Subchapter L of the Internal Revenue Code governs the taxation of reinsurance companies. The Code provides incentives that allow insurance companies to accumulate reserves for the payment of future claims. For example, insurance premiums of qualifying companies are not counted in taxable income. The insured company receives a tax deduction for the payment of insurance premiums to the direct insurer. A portion of those premiums will be ceded to the reinsurer. Those ceded premiums will not be included in the taxable income of a qualifying reinsurance company.

A reinsurance company is taxed pursuant to Internal Revenue Code section 831(b). That section provides that the reinsurance company will pay income tax only on its investment income using C corporation rates. It will not pay tax on premiums. Neither will it pay income tax on insurance profits (premiums minus claims). Here are the key provisions of Code 831(b):

A reinsurance company will be a Subchapter C corporation for federal tax purposes. All of the tax benefits of a C corporation are available to shareholders of the reinsurer including preferential rates for dividends; section 243 dividend deductions, capital gains treatment upon dissolution of the reinsurer; compensation and fringe benefits for directors, officers, and employees.