Could an insurer include accepted reinsurance in Florida's premiums apportionment formula when reinsurance was less than half its business?

Subject

Separate Accounting

Plain-English summary

The insurer had to use Florida's direct-premiums-only apportionment formula and could not add accepted reinsurance. Reinsurance represented 23.17% of its total premiums, below the rule's greater-than-50% test for treating reinsurance as the principal source of premiums.

The alternative calculation reduced the factor from .55427 to .42587, but a different percentage alone did not show gross distortion. The company also did not establish whether ceding affiliates or nonaffiliates were Florida residents, and the situation was neither unique nor nonrecurring. The Department therefore denied alternative apportionment.

What this means for you

An insurer seeking a departure from the statutory formula needed clear evidence that the regular method attributed Florida income unreasonably and that the proposed method was fair. Falling below the reinsurance threshold and producing a lower alternative factor were not enough.

Common questions

When could accepted reinsurance enter the statutory formula? When it was the principal source of premiums, defined as more than 50% of premium dollars received.

Was the percentage difference enough for relief? No. The Department found no gross distortion.

Was separate accounting approved? No.

Citations and references

• Fla. Stat. §§ 220.151(1)(a)-(b) and 213.22
• Fla. Admin. Code rr. 12C-1.0151(3) and 12C-1.0152

Source

• Landing page: Florida Tax Law Library
• Advisement: TAA 94C1-010

Original ruling text

Nov 30, 1994

Re: Technical Assistance Advisement No. 94(C)1-010
Corporate Income Tax; Separate Accounting

Dear:

Your request for a technical assistance advisement on
behalf of XXX (hereinafter referred to as "Company"), was
referred to this office for a response.

ISSUE

Your letter of September 27, 1994, requested relief from
the provisions of the direct premiums only apportionment method
and requested permission to specifically include reinsurance
accepted in the apportionment calculation.

STATEMENT OF FACTS

The facts that you have provided are as follows:

1) For the year ended December 31, 1993, Company's federal
taxable income is approximately $11,035,000.

2) For the year ended December 31, 1993, Company's direct
premiums written and reinsurance assumed are as followed:

Reinsurance Reinsurance

Written
Premium

Florida

Assumed

Assumed

From

From

Direct

Affiliates Nonaffiliates Total

$49,262,337 -0-

-0-

$49,262,337

Other States $39,614,941 $7,476,693 $19,320,065 $66,411,699
Total

$88,877,278 $7,476,693 $19,320,065$115,674,036

DISCUSSION OF LAW

The "Florida Income Tax Code" established under Chapter
220, Florida Statutes, provided for a unique apportionment
procedure for insurance companies under s. 220.151, F.S.
Section 220.151, F.S., states in part:

"Apportionment; methods for special industries.--

(1)(a) Except as provided in paragraph (b), the tax base of
an insurance company... shall be apportioned to this state
by multiplying such base by a fraction the numerator of
which is the direct premiums written for insurance upon
properties and risks in this state and the denominator of
which is the direct premiums written for insurance upon
properties and risks everywhere..." (emphasis added)

Therefore, any insurance company writing insurance policies
upon "properties and risks in this state" would normally
apportion their federal taxable income to Florida using the
following fraction:

Direct Premiums Written in Florida
Direct Premiums Written Everywhere

However, if an insurer also writes reinsurance, their total
reinsurance accepted business must be analyzed to determine its
relationship to the insurer's total premiums written.
Specifically, s. 220.151(1)(b), F.S., states:

"If the principal source of premiums written by an
insurance company consists of premiums for reinsurance
accepted by it, the tax base of such company shall be
apportioned... by multiplying such base by a fraction the
numerator of which is the sum of:

1. Direct premiums written for insurance upon properties
   and risks in this state, plus
2. Premiums written for reinsurance, accepted in respect to
   properties and risks in this state, and the denominator of
   which is the sum of direct premiums written for insurance
   upon properties and risks everywhere plus premiums written
   for reinsurance accepted in respect to properties and risks
   everywhere. For purposes of this paragraph, premiums

written for reinsurance accepted in respect to properties
and risks in this state,..., may, at the election of the
company, either be determined on the basis of the
proportion which premiums written for reinsurance accepted
from companies resident in... the state bears to premiums
written for reinsurance accepted from all sources or,
alternatively, on the basis of the proportion which the sum
of the direct premiums written for insurance upon
properties and risks in this state by each ceding company
from which reinsurance is accepted bears to the sum of the
total direct premiums written by each such ceding company
for the taxable year." (emphasis added)

The statute, therefore, provides for two different
apportionment methods for insurance companies writing premiums
or accepting reinsurance on properties and risks in this state.
One method is for insurers that only write direct premiums, or
that write direct premiums and accept some reinsurance, where
the reinsurance accepted does not represent "the principal
source" of their premiums written. Secondly, for those insurers
that accept reinsurance only, or that accept reinsurance and
write direct premiums, and whose reinsurance accepted does
represent "the principal source" of the insurer's premiums
written, the statutes provide for an alternative apportionment
method.

