The global tax environment continues to be increasingly demanding for businesses to navigate as it experiences significant shifts and reforms. Some key drivers of change include international efforts to combat tax avoidance, challenges posed by the digital economy, public pressure for tax fairness, and the economic repercussions of the Covid-19 pandemic—governments look to tax collections to fund their borrowing and expenditure for stimulus packages introduced in the past few years.

Businesses face the immediate challenge of reacting to new laws or changes in the interpretation of existing laws and bilateral tax treaties, as well as increased levels of tax controversy. In the context of M&A, tax is increasingly at the forefront of negotiations as parties seek to preserve deal value given the increased instances and intensity of tax audits and the risk of unexpected tax exposure faced by businesses.

On the transaction risk insurance side, the Liberty GTS 2022 Claims Briefing on warranty and indemnity (W&I) insurance noted increasing notifications involving large ($10 million-plus) tax-related issues. Tax issues continue to be the most cited breach type, forming 36% of our notifications for all Asia-Pacific W&I policies bound, 34% in Europe, the Middle East, and Africa, and 17% in the Americas.


How tax liability insurance can help

Standalone tax liability insurance (TLI) policies are bespoke products designed to reduce or eliminate the exposure of identified tax issues by transferring the risk to insurers. While a W&I policy is designed to cover unknown risks in the context of M&A, TLI is used to cover known risks.  

TLI policies can cover any type of tax liability, including indirect taxes, customs, and duties. They are not meant to insure aggressive or abusive tax practices, but rather, tax positions that have a degree of ambiguity under the law and practice of a jurisdiction. The insurer’s risk appetite is subject to considerations such as the jurisdiction from which the risk arises, commercial background of the tax matter, area of contention, and level of analysis and comfort derived by established tax advisors on the matter. Generally, an insurable tax risk would be one where consensus is that the risk is “low” or “should not” arise.

A common question asked is, “How is the TLI product useful given that insurers would usually only insure matters for which parties have arrived at a view that the risk ‘should not’ arise.” While TLI primarily covers low-risk tax matters, it can be useful for many reasons:

  • Tax laws and regulations are inherently complex. Even low-risk matters can be subject to interpretation disputes. TLI allows taxpayers to de-risk themselves and protect cash flows.
  • TLI allows for the transfer of high-severity risks to an insurer. This is particularly useful in an M&A context to avoid seller indemnities, price chips, or escrows. Outside of M&A, companies that want to actively manage the impact of potential tax exposure on their balance sheets would find value in the financial protection and risk management it provides, which contributes to shareholder confidence.
  • TLI can help increase comfort on launching a new product or entering a new business. Where there are tax uncertainties capable of analysis based on the legal and factual position at the time of inception, TLI can cover a defined future position or cash flow. This increases the certainty of economics of an investment.
  • It offers protection against defence costs. Even when the technical position is strong, if tax authorities pursue the matter, tax disputes can be time-consuming and costly. TLI can help mitigate these expenses.

The growth of TLI in the Asia-Pacific region

Asia-Pacific is an interesting region of great diversity, with a myriad of languages and cultures, varying levels of economic development, and different tax systems that dealmakers and businesses need to consider and accommodate. The tax regimes vary widely, with a mix of semi-territorial and worldwide tax systems, common law—for example, Singapore, Malaysia, and Australia—and civil law systems in areas including Indonesia and Vietnam.

Whilst jurisdictions such as Singapore and Australia have well-established legal systems and reliable tax administrations, some emerging economies are still growing and enhancing their tax systems. For these emerging economies, taxpayers often find themselves dealing with a lack of clarity in the law and regulations and are subject to varying interpretations of the regulations by tax authorities. Any guidance, if available, may not always be comprehensive or readily accessible. This may also be complicated when translated versions of the law, regulations, and practice guidance are used, which can give rise to misinterpretation.

TLI is still in its nascency in the Asia-Pacific region relative to more developed insurance markets in Europe and the Americas. This is due to insurers having to carefully assess their appetite for insurance given the complex tax landscape discussed above, the economic and political environment of certain countries, and the lack of familiarity with the product prior to 2019 to 2020 in most parts of Asia.

The product has, however, gained traction in the region in the past three to four years as businesses, advisors, and brokers are becoming aware of the product and increasingly familiar with the usage. While the increased presence of specialized regional brokers contributed to the growth in utilization of TLI policies, it is in part organic given that private equity investors and their advisors have seen the usefulness of the W&I product and turned to the TLI product to cover material known tax matters.

Submissions have increased steadily from 2020 through 2022, with requested limits ranging between $1 million to $200 million-plus at Liberty Global Transaction Solutions (GTS). India remains the most established TLI market in the region and continues to grow from strength to strength, in part due to high M&A activity and the litigious nature of the environment. Notably, the product has also seen significant growth in jurisdictions such as Singapore, Australia, and South Korea thanks to increased market awareness and sophistication of the markets.

We are starting to see more complicated submissions on a multitude of issues, aside from the more commonly identified risks relating to taxes on capital gains or withholding taxes on dividends of interest—contributing to roughly 70% of the submissions received in 2022. An interesting development to watch out for in terms of product development is coverage for transfer pricing risks or risks with a significant valuation component, which insurers have in the past excluded from cover.

Over time, there has also been a significant growth of insurers’ geographical coverage in the region, which has historically been limited in Asia. Insurers have worked alongside reliable and experienced local counsel to understand the nuances and practice of different tax systems within the region. As of now, Singapore, Australia, Hong Kong, India, Indonesia, Japan, Malaysia, New Zealand, the Philippines, South Korea, and Thailand are considered potentially insurable jurisdictions in the region.

TLI is challenging in some countries given a lack of predictability in the authority approach and insufficient confidence in the assessment and court appeals. We can expect this to evolve over time as an increasing number of developing countries look to modernize their tax sectors in line with global practices. Vietnam, for example, has approved its tax system reform strategy through to 2030.   

As TLI activity increases in the region and insurers and their broking partners accumulate experience insuring more varied risks and geographies, there is little doubt that the TLI product will continue to evolve to enhance its value proposition.

We generally still expect interest in the product to move in tandem with M&A activity in the region, where the core demand remains, and deal makers see the apparent value of TLI to bolster their negotiating power and free up their cash flow. That said, as tax, finance, and risk leaders across industries grapple with increasing responsibilities and the daunting task of managing complex tax risks that may arise across multi-jurisdictional operations or portfolios of companies, TLI could be a valuable tool that leaders can use to proactively manage tax risks and allocate resources effectively.