Prior to the enactment of IRC §501(m), the issue of whether a group self-insurance pool was tax exempt generally depended upon an analysis of the "substantial purpose" requirement contained in Treasury Regulation §1.501(c)(3)-1(c)(1) which denies tax exempt status to an entity or organization if "more than an insubstantial part of its activities is not in furtherance of an exempt purpose." In addition, Treas. Reg. §1.501(c)(3)-1(e)(1) allows an entity to operate a trade or business as a substantial part of its activities but only "if the operation of such trade or business is in furtherance of the organization's exempt purpose.... Thus, the analysis turned upon whether the selling of insurance constituted an activity which furthered an exempt purpose. Two cases indicate that the provision of insurance in return for a premium is generally viewed as an activity which does not further an exempt purpose. In American Association of Christian School Voluntary Employees Beneficiary Association Welfare Plan Trust v. United States, 850 F.2d 1510 (11th Cir. 1988), the 11th Circuit held that a trust conducted a substantial nonexempt activity by providing insurance to employees of its tax exempt members in exchange for premium payments. The 10th Circuit came to a similar conclusion in Mutual Aid Association v. United States, 759 F.2d 792 (10th Cir. 1985), where an unincorporated insurance association sold insurance to its tax exempt members. In both cases, the provision of insurance exclusively to other tax exempt organizations did not change what the courts essentially viewed as commercial activities. Instead, the courts looked to the manner in which the entity or organization sold its insurance, focusing on the similarities with commercial insurance companies.
Darryll K. Jones, The Lingering Demise of Tax Exempt Mutual and Captive Insurance Companies, 69 Fla. Bar J. 88 (1995).