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Insurance: What is it? How does it work?
Assume that Acme Co[i] is paying premiums for commercial insurance[ii] coverage to protect itself from economic losses that may arise out of various events. These premiums are deductible in determining Acme’s taxable income; they represent an ordinary and necessary expense of conducting Acme’s business.[iii] As in the case of most insurance, the premiums are “lost” as the policy period expires – they are not recovered notwithstanding that the insured has not suffered a loss.
Businesses will sometimes “self-insure” with respect to a particular loss[iv] by setting aside funds to cover their exposure to such loss. Thus, Acme may decide to establish a segregated account to which it will periodically make cash contributions – basically, a reserve – and from which it may withdraw funds to cover the loss, as needed. The amount set aside as part of a self-insurance program, however, is not deductible for purposes of determining the