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The evolution of tax liability insurance

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Dean Andrews of BMS Group summarises how the concept of tax liability insurance is evolving in a post-BEPS world to assist corporates ring-fence substance and transfer pricing risks on an on-going basis.

The rise of tax liability insurance

The use of tax liability insurance (TLI) has grown substantially over the last five years across the globe. This growth has been in conjunction with, and largely because of, the growth in the use of warranty and indemnity insurance (W&I) by the private equity community on portfolio acquisitions.

The number of W&I policies written by the global mergers and acquisitions (M&A) insurance market has increased approximately 20% year on year for the last decade. Based on information from insurers, there were over 6000 policies placed in 2019 globally. There were more than 500 tax enquiries sent to the tax insurance market in 2019, and despite the impact of COVID-19, June 2020 was one of the busiest months in terms of tax enquiries.

There has been a recent shift in focus by the M&A insurance market to servicing ‘distressed’ arrangements, for example, where businesses look to conduct reorganisations to simplify group structures, rationalise underperforming assets, or make changes that are required as part of a re-financing, and subsequently tax risks in some form may arise.

Insuring tax risks emanating from restructurings is not new to the M&A insurance market, but nonetheless the number of policies arising as a result is likely to increase in the short to medium term. Increases in the level of scrutiny of tax authorities and a bigger focus on tax compliance also has a direct impact on the number of policies being placed.

Andrzej Pośniak, managing partner and head of tax at CMS in Poland, notes that “currently, Polish tax regulations list a considerable number of issues that cannot be covered by tax rulings. As a result, many businesses are turning to TLI to address risks that cannot be addressed by engaging with the tax authorities”. 

Equally, the stress that COVID-19 restrictions are placing on the cash flows of many businesses has caused those with monies locked up in escrow or deferred payment arrangements related to tax to turn to TLI as a means to unlock trapped cash.

“It is common for many reasons, be it an M&A transaction, financing arrangements, real estate development or otherwise, for amounts of money flowing between businesses to be deferred or held in escrow pending the resolution of a tax issue. Lately, there has been significant demand from clients to obtain the early release of such trapped cash, and TLI has proved an excellent solution for replacing the downside protection of an escrow or deferred payment arrangement. It allows cash to be released while maintaining financial protection for the tax issue” commented Ben Jones, partner and head of London tax at global law firm Eversheds Sutherland.

Where next?

There is an appetite within the insurance market to provide TLI policies that are more akin to traditional insurance policies, i.e. an annual renewal providing ongoing cover for certain risks. The underlying premise for TLI will remain the same, being that a policy is placed based on the technical analysis of a risk, providing cover for a challenge by the relevant tax authority of the tax filing position at or before the date the policy was placed.

This approach is suitable for the majority of identified risks as the policy typically covers a specific event or set of circumstances that have given rise to a theoretical risk. However, there are certain areas of tax that provide an ongoing risk of challenge by tax authorities and it is those to which the ‘renewal’ concept most effectively applies, namely transfer pricing (TP) and substance issues.

The process for extending TP cover

In order to extend the period of cover for an additional year on a rolling basis, an insurer will typically require ‘top-up’ diligence to be conducted. This means that the businesses’ tax advisors should conduct a high-level review to confirm that the facts and circumstances remain as such that no TP adjustment should be required, or that no material substance risk has arisen. Additional premium will also be due which will be a fraction of the amount originally paid on the basis the ‘top-up’ policy covers tax authority challenges in the previous 12 months, thereby providing back to back cover with the primary policy.

In relation to TP, an updated benchmarking exercise may also be periodically required in line with what is considered prudent for the relevant business. Insuring TP adjustments to finance costs incurs lower premiums and involves a less onerous underwriting process than service charges or royalty payments due to the wealth of comparable data available for insurers to rely on.


More than half of respondents (59%) to ITR's survey on tax controversy said they expect tax authorities to be more aggressive during TP audits following COVID-19 disruptions and have less confidence about gaining tax certainty adding even further value to the use of TLI policies. Almost all advisors and tax directors (94%) surveyed expect more TP dispute cases in the near-future.

Given the global landscape due to COVID-19, in conjunction with the approach tax authorities are taking in relation to transfer pricing and substance in particular, the financial certainty of tax affairs for businesses has never been more important. Certainty that the well-established TLI market is well placed to provide.

Please click here to see an extended version of the article published by ITR

Dean Andrews

T: +44 0 20 7480 0308


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