Perspectives on the Neal Bill

and What It Could Mean for Coastal Markets

Alex Kaplan, Vice President, Regulatory Affairs

Michael Natal, Vice President, Finance (Tax)

CEI - Out of the Storm '09October 1, 2009

Slide 2

Introduction

H.R. 3424 introduced July 30 by Rep. Richard Neal (D-MA), referred to the Committee on Ways and Means

Alleged problem – foreign (re)insurers shifting profits offshore to “low, no tax jurisdictions to “escape” US tax

The current political/fiscal environment make this proposal more attractive than in previous years

Supported by a small coalition of companiesCEI - Out of the Storm '09October 1, 2009

Slide 3

How the Proposal Works

Disallows US tax deduction for premiums paid to affiliated non-US reinsurer

Amount disallowed based on US insurance industry averages:

Limit: generally, what a “typical” US insurer reinsures with non-

affiliates (e.g., 10% gross written premiums)

CEI - Out of the Storm '09October 1, 2009

Reinsurance premiums paid to non-affiliates and US affiliates (absorbs limit 1st)

Reinsurance premiums paid to non-US affiliates

US tax deduction disallowed

Slide 4

How the Proposal Works (cont.)

US insureds

Example

CEI - Out of the Storm '09October 1, 2009

US direct writer

$200 premium

$100 premium

US reinsurer

Reinsurance

capital relief

• enhance ratings

• expand business

off-load peak/cat risks

Non-US reinsurer (affiliate of US

reinsurer)

$50premium

Retrocession

capital relief

• enhance ratings

• expand business

off-load peak/cat risks

centralize capital – efficiencies

risk diversification

Slide 5

How the Proposal Works (cont.)

$100 premium

Example (cont.)

CEI - Out of the Storm '09October 1, 2009

$50premium

US reinsurer Non-US affiliate

$100 prem. income($50 prem. deduction)$50 net prem. taxed (US)

$50 prem. inc.(non-US jurisdiction)

Current treatment: $100 of

premium

taxed

+ =

$100 prem. income($25 prem. deduction)*$75 net prem. taxed (US)

$50 prem. inc.(non-US jurisdiction)

Proposed treatment: $125 of

premium

taxed

=+

* Assumes 50% of the premium is limited.

Slide 6

How the Proposal Works (cont.)

US Insurer100 premium income(90) establish reserves, pay acq.

costs*

(50) deduct reins premium45 reserves/costs (reins credit)

45 reserves to pay claims/costs45 reins received to pay claims/costs

(90) deduct payments to US insured

5 insurer taxable income1.75 tax (@ 35%)

US Reinsurer----

50 premium income(45) establish reserves/pay costs

45 reserves to pay claims/costs

(45) deduct payments to insurer--

5 reinsurer taxable income1.75 tax (@ 35%)

Total profit: 10, Total tax: 3.5

* Assume 10% profit on business, no reserve discount, and 1-year contract currently settled.

initial underwriting

reinsurance

final payment of claims

$100 premium

$50premium

Detailed Example - US v. non-US

Slide 7

How the Proposal Works (cont.)

US Insurer100 premium income(90) establish reserves, pay acq.

costs*

(25) deduct reins premium – LIMITED**

45 reserves/costs (reins credit)

45 reserves to pay claims/costs45 reins received to pay claims/costs

(90) deduct payments to US insured

30 insurer taxable income10.5 tax (@ 35%)

Non-US Reinsurer----

50 premium income – 2x TAX

(45) establish reserves/pay costs

45 reserves to pay claims/costs

(45) deduct payments to insurer--

5 reinsurer taxable income1.25 tax (@ 25%)Total profit: 10, Total tax: 11.75

* Assume 10% profit on business, no reserve discount, and 1-year contract currently settled.

initial underwriting

reinsurance

final payment of claims

$100 premium

$50premium

Detailed Example - US v. non-US (cont.)

** Assume 50% of the premium is limited.

Slide 8

Why the Proposal is Flawed

Effectively a gross premiums tax (losses ignored) – highly punitive

Imposes double tax – ignores US treaty regime (treaties seek to avoid double tax)

Proponents argue profits shifted to low-/no-tax jurisdictions, but proposal applies to all non-US reinsurers regardless of jurisdiction

– losses also sent offshore

Ignores powerful non-tax reasons for reinsuring with affiliates (e.g., centralization of capital)

Is based on an improper analogy to earnings stripping

CEI - Out of the Storm '09October 1, 2009

Slide 9

Why the Proposal is Flawed (cont.)

US already has rules requiring fair (arms’-length) pricing between related parties

Other technical concerns

CEI - Out of the Storm '09October 1, 2009

Slide 10

The Political Landscape

House: Rep. Neal has raised affiliate reinsurance issue several times over past decade

– bills introduced 2000, 2001, and 2008

– 2009 bill very similar to 2008 bill

– prior bills have all expired in subcommittee

Senate: only recently interested in the issue

– Sep. 26, 2007 Senate Finance Hearing

– Dec. 10, 2008 Senate Finance Committee “Discussion Draft” (virtually identical to 2008 Neal Bill), request for comments

– Feb. 28, 2009 deadline for comments

Administration: Did not include in FY2010 BudgetCEI - Out of the Storm '09October 1, 2009

Slide 11

The Political Landscape (cont.)

Senate Finance Committee comments

– 22 in support, all from 3 companies: Berkley, Chubb, and EMC

– 43 opposed, from various companies, governments, consumer groups, insurance commissioners, etc.

Support for 2009 Neal Bill appears weak, but Congress is seeking tax revenue; factors for/against passage: Pros Cons

Congressional Pay-Go rules, need for tax revenue

reaction by international community

focus on tax havens, closing the “tax gap”

the economic crisis, need for financial stability

anti-foreign sentiment higher insurance costs for consumers

CEI - Out of the Storm '09October 1, 2009

Slide 12

Economic Impact

Brattle Group Study: Report released May concludes Neal bill would deplete the US market of 20% of the current reinsurance capacity

The 20% reduction in capacity would result in a $10-12B annual increase in premiums for US policyholders

Minimum Premium Increase by State:

– Florida: $500M

– Louisiana: $76M

– Massachusetts: $108M

– South Carolina: $43M

– Texas: $350M

Slide 13

Overview Q&A

CEI - Out of the Storm '09October 1, 2009