How Section 831(b) Captive Insurance Protects Your Business and Saves You Taxes

 For most business owners, insurance is a cost of doing business. But with the Section 831(b) captive insurance election, it can also be a powerful tax strategy.

A captive insurance company is essentially a private insurance company you own that insures risks your traditional policies won’t cover—such as supply chain disruptions, brand damage, cyber threats, or high deductibles. The 831(b) provision allows businesses to set aside up to $2.8 million annually in pre-tax dollars to fund these risks.

Why It Matters

Most companies keep “unfunded liabilities” on their books. These are risks they’re self-insuring without any reserves in place. If a major loss hits, they’re forced to pay with after-tax dollars or tap credit lines. An 831(b) captive solves this by creating a tax-deferred reserve you control, offering:

• Risk protection for events traditional insurers won’t cover
  
  
• Tax savings by funding with pre-tax dollars
  
  
• Financial resilience in the face of unexpected losses
  
  

Who It’s For

Captives aren’t for everyone. They typically make sense for profitable businesses that can consistently set aside $200,000 or more each year. The setup involves forming a C corporation, underwriting legitimate risks, pooling with other companies, and staying compliant with IRS rules.

Watch Out for Compliance

The IRS has scrutinized captives in the past, mostly due to abuses where companies insured unrealistic risks or used them for estate planning instead of risk management.

Success with an 831(b) strategy comes down to proper risk pooling, actuarial support, and documentation.

Bottom Line

An 831(b) captive can be both a financial safety net and a tax-saving tool for growth-minded businesses. Done right, it’s like a 401(k) for risk; Building reserves you hope never to use, but that could be there when you need them most.

Want to see if an 831(b) is right for your business? Listen to the full episode! 

TRANSCRIPT

[00:00:00] Intro: What is a Captive Insurance Company?
Have you ever wondered why some businesses seem to thrive during uncertainty while others scramble to survive? It's not luck. It's not size. It's something called a captive insurance company. And today you're about to learn how it could be the smartest financial move you've never heard of. Imagine setting aside pre-tax dollars to protect your business from risks traditional insurance ignores, all while building your own private safety net legally.

We are joined by Van Carlson from SRA 831(b), an expert in helping businesses leverage Section 831(b) of the tax code to take control of their risk, their reserves, and their future. If you're a business owner looking to play the long game, stay with us. This might just change the way you look at risk, insurance, and taxes forever.

Welcome to the Small Business Tax Savings Podcast, your ultimate guide to legally slashing your tax bill while building your wealth. Get ready to unlock the secrets of tax savings with your host, Mike Jesowshek, CPA.

[00:01:00] Opening Conversation
Ben, welcome to the show.
Thank you, Mike. That was a great intro. I want to talk about something that a lot of business owners don't know about. Some that have heard of it get a little leery because they search “captive” online and find information that scares them.

I want to talk about the process of a captive—what it means, what they are, some of the risks, what that risk might look like, and if there is risk. To start, what is a captive insurance company and how do they work? What's the intention of them?

[00:01:39] Defining a Captive Insurance Company
Captive insurance companies have been around for a long time. It's self-insuring risk, often for areas traditional insurance does not cover. We talk about workers’ compensation, general liability, and enterprise risk management, which is what you mentioned about insurance companies simply not wanting to cover certain things.

The best example is COVID. The government had to step in because insurance companies would not cover it under business interruption. They couldn’t afford to, and we couldn’t afford them to, because premiums would have been astronomical.

This comes down to recognizing the self-insured risks you are retaining. This becomes a funding issue, creating an unfunded liability on your books. If you buy an insurance policy for your building—fire, theft, vandalism, wind, hail—you fund that risk by paying a premium and transferring the risk to the insurer. Other risks you retain on your books.

If you have an unfunded liability, you can either ignore it and hope nothing happens, or pay for it with after-tax money or credit when it does. The other option is to use pre-tax dollars to fund that liability. That’s where Section 831(b) comes in.

