The implementation of a border-adjustment tax (BAT) in the states would eliminate the ability of U.S. insurers to utilise vital foreign reinsurance to manage exposures and drive higher premiums, especially in areas like California that are highly susceptible to significant catastrophe risks, warns R Street and the Pacific Research Institute (PRI).
Assessment by industry think tank, R Street, and the PRI, claims that Californians would pay an additional $1.91 billion in higher property and casualty (P&C) insurance premiums over the next ten years, should proposed tax reforms in the U.S. include the implementation of BAT to the import of reinsurance.
Talks of a federal tax reform have been ongoing for some time in the U.S., and while uncertain, it’s been reported that part of the reform could include the implementation of a BAT, which, as with VAT in other countries, has the effect of taxing imports but not exports.
However, in most countries that maintain VAT, insurance and other financial services are exempt. Currently, in the U.S., “domestic insurance companies may deduct the cost of reinsurance—whether from a foreign or domestic source, and whether underwritten by an affiliated or unaffiliated reinsurer—as a legitimate business expense,” explains the report.
Again, in remains uncertain if a BAT will be part of the federal tax reform and exactly what the tax reform itself might look like, but the report seeks to examine the impact BAT would have U.S. insurers’ ability to utilise foreign reinsurance protection, should it fail to exempt re/insurance and other financial services.
The report focuses on California, which is susceptible to a range of natural catastrophe events, and which the report claims expects to experience annual losses for catastrophe perils of $3.47 billion, and a 1-in-250-year loss of $52.68 billion. The difference, being $49.21 billion, is the volume of capital the region needs to insure its catastrophe exposure.
Analysis in the report, which compares California’s exposure relative to both the U.S. and the rest of the world, and then looks at current returns on capital required by global reinsurers, claims annual premiums in the state would need to increase by $191 million a year.
“Over the next decade, ignoring inflation, this analysis estimates $1.91 billion of additional expense for California consumers.
“If insurers are not able to buy reinsurance to spread their risk, all the risk would be concentrated in the U.S. rather than spread globally. This would make California’s insurance market less competitive, and result in Californians paying higher premiums,” says the report.
Ultimately, the report finds that the introduction of a BAT system to insurance and reinsurance would greatly hinder the ability of California, and other states’ ability to utilise much needed foreign reinsurance protection. The inability to use foreign reinsurance, of which U.S. insurers currently cede about 20% of their direct written premiums to annually, would also increase competition in the local market, which would likely result in higher premiums for consumers.
