Change method of accounting for unearned premiums, medical loss ratio

Change method of accounting for unearned premiums

The IRS today publicly released a legal advice memorandum* addressing application of section 481(a) to an insurance company—i.e., a Blue Cross or Blue Shield organization—that changes its method of accounting for unearned premiums using the automatic change procedures of Rev. Proc. 2015-13 and Rev. Proc. 2015-14 by reason of failing or subsequently meeting the section 833(c)(5) medical loss ratio requirement. AM2016-002 (release date April 22, 2016, and dated April 1, 2016)

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*The memorandum is legal advice, signed by executives in the National Office of the Office of Chief Counsel and issued to IRS personnel who are national program executives and managers. The memo is issued to assist IRS personnel in administering their programs by providing authoritative legal opinions on certain matters, such as industry-wide issues. It is not to be used or cited as precedent.

Conclusion

The legal advice memo concludes:

  • When an organization requests automatic consent of the IRS Commissioner to change its method of accounting for unearned premiums because it fails the section 833(c)(5) medical loss ratio requirement—or because it meets the section 833(c)(5) medical loss ratio requirement after failing the requirement in a prior year—the organization must make a section 481(a) adjustment to prevent amounts from being duplicated or omitted. 
  • The organization’s section 481(a) adjustment is equal to the: (1) the unearned premiums at the end of the preceding tax year calculated under the organization’s old method of accounting minus (2) the unearned premiums at the end of the preceding tax year calculated under the organization’s new method of accounting. 
  • In general, the organization must take a negative section 481(a) adjustment into account in the year of change and take a positive section 481(a) adjustment into account ratably over four years, beginning with the year of change. 
  • If the organization has a positive section 481(a) adjustment and in a subsequent tax year when the organization meets the section 833(c)(5) medical loss ratio requirement, the organization is required to accelerate the remaining balance, if any, of the positive section 481(a) adjustment in the subsequent tax year in which the organization meets the section 833(c)(5) medical loss ratio requirement and changes its method of accounting for unearned premiums using the automatic change under provisions of Rev. Proc. 2015-14.

The legal advice memo [PDF 92 KB] includes three examples illustrating this conclusion.

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