiary, in the same manner as self-insurance costs had been charged to those
    subsidiaries before Legacy was created. In other words, in contrast to the facts
    assumed in Rev. Rul. 
    2002-90, supra
    , there was in these cases no determination of
    “arms-length premiums * * * established according to customary industry rating
    formulas.” To the contrary, the entire arrangement was orchestrated exactly as it
    - 74 -
    had been orchestrated before 2003, when the Rent-A-Center group maintained a
    self-insurance reserve for the tranche of risks purportedly “insured” by Legacy.
    From Legacy’s inception in December 2002 through May 2004, Legacy did
    not actually pay “loss claims” submitted by the supposed “insureds.” Rather, the
    parent’s accounting department netted “loss reimbursements” due to the
    subsidiaries from Legacy against “premium payments” due to Legacy from the
    parent. Beginning in July 2004, the parent withdrew a fixed, preset amount of cash
    via weekly bank wire from Legacy’s money-market account. These weekly
    withdrawals depleted Legacy’s money-market account to near zero just before the
    next annual “premium” was due. This modus operandi shows that Rent-A-Center
    regarded Legacy not as an insurer operating at arm’s length but as a bank account
    into which it made deposits and from which it made withdrawals.
    These facts, considered in their totality, lead me to disagree with the majori-
    ty’s conclusory assertions that “Legacy entered into bona fide arm’s-length
    contracts with [Rent-A-Center]”; that Legacy “charged actuarially determined
    premiums”; that Legacy “paid claims from its separately maintained account”; and
    that Legacy “was adequately capitalized.” See op. Ct. pp. 20-21. In my view, the
    totality of the facts and circumstances could warrant the conclusion that Legacy
    was a sham. At the very least, the totality of the facts and circumstances makes
    - 75 -
    clear that the arrangements here did not comport with “commonly accepted notions
    of insurance,” Harper Grp., 
    96 T.C. 58
    , and that the Rent-A-Center group of
    companies did not “conduct themselves in a manner consistent with the standards
    applicable to an insurance arrangement between unrelated parties,” Rev. Rul. 2002-
    90, 2001-2 C.B. at 985. The departures from accepted insurance industry practice,
    combined with the absence of risk shifting to the captive from the alleged
    “insureds,” confirms that these arrangements did not constitute “insurance” for
    Federal income tax purposes.
    COLVIN, GALE, KROUPA, and MORRISON, JJ., agree with this dissent.