London, the grand dame of reinsurance is in danger of losing out to younger, more attractive markets, as companies lose patience with the UK’s burdensome tax and regulation. So what can the incoming government do to keep ’em sweet?
London’s position as the world’s leading insurance market is under threat.
Less taxed, more lightly regulated markets are coming to the fore, and the result is that several groups with significant reinsurance operations are moving abroad.
In the past 12 months, this trend has been demonstrated by: Lloyd’s syndicates Brit Insurance and Beazley moving their headquarters to the Netherlands and Ireland, respectively; Robert Hiscox, the chairman at Bermuda-based Hiscox attacking government policies as “scandalous”, and making the UK “less competitive”; and Chaucer chief executive Bob Stuchbery disclosing that he is considering moving the company to “a more favourable tax environment” in the next two years.
The Treasury has grown so concerned by recent moves that it has commissioned the Insurance Industry Working Group (IIWG) to look into how to maintain capital flows into the UK. Lloyd’s finance director Luke Savage has argued that relocation is not a threat to the market, as the syndicates still trade there, and it still covers most of the greatest risks in global reinsurance.
But what is certain is that it takes valuable tax revenue out of the UK and tarnishes London’s image as the grand dame of the industry.
What is particularly damning is that many reinsurance bosses simply don’t want to be anywhere other than the City. “The board is always knackered, flying off to, say, Bermuda six times a year just for board meetings,” a director at a leading reinsurance group says. “They spend half their time in the air.”
Once the general election is done and dusted, the reinsurance industry wants the government to take action to make the UK competitive again. So what is on the sector’s wish list?
Slash corporation tax by a quarter
The 28% corporation tax rate, or profit levy, was cited by Beazley and Brit as the main reason for their moves. Beazley is paying just 12.5% in Ireland, while Brit was angry at paying nearly £50m in 2007 and 2008.
Matthew Fosh is chief executive at London-based Novae Group, which in January launched a specialist reinsurance operation in Zurich that is expected to earn a gross written premium of £100m this year. He says: “UK corporation tax doesn’t have to be as low as other jurisdictions because of the high quality of life in the UK, but it does have to be in touch with them.”
Accountancy Grant Thornton’s insurance practice tax leader, Ian Woodruff, argues that there must be an immediate cut to 25% or even 20%. He argues that a quick change is vital, as the industry has few cost arguments against relocation. “The issue for all globalised industries is that people can easily move elsewhere and reinsurance capital is very mobile.”
Make capital as important as labour
Proposals for a set of amendments to the so-called controlled foreign companies (CFC) requirements are being consulted upon at present. These seek to recoup tax gains made by overseas subsidiaries.
So, if a holding company is in London but its reinsurance division trades from Bermuda, can it save that part of its corporation tax? The answer is no. Currently, the government claws back these tax savings by demanding that they are paid to the Treasury at holding company level.
However, there are exemptions. For example, the parent of a manufacturing subsidiary with a large number of people working in its factories is unlikely to have to make up the difference.
Reinsurance is much more capital intensive, but given that the UK is a services economy, it is no less vital to the country’s financial health. Industries that have their size defined by money rather than the number of staff should benefit from exemptions, too.
“The consultation is moving very slowly,” Woodruff sighs. “But what the reinsurance industry would like to see is that capital is on the same level as labour within the CFC regulations.”
Simplify the tax structure
By their nature, reinsurance groups are global businesses. The IIWG report Vision for the Insurance Industry in 2020 was adamant that, to encourage capital into the UK, the government needed to promote “open and equal access to international markets”.
At present, this is not the case because of the UK’s fiendishly complicated tax regime. If a group has a branch, rather than a subsidiary operating in a tax haven, outside of the country, it will have to pay tax twice.
So, a UK reinsurer with a branch in a Baltic state will have to pay tax to that country’s government, then to the UK Treasury. Only at that point can it claim tax relief.
“This is costing reinsurance companies lots of money with big tax departments and expensive outside consultancy from accountants to get the tax they pay right. Going into the detail of how they’re taxed is nightmarish,” ING Financial Markets insurance analyst Kevin Ryan says.
Ryan also thinks that there should be breaks on capital gains tax, so that if a reinsurance group invests in overseas assets, it does not forfeit any of the value in their uplift. “If their assets were located in Bermuda, they would be better off if they were just physically sitting in Hamilton [Bermuda’s capital], as they get just get the profits tax free,” he argues.
It is not just the complexity and severity of the UK tax regime that is forcing insurance groups to move, but the uncertainty caused by the number of changes made by successive governments.
A good example is income tax, the bands for which are so often altered as governments try to woo different social groups depending on what is most politically expedient.
For example, this month the highest band has been raised to 50%, which was the reason for Robert Hiscox’s rant. He claimed that this forced people to “uproot their families to leave the country”. The Institute of Directors has warned that the increase is likely to raise very minimal extra money for the depleted vaults of the UK Treasury, repeating the message that people will simply move abroad.
Many reinsurance staff are in the top band because reinsurance needs highly skilled practitioners. The knee-jerk reaction of a chancellor to a tabloid “fat cats” headline means that their salaries are chopped.
“A predictable tax system is just as important for a global business domiciled in London as it is for a specialised local business,” an Association of British Insurers spokesman says.
“The insurance industry has suffered more than most from constant taxation change. There have been too many surprises, which have often meant even well-intended tax measures deliver unintended consequences.”
Lighten domestic regulation – or stop fiddling! part two
Rightly or not, any capital-intensive organisation can expect to be eyed with suspicion as a result of the financial crisis. Insurers of all kinds find themselves blamed almost as much as bankers, largely because of the collapse of AIG in 2008.
Energised by its increased power in the wake of the credit crunch, the FSA is getting tougher, recently charging bankers with trading on illegal information.
But there is talk of moving insurance regulation to the Bank of England, and still more speculation that the new government could merge or replace parts of the City’s overseers.
At a European level, commissioner for internal market and services, Michel Barnier, has shown signs of widening his remit. In March, he announced he would be conducting an investigation into insurance against natural catastrophes. Due to the scale but rarity of payouts, this is a major policy group for the reinsurance industry.
Eversheds financial institutions partner Simon Brooks argues: “With the threat of yet another new regulator after the election, and a European super-regulator flexing its muscles, there is a worry that even more time, money and effort will be spent unnecessarily explaining, and checking, and supervising for the regulator’s benefit.
“Reinsurers have had an easier regulatory ride to date than direct insurers, but if that changes, it won’t only be tax issues that attract business away from London to Dublin and Bermuda.”
Solve Solvency II
A new government must also push the EU to sort out Solvency II, the incoming regulation that will see insurers having to radically increase the amount of capital on their balance sheets. This ensures that only a one in 200-year event could lead to a failure to pay out, but with less capital available to invest, so profits can be hit.
Again, the stringent nature of this capital requirement has only gathered broad support because of the banking crisis. Many in the industry feel that this is unfair, given that insurers and reinsurers have continued to pay out and broadly succeeded in maintaining profits through these past few, difficult years.
“There is a good risk of this killing an industry, as it’s going to have to make products more expensive [to raise profits],” Ernst & Young’s head of London and Bermuda markets, Tim Leggett, says.
He adds that some companies will have to put as much as 70% more capital on the balance sheet, even those that were able to cover the destruction caused by Hurricanes Katrina, Rita and Wilma.
Having proved themselves robust through these natural catastrophes, it is difficult to see how Solvency II can possibly make these reinsurers any more dependable. GR