Op-Ed: Pete Sepp: IRS reform can start with protecting small businesses and their vital financial tools

When it comes to harsh tax law enforcement, small businesses often find themselves in the worst possible position. On top of that, we’ve entered the spring weather season with strong storms and tornadoes impacting small businesses in the Great Plains and Midwest. Major damage claims, and affordability problems with future coverage are sure to follow.

The Internal Revenue Service (IRS) is not making it any easier by continuing to scrutinize a vital insurance tool used by small businesses, most recently with poorly-crafted regulations issued on January 14 of this year.

It’s not difficult to understand why: the IRS can collect more dollars from these taxpayers than it can from everyday wage earners, and small businesses rarely have the resources to fight back against the government. No wonder that small business owners often feel abused by the system.

But now, with a new administration and IRS commissioner nominee, there’s hope for a change of direction.

If there’s any organization in America that would know what taxpayer abuse looks like, it’s the National Taxpayers Union (NTU). Since 1969, we’ve been at the forefront of every major taxpayer battle, such as helping to pass President Ronald Reagan’s reform of the Tax Code in 1986 and winning five separate packages of taxpayer rights legislation between 1988 and today. This includes the Taxpayer First Act of 2019, which was intended to provide taxpayers with new, critical safeguards and protections against governmental overreach.

However, as protections are created for taxpayers, new threats arise. The reality is that our government is dead broke, and rather than reining in excessive spending, politicians have instead decided to target the groups already paying a disproportionately higher percentage of the taxes collected each year. For example, under President Joe Biden’s administration, instead of prioritizing urgently needed taxpayer service or modernization needs, tens of billions of dollars were allocated to enforcement efforts through the tragically misnamed Inflation Reduction Act of 2021.

With the 2025 transition of power in full swing, now is the time to chart a new course at the IRS. NTU’s research arm has identified 10 key reforms that the incoming IRS commissioner must focus on, including: creating a detailed “punch list” for specific technology modernization, strengthening the Independent Office of Appeals and the National Taxpayer Advocate, and starting from scratch on unworkable rules like those about to be implemented for crypto transactions.

A more specific example of where change is needed is in the area of micro-captive insurance. The IRS is aggressively pursuing small business owners with audits and scare tactics rather than creating common sense guidance and direction on well-established law.

In simple terms, a micro-captive, or 831(b) Plan, is a small insurance company owned by a parent company to insure the parent against fortuitous risk. They enable small businesses to set aside up to $2.85 million per year (indexed to inflation) to pay claims for coverages that are typically unavailable or economically infeasible to purchase in the commercial marketplace. Micro-captive companies help small business owners generate improved cash flow, provide insurance policies that more closely fit the business needs, fill gaps in existing coverages, and deliver peace of mind.

Micro-captive insurance is not new. In fact, NTU supported the larger legislative package (the Tax Reform Act of 1986) that first statutorily supported it as a concept. Importantly, the circumstances that gave rise to the establishment of micro-captive insurance in 1986 are eerily similar to, if not worse than, today. As traditional carriers abandon whole markets in various states, struggle to improve “take rates,” and reduce or limit coverages, micro-captives will be increasingly critical to ensure that the economy and small businesses are viable in the decade ahead.

The primary reason micro-captives are being targeted by the IRS is if they meet several requirements, they may choose to make an 831(b) election, exempting them from paying income taxes on premiums collected. This is where the IRS takes issue, as there have been instances of abuse by bad industry actors. This is also due to the IRS providing little clear guidance with respect to micro-captives, because of a lack of industry expertise or insufficient manpower. However, the solution is not to categorically attack all micro-captives.

Currently, over 1,000 micro-captive insurance arrangements are caught up in an aggressive IRS campaign. IRS data from cases suggest the vast majority of these will likely be settled for a minuscule amount or zero penalty.

Clearly, reforms are needed, as a recent NTU public outreach effort stressed. We are calling on Congress to work with the White House to include legislation in the reconciliation package that will address micro-captives and set clear guidance.

At the IRS, taxpayer protections must be implemented, customer service and modernization efforts must be prioritized, and a general attitude of respect for American taxpayers must be restored. We are cautiously hopeful that the nomination of former Congressman Billy Long to lead the IRS will be the first step toward these goals, especially in light of Mr. Long’s history of support for certain IRS reforms.

Small business owners and employees — not to mention their customers — are anxiously awaiting signs of change in government policies affecting them. Ending indiscriminate, unfair IRS enforcement efforts, particularly against those legitimately utilizing a micro-captive insurance company would be a great place to start.

Pete Sepp is President of the nonpartisan National Taxpayers Union (ntu.org).