The statute explicitly states that to use the combined
apportionment calculation, i.e., reinsurance accepted plus
direct premiums written, reinsurance must be "the principal
source" of premiums written, not just "a" principal source of
premiums written. The principal source of premiums written is
defined in Rule 12C-1.0151(3)(a)3., Florida Administrative Code,
as:

"... the majority (greater than 50 percent) of premium
dollars received."

Rule 12C-1.0151(3)(b), F.A.C., further states that if "the
principal source of premiums written by an insurance company is
not for premiums for reinsurance accepted by it, the adjusted
federal taxable income is apportioned to Florida" using the

apportionment calculation that considers direct premiums only.
Upon analysis of Company's premium business, clearly reinsurance
accepted does not meet the 50% test provided for in the rule.

The following is a breakdown of Company's 1993 insurance
premium business showing that reinsurance accepted represents
23.17% of their total business:
Percentage
of Total
Direct Premiums Total

$88,877,278

76.83%

Reinsurance Premiums Total $26,796,758
Total Premiums

23.17%

$155,674,036

You are requesting that Florida allow Company to include
reinsurance accepted with direct premiums as the basis for
determining the income apportioned to the State, rather than use
the general direct premium only apportionment method. Rule
12C-1.0152, F.A.C., addresses the issue of other methods of
apportionment and states:

"(1) If the general method of apportionment provided in s.
220.15, F.S., or the special method of apportionment
provided in s. 220.151, F.S., does not fairly represent the
taxpayer's business activity in this state, the taxpayer
may petition for, or the Executive Director or his designee
is authorized to require, in respect to all or any part of
the taxpayer's business activity, if reasonable:
"(a) Separate accounting;
"(b) The exclusion of any one or more of the factors;
"(c) The inclusion of one or more additional factors which
will fairly represent the taxpayer's business activity in
this state; or
"(d) The employment of any other method to effectuate an
equitable apportionment of the taxpayer's income.
"(2)(a) A departure from the applicable method of
apportionment required under the provisions of ss. 220.15
or 220.151, F.S., shall be permitted only where the method
does not accurately and fairly reflect business activity in
Florida. An alternative method may not be invoked, either
by the Department of Revenue or the taxpayer, merely
because it reaches a different apportionment percentage

than the regularly applicable formula. However, if the
applicable formula will lead to a grossly distorted result
in a particular case, a fair and accurate alternative
method is appropriate (see Norfolk and Western Railway Co.
v. Missouri State Tax Commission, 390 U.S. 217, 88 S. Ct.
995, 19 L. Ed. 2d 1201 (1968), which is incorporated by
reference in Rule 12C-1.0511, F.A.C.).
"(b) The party (Department of Revenue or the taxpayer)
seeking to utilize an alternative apportionment method must
show by clear and cogent evidence that the regularly
applicable formula would result in taxation of
extraterritorial values (see Butler Bros. v. McColgan, 315
U.S. 501, 62 S. Ct. 701, 86 L. Ed. 991 (1942), which is
incorporated by reference in Rule 12C-1.0511, F.A.C.).
This can be shown only if the regularly applicable formula
is demonstrated to operate unreasonably and arbitrarily in
apportioning to Florida a percentage of income which is out
of all proportion to the business transacted in Florida
(see Hans Rees' Sons, Inc. v. North Carolina ex rel
Maxwell, 283 U.S. 123, 51 S. Ct. 385, 75 L. Ed. 879 (1931),
which is incorporated by reference in Rule 12C-1.0511,
F.A.C.).
"(3) The party seeking to use an alternative formula must
prove that the alternative formula fairly and accurately
apportions income to Florida based upon business activity
in this state.
"(4) A departure from the regularly applicable
apportionment method will be authorized only in limited and
specific cases where unusual fact situations (which
ordinarily will be unique and nonrecurring) produce a
result that is incongruous with the results of previous tax
years under the regularly applicable apportionment method.
"(5) A taxpayer shall petition the Department for a
departure from the required apportionment method by filing,
on or before the due date for filing of the return for the
taxable year, with extension, either: a written request for
a technical assistance advisement under s. 213.22, F.S.,
and Department of Revenue Rule Chapter 12-11, F.A.C.; or, a
petition for a declaratory statement under s. 120.565,
F.S., and Department of Revenue Rules 12-2.010, 12-2.011,
12-2.012, and 12-2.013, F.A.C.

