Global tax clampdown fuels boom in insurance against costly rulings

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As governments around the world promise to clamp down on tax avoidance, there is a boom in the market for insuring against costly disputes with the taxman.

Brokers and underwriters say 2023 will be a record year for tax insurance, after the number of companies seeking to purchase policies hit a new high and the money available to cover unfavourable rulings increased.

In some cases, brokers say, companies have been able to buy insurance to cover more than $1bn of tax payments in the event they lose a dispute with the US Internal Revenue Service.

And despite the threat of tougher enforcement, the policies have never been cheaper, thanks to an increasing number of insurance companies entering the market.

While corporate taxpayers might be more worried about the IRS challenging their calculations, insurance companies are betting that not all of the extra enforcement actions will be successful, meaning they would make a tidy profit on the policies overall.

“Governments are under intense pressure to close budget gaps and we suspect in some cases they may take more aggressive positions than they have in the past, so a taxpayer is more likely to find themselves being audited,” said Bill Kellogg, head of North American tax insurance at Ryan Transactional Risk.

“There will be a lot of disputes where we think the taxpayer has a very strong position that we think we can support.”

Last year’s Inflation Reduction Act gave the IRS a big rise in its budget to increase audits of corporate taxpayers, wealthy individuals and large partnerships. Despite persistent attempts by Republican lawmakers to claw back some of the money, the agency has begun hiring thousands of new enforcement staff.

Meanwhile, governments around the world are rolling out new laws based on the OECD’s “base erosion and profit shifting” agreements, under which member countries promised to impose a 15 per cent minimum global tax rate on multinationals. The aim is to stamp out avoidance practices such as shifting profits to low-tax jurisdictions through transfer-pricing arrangements and other internal tax structures.

The prospect of more disputes with the authorities has encouraged insurers to underwrite a broader range of tax controversies, market participants say, moving tax insurance beyond its origins more than a decade ago in mergers and acquisitions activity and renewable energy projects.

The product has historically been used to guarantee tax credits vital to a renewables project, for example, or to protect an acquirer against an IRS challenge to the tax calculations underpinning an M&A deal. Brokers say premiums on many of these simpler policies have settled below 3 per cent, as they have become more established.

More unpredictable tax controversies — and those with the biggest sums at stake — can cost multiples more, they said.

Tax insurance is opaque compared with some corners of the insurance market, with data on pricing and coverage picked up largely anecdotally. Corporate taxpayers are reluctant to advertise their purchase of policies.

However, brokers and underwriters agree that 2023 is their busiest year to date.

Mark McTigue, tax insurance specialist at broker Marsh, said the number of insurers willing to underwrite tax risks had increased fivefold since he joined the company six years ago and Marsh had already sought more coverage in 2023 than in any previous year.

Submissions — requests for coverage it sent to the market for underwriters to consider — totalled 88 in the first 10 months of the year, Marsh said, compared with 71 in the whole of 2022, putting it on course to have doubled since 2020.

Premiums have fallen as new underwriters “use price to get a foothold in the market”, McTigue said, but the next big shift in pricing now awaits the outcome of showdowns with the tax authorities. “Time will tell if we have, in fact, picked the right risks and how many losses we have,” he said.

Tax insurance providers insist the burgeoning market is not encouraging companies to take more aggressive tax positions, but merely to help taxpayers deal with the uncertainty inherent in complex tax calculations.

“No one wants to insure a risk that has been targeted by the IRS as potentially abusive,” said McTigue. “Nobody is going to insure aggressive tax policies, because nobody wants to tarnish the reputation of the product and nobody wants to pay losses on bad risks.”

Kellogg echoed the point. “We are not trying to be the IRS’s enemy,” he said. “We are not trying to poke the bear.”