[00:03:31] Why Section 831(b) Exists
Section 831(b) was created in the 1986 Tax Reform Act. Back then, liability issues were high and companies were finding ways to transfer risk. The current marketplace is similar.

Today, insurers are shifting more responsibility to the insured—higher deductibles, reduced replacements, larger co-insurance requirements. Coastal properties face major pressure, commercial auto rates are spiking, and some areas have reduced fire coverage due to wildfire risks.

One major trend is deductible reimbursement, where businesses take on much higher deductibles than in the past. For example, some commercial building owners are taking $500,000 deductibles to avoid rate hikes and claims that could jeopardize future coverage.

[00:05:52] Captive Insurance as a Tax-Deferred Reserve
This isn’t a new concept, but it is new to many business owners. A captive insurance plan works much like a 401(k)—it’s a deduction at the operating company level, but the funds remain tax-deferred as long as you follow IRS rules.

We act as administrators, managing 831(b) insurance companies. The captive must look and operate like a legitimate insurance company. The advantage is that it allows you to prepare for risk while keeping funds in a tax-deferred environment, providing a financial lifeline if disaster strikes.

[00:06:49] Why Businesses Should Consider Captives
I got involved in this work during the Great Recession. I saw business owners doubling down every year, relying on accelerated depreciation and taking on debt, expecting the next year to be better. Some were overextended and vulnerable when the downturn hit.

I met business owners who had these plans in place, and they were the ones showing up at competitors’ auctions, buying equipment for pennies on the dollar. That’s when I realized this is what smart money does—managing both fortuitous risks (unexpected events) and financial risks taken every year in business.

In the CPA community, there’s a standard playbook: start a business, buy more equipment, buy a building, set up a 401(k) for employees. But not everyone needs to own a building. That can carry risks outside your core business.

I see 831(b) playing a role where business owners make it a normal practice. Education and awareness are key, especially with CPAs, because this can be a business owner’s lifeline in a crisis.

[00:09:32] Modern Business Risk Complexity
Compared to 1986, today’s business environment carries far more complex risks. Businesses now face third-party dependencies, cloud reliance, and increased exposure to business interruption if systems are compromised.

The intangible assets of a business—brand, reputation, intellectual property, processes, cash flow—are often more valuable than tangible ones, yet are less protected by traditional insurance. Captives can help cover these areas.

[00:10:12] What a Captive Can Cover
A captive doesn’t replace existing policies. Instead, it can cover risks not addressed by current insurance or supplement existing coverage. This could include covering high deductibles, supply chain risks, brand protection, dispute resolution, and gaps in cyber coverage.

We start by reviewing a client’s current policies to identify gaps and limitations. We might offer a “halo coverage” that sits above existing policies—covering denied claims, insufficient coverage, or high deductibles—similar to how a Health Savings Account offsets healthcare deductibles.

The goal is to make this a normal tool for mature, successful businesses, just like 401(k)s became standard.

[00:13:53] Who Should Use an 831(b) Captive
Our typical clients are established business owners who have matured to a point where risk management becomes a higher priority. When starting out, most owners are optimistic and focused on growth, but as they grow, they start thinking more about protecting what they’ve built.

The hope is that, like an HSA, the captive funds go unused and eventually become another retirement vehicle for the owner.

[00:15:46] How an 831(b) Captive is Set Up
We act as the administrator, helping set up the captive as a C corporation. The operating company can own it, or the owners of the operating company can be shareholders of the C corp. Ownership typically mirrors the operating company.

The captive supports the risks of the operating company it’s tied to. Our onboarding process is automated and streamlined. Once a client commits, we go through underwriting, review their risks, and return with numbers.

As a general rule, we suggest up to 10% of gross revenue can be allocated to the captive, but no more than 2% per policy. For example, a business making $5 million annually might set aside $500,000, with coverage for at least five risks—often more.

