Taxes

Question 1

What is tax-basis income?

Answer 1

• Tax basis income is SAP or statutory income with a few adjustments
  ○ EP is adjusted with a revenue-offset
  ○ Losses (or reserves) are discounted

Question 2

How does IRS’s revenue offset procedure apply to tax-basis income?

Answer 2

• In SAP, acquisition costs are not deferred so the insurer would incur a loss
• The insurer would then be entitled to a future tax refund on this loss
• IRS wanted to simplify this process
  ○ Instead of a refund, the IRS reduces UEP liability by 20% for all insurers

Question 3

Formula for Tax-Basis Income (TBI)

Answer 3

TBI = TBEP + InvInc - TBIL

Where
TBEP = Tax-Basis EP
InvInc = Investment Income (taxable portion)
TBIL = Tax-Basis Incurred Loss

Question 4

Formula for Tax-Basis Earned Premium (TBEP)

Answer 4

TBEP = EP + 20% * chg(UEP) = WP - 80% * chg(UEP)

Question 5

Formula for Investment Income (taxable portion)

Answer 5

InvInc_CY = TBEP * i
InvInc_CY+1 = (TBEP_CY + InvInc_CY) * i

Question 6

Formula for Tax-Basis Incurred Loss (TBIL)

Answer 6

TBIL = PL + chg(L^D) = IL - chg(D)

Where
PL = Paid Loss (during year)
IL = Incurred Loss (during year)
L^D= Loss reserves after Discounting
D = Discount amount (difference between undiscounted and discounted loss reserves

Question 7

What is the purpose of Base Erosion and Anti-Abuse Tax (BEAT)?

Answer 7

Limit the ability of multinational corporations to shift profits from the United States

Question 8

How does BEAT work?

Answer 8

1. Corporation calculates its regular tax (as a percentage of taxable income, currently 21%)
2. Corporation calculates its alternative tax (as a percentage of gross income, currently 10%)
3. If alternative tax > regular tax, then the corporation must pay the difference

Question 9

What are the conditions for a corporation to be potentially subject to BEAT?

Answer 9

• Insurer is part of a U.S. group of companies with average gross receipts in the past three years >= $500M
• Insurer makes base erosion payments >= 3% of the total deductions taken by the U.S. group on its current tax return
• Note: If the FOREIGN company to which tax-deductible payments have been made has elected to be TAXES AS A U.S. TAXPAYER, then the U.S. corporation/insurer is NOT subject to BEAT

Question 10

3 components required to calculate discounted loss reserves (for tax purposes)

Answer 10

1. Undiscounted loss reserves
   
   • Schedule P, Part 1
   • Note that Part 1 is NET of tabular discount already, so the tabular discount must be eliminated first
2. Discount rate for the AY reserves to be discounted (U.S. Treasury rate)
   
   • Based on corporate bond yield curve
3. Payment pattern
   
   • Use Schedule P, Part 1 from industry data (IRS does the calcs)

Question 11

Why is payment pattern derived from Schedule P, Part 1 instead of Part 3?

Answer 11

• Part 3 may be SKEWED because it doesn’t include adjusting/other expenses
• Part 3 is NOT AUDITED (Part 1 is audited)
• Part 1 requires NO JUDGEMENT for the IRS method