About a year ago, the Internal Revenue Service finalized a regulation unjustly identifying many small-business micro-captive insurance arrangements as “abusive” tax shelters. Unfortunately, this is not a niche issue that can be easily ignored; it is a clear example of IRS overreach that will undermine small-business confidence.
During the 2026 session, Congress must focus on advancing critically needed legislation clarifying its intention that captive insurance be available to America’s small businesses and prioritize regularly conducting oversight of related IRS enforcement activities.
Small captives are essentially private insurance companies owned by a parent company to insure the parent company’s specific risks. Under Section 831(b) of the tax code, these insurance companies can elect to defer federal income taxes on underwriting income. This allows them to grow reserves more quickly and remain competitive.
The IRS rule treats these perfectly legitimate risk-management tools as suspicious and imposes heavy reporting and compliance requirements. Small manufacturers, farmers and other businesses that use captives to protect themselves from risks that commercial insurers have priced prohibitively high — or won’t touch at all — are facing the threat of audits and penalties. Compliance costs associated with having a small captive will rise, and many firms will likely abandon their captive insurance company altogether. Doing so would expose these small businesses to unnecessary liability, increase their reliance on mainstream insurers, and place excessive strain on an already exhausted insurance market.
For too long, IRS bureaucrats have treated business partnerships as if they were small captives, viewing them as exploiting loopholes rather than as legitimate entities. Past administrations allowed the IRS to tighten its grip through audits and arbitrary rules, making it harder for entrepreneurs to organize, invest and share risk. The administration can change that trajectory by recognizing that small business structures, such as partnerships and micro-captives, are part of the solution to the insurance crisis, not the problem.
The misdirected IRS micro-captive rule is precisely the kind of problem President Trump sought to address in a 2025 executive order Ensuring Lawful Governance and Implementing the President’s “Department of Government Efficiency” Deregulatory Initiative. Specifically, the order directs federal agencies to identify and rescind regulations that disproportionately burden small businesses.
Unfortunately, IRS regulations such as the small captive insurance rule and other regulations, combined with unpredictable IRS enforcement targeting small businesses, are already stifling growth. A recent SBE Council–Oxford Economics report found that fears regarding IRS enforcement cost the economy billions annually. In fact, 35 percent of small businesses say fear of IRS scrutiny keeps them from claiming legitimate credits or incentives. Addressing this uncertainty could add $120 billion in private-sector investment, grow revenues by $1.4 trillion, and create 4 million jobs.
Small captive insurance gives small firms a powerful, tax-deferred self-insurance option. Under the new IRS rules, even compliant captives will feel a chilling effect, and many businesses will opt out entirely. If the administration is serious about its commitment to regulatory commonsense and restraint, the IRS’ micro-captive rule should be included among those subjected to formal review.
Small partnerships and entrepreneurial firms drive more than $1.3 trillion in GDP and support 10 million jobs. When agencies regulate through fear rather than clear, bright-line rules, they threaten the benefits of such partnerships.
The administration has a clear opportunity to continue its work supporting investment by entrepreneurs and small businesses. The 2025 micro-captive regulations should be rescinded as part of the IRS’s broader, multi-pronged approach to fully assess the effects on small businesses before imposing any new rules. This will demonstrate commitment to the principle that small businesses are owed a predictable tax enforcement environment.
Congress can weigh in as well, via legislation and direct advocacy, by urging the IRS to immediately pause enforcement of the rule and amending section 831(b) to include a safe harbor that provides some clarity for the small businesses that need captive insurance and protects them from having to defend against overly aggressive IRS enforcement activities intended to dissuade them from using captives.
Small-business owners want the freedom to invest, hire and grow their firms without constantly looking over their shoulder. The IRS’s new micro-captive rule demonstrates the harmful effects of a regulation that goes too far. It’s time for the IRS to align with the 2025 executive order by creating a fair regulatory environment that supports small-business growth and success.
