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Neal Stymied as Corporate Taxes Escape Change

July 26, 2011
In The News

WASHINGTON - US Representative Richard Neal has been thwarted for years in his effort to stop foreign insurance companies from shifting premiums paid by their US customers to offshore tax havens. This week, it became clear that the Springfield Democrat will be frustrated once again, as Democrats and Republicans in Congress have left tax code changes out of their competing plans to raise the debt limit.

While much of the nation’s attention has been riveted on the determination of fiscal conservatives in the House to block any provision that raises new revenue, Neal’s unsuccessful effort to close what he calls an offshore tax loophole is an example of how business interests have successfully stymied an array of tax code reforms sought by President Obama, Democrats, and even some Republicans in the Senate.

``It’s the lobbying muscle,’’ Neal said. ``Once something becomes embedded in the tax code, its very hard to extract.’’

Coincidentally, the aftermath of the tornadoes that tore through Western Massachusetts last month, causing an estimated $200 million in damage, offers a peek at the particular tax avoidance strategy on some insurance premiums that Neal and others say is unfair to US taxpayers.

Many of the storm damage claims in Westfield, Springfield, and Monson will be paid by overseas “reinsurance’’ firms, most with large operations in the United States and headquarters in Bermuda and Switzerland. While these firms lack household names, their niche coverage is crucial: backup assets to help primary, front-line insurers cover big losses from such catastrophes as floods, tornadoes, and hurricanes.

Under current law, however, the foreign reinsurance companies are not required to pay federal income taxes on the estimated $30 billion a year they shift from American subsidiaries to their offshore affiliates.

“It’s sophisticated tax avoidance,’’ said Neal, who serves on the House Ways and Means Committee, which has jurisdiction over tax matters. ``Their presence is in the United States. Their post office box is offshore.’’

Tax specialists say it is just one example of the many ways corporations legally move income from the United States to offshore accounts - and out of range of the IRS. The Congressional Research Service, a non-partisan arm of the federal government, estimated last year that such shifting costs US taxpayers as much as $60 billion a year in lost revenue.

``It’s an example of a broader issue,’’ said Bret Wells, a professor and international tax law specialist at the University of Houston Law Center. Unless such practices are stopped, he said, more US companies will join the trend.

``It becomes a huge competitive disadvantage’’ for companies who keep their corporate headquarters in the United States, he said.

The offshore reinsurance companies maintain that taking away the deductions on transfers would violate international trade agreements and lead to higher insurance rates on homeowners and businesses.

Their roster of paid advocates includes Mickey Kantor, the former US trade representative and Commerce secretary in the Clinton administration, and Susan C. Schwab, who served as trade representative under President George W. Bush.

An industry-backed group – the Coalition for Competitive Insurance Rates - commissioned a report that contends US homeowners and business operators, especially those in coastal areas from the Gulf of Mexico to New England, will face rate increases of more than 2 percent if the Neal legislation is passed, an $11 billion to $13 billion impact on consumers.

Offshore reinsurers would flee the US market and that would limit supply and drive up the price of insurance, said the author of the report, Michael Cragg, of the Cambridge consulting firm The Brattle Group.

“That is going to essentially tax away all of the profit that would allow them to do business in the United States,’’ Cragg said. “There is no economic incentive for them to do business in the US.’’

Cragg and industry representatives also contend that massive offshore assets protect the industry by spreading the risks of major disasters around the world, instead of concentrating the potential damages in US companies alone.

The conclusions of Cragg’s report are overstated, according to some industry analysts.

The Neal legislation and White House budget provision would have little impact on the huge reserves of capital overseas, said Laline Carvalho, an independent credit ratings analyst and reinsurance market expert who works for Standard & Poor’s. The effect on premiums paid by consumers, she added, would be minor.

``Their interest in the US market will not change. The US is the largest reinsurance market in the world,’’ she said.

Companies with foreign headquarters now dominate the global reinsurance market, reflecting a shift away from US shores that began in the 1990s and picked up steam after the Sept. 11, 2001, terrorist attacks and Hurricane Katrina in 2005.

Those disasters fueled demand for deep capital reserves to cover insurance losses. Reinsurance companies flocked to Bermuda, in particular, where regulatory hurdles to opening a company were low.

Several US companies transformed themselves into foreign corporations by changing their home to Bermuda. In other cases, foreign companies purchased US companies and began reaping rewards of the tax benefit with their new subsidiaries.

Overseas companies are not alone in reducing their US tax burdens by exploiting provisions of the tax code. Through a variety of strategies, many US corporations pay nothing close to America’s 35 percent corporate tax rate. But offshore reinsurance companies typically report lower tax burdens than the smaller group of domestic firms in the same business, specialists on both sides agree.

In some cases, the advantages are striking.

One of the largest overseas reinsurance companies, Bermuda-based Everest Reinsurance Holdings Inc., reported that it had no US income taxes to pay in 2010. Everest representatives did not respond to telephone messages.

Another, Arch Capital Group, paid effective total income taxes - US and other countries combined - of just 0.9 percent in 2010, according to filings with the Securities and Exchange Commission.

A former US corporation, Arch since 2000 has maintained its corporate headquarters in Bermuda, while continuing most of its operations in New York and New Jersey. The company declined to comment.

Neal’s fight has been joined by President Obama, who inserted a less aggressive version of the legislation into his proposed 2012 budget. If approved, the Obama reinsurance measure would raise about $1 billion a year in new taxes. Neal’s bill would have raised about $1.7 billion a year, according to government estimates.

The provisions would work by curbing the ability of these reinsurance companies to deduct as a business expense the money they shift from US subsidiaries to offshore accounts. Closing the deduction is supported by a group of domestic insurers, including Boston-based Liberty Mutual Insurance Co., Travelers Indemnity Co., and The Chubb Corp., which contend their foreign competitors have an unfair advantage.

“All we’re trying to do is level the playing field and treat them identically to US companies,’’ said Jonathan Talisman, a former deputy treasury secretary retained as a lobbyist by the domestic insurers. Offshore companies, he said, “want to serve the US market, they just don’t want to pay US tax on serving it.’’


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