We listen closely to the owner’s concerns. Many have experienced “nightmare” scenarios they want protection against. Unique businesses tend to have more coverage gaps, because insurance companies prefer standardized categories that may not fit.

[00:18:49] Identifying Coverage Gaps
Part of our job is reviewing policies to uncover limitations or exclusions the owner may not be aware of. For example, one general contractor’s policy excluded liability if they built more than five homes in a subdivision. That’s a major gap for someone regularly building more than that.

Once underwriting is complete, we issue policies and set up the claims process. When a claim is submitted, it’s adjudicated according to the terms.

[00:19:54] Risk Pooling and Shared Responsibility
Most clients are part of a pool, sharing risk with other companies that have similar risk profiles. For example, a brand protection policy might be pooled with other businesses that carry similar coverage. If one business files a claim, the cost is shared proportionally among all members of that pool.

This is not a risk-free arrangement. Business owners need to understand that they are sharing risk, just as traditional insurance works through the law of large numbers.

We’ve found that pooling, when done correctly, keeps the captive compliant and manageable, and helps avoid IRS issues. Our pools typically have 400–800 companies, making the shared risk impact minimal when claims occur.

[00:22:29] Size and Cost Considerations
This strategy generally makes sense for businesses that can consistently set aside at least $200,000 annually. If you can’t, the fees and administrative costs may outweigh the benefits, and it may be better to pay taxes and self-fund reserves.

The right candidates are mature businesses with consistent profits, meaningful risk exposure, and a desire to protect assets while reducing taxes.

[00:25:14] IRS Scrutiny and Compliance
Some business owners are interested in captives for the risk protection and tax benefits but become concerned when they read about IRS actions against micro captives.

The IRS began targeting these arrangements because some were abused for estate tax planning rather than legitimate risk management. In the 2000s, when estate tax thresholds were lower, some estate planning attorneys promoted captives as a way to reduce estate taxes.

When you look at the court cases the IRS pursued, they often involved poor facts—coverage for risks the business was not exposed to, no real pooling, or structures designed primarily for tax benefits.

Our approach is to treat this first and foremost as a risk management tool. If you get the tax advantages, that’s a bonus. The primary purpose is to fund and manage real, insurable risks.

[00:27:46] Avoiding IRS Problems
We avoid the pitfalls that get others in trouble by:

• Pooling risk correctly.
  
  
• Covering only risks the business is actually exposed to.
  
  
• Avoiding unrealistic or irrelevant policies.
  
  

We’ve been through a full IRS promoter audit from 2022 to 2024. It concluded with no changes. The IRS won’t “bless” any specific arrangement, but a clean audit is a strong indication we’re compliant.

[00:28:50] Legitimacy of Section 831(b)
Section 831(b) is law passed by Congress in 1986, supported by both political parties. It exists to help businesses stay in operation when hit by significant, uninsured losses.

Members of Congress and the IRS are becoming more familiar with its intent and benefits. We’re part of a strong lobbying effort in Washington to protect the availability of this tool.

The IRS will likely issue clearer guidelines in the future. Just as 401(k)s became a normal business practice, 831(b) captives can and should be a standard risk management tool for small to mid-sized businesses.

[00:31:26] Closing Thoughts
This strategy has been used by large companies since its inception. It’s unfortunate many small business owners are hearing about it for the first time. Had they known about it during events like the Great Recession or COVID, it could have made a huge difference in survival and recovery.

The key takeaway: 831(b) captives are not for everyone, but for the right business, they provide both a financial safety net and potential tax savings. The goal is resilience—having the resources to weather risks that could otherwise take you out of business.

[00:32:48] Outro
If this sparks interest, talk to your advisors and dig deeper. The right strategy now can mean survival when it matters most.

Big thanks to Van Carlson for sharing his expertise. If you want to connect with our partners or learn more, email [email protected].

Subscribe for more tax-saving strategies, and visit taxsavingspodcast.com for tools, guides, and implementation support.