"(a) The taxpayer shall file the request or petition with
the Division of Taxpayer Assistance, P.O. Box 7443,
Tallahassee, Florida 32314-7443.
"(b) The taxpayer's request or petition must include a
summary of the evidence to support the taxpayer's
contention that the applicable apportionment formula
results in taxation of extraterritorial values and to
demonstrate that the regular formula operates to
unreasonably and arbitrarily attribute income to Florida
far out of proportion to the business transacted in
Florida. The taxpayer must also furnish evidence that the
use of an alternative method fairly and accurately
apportions income to Florida." (emphasis added)

The taxpayer should also be aware of the decision reached
in the case Roger Dean Enterprises, Inc., v. State of Florida,
Department of Revenue, 371 So.2d 101 (1978), in which the
Supreme Court said, "There is a very strong presumption in favor
of normal three-factor apportionment and against the
applicability of the relief provisions. See Donald M. Drake Co.
v. Department of Revenue, 263 Or. 26, 500 P.2d 1041 (1972)."
The court then stressed that the "relief provisions of section
214.73, F.S., are to be used in only very rare instances where
normal three-factor apportionment could lead to an
unconstitutional result. Finally, the court concluded that
"Departures from the basic formula should be avoided except
where reasonableness requires." The relief provision,
therefore, should be used where the statute reaches arbitrary or
unreasonable results so that its application could be attacked
successfully on constitutional grounds.

CONCLUSION

After carefully considering your request, we have
determined, from the facts that you have presented, that Company
did not meet the 50% test established under Rule 12C1.0151(3)(a)3., F.A.C. Further, it is clear from the statute
that the 50 percent test is reasonable given the explicit
statutory language which provided for the inclusion of
reinsurance accepted only when the reinsurance accepted
represents "the principal source of premiums written by an

insurance company" not just "a" principal source of premiums
written.

The Company's 1993 apportionment factor calculated using
direct premiums only was .55427 and the apportionment factor
using direct premiums plus reinsurance accepted was .42587, a
difference of .1284. Rule 12C-1.0152(2)(a), F.A.C., provides:

"An alternative method may not be invoked, either by the
Department of Revenue or the taxpayer, merely because it
reaches a different apportionment percentage than the
regularly applicable formula."

This difference is not a "grossly distorted result," but
rather a normal, acceptable difference. Rule 12C-1.0152(3),
F.A.C., goes on to stress that:

"The party seeking to use an alternative formula must prove
that the alternative formula fairly and accurately
apportions income to Florida based upon business activity
in this state."

The Company did not state in its letter, nor could you
confirm during our telephone conversation of October 28, 1994,
whether any of the "affiliates" or "nonaffiliates" were resident
in this state. The apportionment factor of .42587 was calculated
on the assumption that none of the reinsurance accepted was from
insurers resident in this state. If, however, some of these
insurers were resident in Florida, this apportionment factor
would increase, and the difference between it and the direct
premium only apportionment factor would decrease.

Finally, Rule 12C-1.0152(4), F.A.C., states:

"A departure from the regularly applicable apportionment
method will be authorized only in limited and specific
cases where unusual fact situations (which ordinarily will
be unique and nonrecurring) produce a result that is
incongruous with the results of previous tax years under
the regularly applicable apportionment method."

This situation is not unique to this insurer; indeed, it is
not uncommon for insurers that write direct premiums in Florida
to also have reinsurance business. Such insurers may have a
greater amount of reinsurance accepted than Company, or a lesser
amount; however, the Department's position is that if the
reinsurance accepted is less than 50% of total premiums written
business, they must use the direct premiums only apportionment
method. Additionally, this is not a unique situation for this
taxpayer. Indeed, this exact issue was discovered during an
audit of this company for the tax years ending 12/31/86 through
12/31/89. This situation is, therefore, common to this company
and to other insurers writing direct premiums in Florida.

Therefore, based on the facts presented, the Department's
position is that the direct premium formula consisting of:

Direct Premiums Written in Florida
Direct Premiums Written Everywhere

provides a representative share of the Company's activities
within this state. Your request for inclusion of the Company's
reinsurance accepted business in the apportionment factor is
therefore denied.

This response constitutes a technical assistance advisement
under s. 213.22, F.S., which is binding on the Department only
under the facts and circumstances described in the request for
this advice as specified in s. 213.22, F.S. Our response is
predicted on those facts and the specific situation summarized
above. You are advised that subsequent statutory or
administrative rule changes or judicial interpretations of the
statutes or rules upon which this advice is based may subject
similar future transactions to the different treatment than
expressed in this response.

You are further advised that this response and your request
are public records under Chapter 119, F.S., which are subject to
disclosure to the public under the conditions of section 213.22,
F.S. Your name, address, and any other details which might lead
to identification of the taxpayer must be deleted by the
Department before disclosure. In an effort to protect

confidential information, we request you notify the undersigned
in writing within 15 days of any deletions you wish made to the
request or this response.

Sincerely,

Paul J. Munyon
Taxpayer Assistant
Statutory Compliance Section

PJM/kk
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