Research & Commentary: Onshore Reserving in the District of Columbia

Published April 18, 2012

Many insurance and reinsurance companies reserve assets for U.S. catastrophe coverage in “offshore” locations such as Bermuda, the United Kingdom, Switzerland, and Germany. They do this because current U.S. tax law makes it costly for them to set aside assets to pay claims on future losses within the United States. Also, it is advantageous for any insurer to pool its capital in a single location so it can deploy it wherever in the world it is needed. Although insurers domiciled in the United States can deduct losses from catastrophes that have already happened, assets reserved for future losses are taxed as corporate income in the year they are set aside, as is any interest subsequently accrued.

One option for bringing these catastrophe reserves “onshore” in the United States would involve changes to the U.S. tax code to allow insurers an exemption from the federal tax on corporate income for catastrophe reserves they maintain within the District of Columbia. On October 6, 2011, Rep. Eleanor Holmes Norton (D-DC) introduced H.R. 3139, the District of Columbia National Disaster Insurance Protection Act. The bill would give the District unique status within the United States as a center for insurance catastrophe reserves.

Proponents of onshore reserving in Washington, DC contend the District of Columbia is an ideal location. Given the federal government’s jurisdiction over the District, reserves would not be subject to restrictions state legislatures might impose to limit where a catastrophe would have to occur for reserved funds to pay claims. Reserves held in the District could cover claims anywhere, as do those currently held offshore. Also, requiring companies to maintain physical offices in the District, as does the current version of the bill, would create jobs and tax revenues for the city.

Opponents of the plan call it unfair because it would exempt some businesses from corporate income tax but not others, and only in one city. They also note there is no assurance onshore reserving would increase reinsurance capacity overall; it might simply redistribute capacity. In addition, a Government Accountability Office study found the plan could be harmful to the industry: “Deferring taxes on reserves for insurance companies could be disadvantageous if this system created tax benefits that favored one type of activity over another.” Finally, there is no guarantee insurers would relocate capital reserves (much less their businesses) to the District unless advantages of the overall business climate significantly outweigh the financial incentives of remaining offshore.

The following documents examine onshore reserving from multiple perspectives.

Developing the District of Columbia as an International Financial Center
Lawrence Mirel, former District of Columbia commissioner of insurance, securities, and banking and a Heartland Institute policy advisor, discusses the rationale and mechanism for creating “an off-shore jurisdiction on-shore” in the District. Mirel explains why financial services—banking, investment, and insurance—are a “natural industry for the District of Columbia,” details how Congress could “legislate special provisions exempting District-based enterprises from federal tax laws that would apply to the same kinds of enterprises based in the states,” and explains incentives insurers might have to domicile their businesses in the District of Columbia rather than offshore.

Norton Bill Would Make D.C. Catastrophe Insurance Capital
R.J. Lehmann of The Heartland Institute reports in Out of the Storm News on the introduction of Norton’s bill. Quoting Mirel, Lehmann emphasizes the bill “should not be viewed as costing the federal government tax revenues,” as some critics contend. This is a mistaken notion, he says, because the United States is not collecting taxes on offshore insurers now, and bringing them to DC would carry other financial advantages unrelated to the corporate income tax.

DC: Bermuda on the Potomac
This Bermudian media source summarizes how Norton’s bill would make the District competitive with Bermuda as a tax haven for insurers.

DC Economy Booster: Bermuda on the Potomac?
Reporter Lydia DePillis looks at the issue from a local perspective, citing DC politicians as supporters of onshore reserving in the District.

Think Tank: “Onshoring” Reinsurance
After citing The Heartland Institute’s Hill briefing on March 23, 2012, “Dealing with Catastrophes: Could Onshore Reserving Make a Difference?” cosponsored by Norton and Rep. David Rivera (R-FL), this article raises the “recurrent issue” of tax deductibility of insurers’ reserves. The article describes Norton’s legislation as a “welcome fresh take” after recent efforts such as the Neal Bill to close tax loopholes that currently benefit offshore insurers.

District of Columbia National Disaster Insurance Protection Act
This is the full text of Norton’s bill, which proposes “To amend the Internal Revenue Code of 1986 to provide for the creation of disaster protection funds in the District of Columbia by property and casualty insurance companies for the payment of policyholders’ claims arising from natural catastrophic events.”

Regulating Onshore Special Purpose Reinsurance Vehicles: A Public Policy Evaluation
While not specifically covering the issue of onshore reserving in the District, this study conducted by the Center for Risk Management and Insurance Research at Georgia State University takes a technical look at regulatory and tax issues involved in moving offshore insurance activities onshore. The authors take as a starting point model legislation proposed by the National Association of Insurance Commissioners (NAIC), an inspiration for Mirel’s proposal and Norton’s bill. From an economic and public policy perspective, the study examines how onshore reserving might best be practiced and regulated.

Natural Disasters: Public Policy Options for Changing the Federal Role in Natural Catastrophe Insurance
In order to reevaluate the federal role in natural catastrophe insurance following Hurricanes Katrina, Rita, and Wilma, this study takes a broad public policy approach in which tax-deferred onshore reserving is one of seven options discussed. For each option, the study presents both advantages and disadvantages but does not make any recommendations. Given that large numbers of Americans are not insured against natural catastrophes, the study’s goal is to find better ways of protecting citizens while limiting costs to taxpayers. Like other options, onshore reserving would come with both advantages and disadvantages, which policymakers would have to consider in light of the alternatives.