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Features - July 2006

 

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Life insurance: A new tax saver

Life insurance: A new tax saver

Innovative new products offer competitive pricing and greater investment flexibility in the face of changes to regulatory regimes

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The Bahamas Investor Magazine
July 1, 2006
July 1, 2006
Hywel Jones

Life insurance and captive (or self) insurance have been in use as financial tools for a long time as a way to preserve and protect assets internationally. However, the application of these tools has changed considerably in recent years as sophisticated financial planners have looked for alternatives to their traditional structuring techniques in response to changes in the onshore tax, regulatory and investment regimes. The offshore insurance industry has reacted to this trend with the introduction of innovative new products in the life insurance field, more competitive pricing and greater investment flexibility.

New role for life insurance
One of the most important factors driving interest in using life insurance products for financial planning is that most countries give life insurance a tax break. In most cases, the income and growth on policy assets during an individual’s lifetime will be tax free and the proceeds of the policy upon death will be distributed tax free to the beneficiaries.

The benefits associated with life insurance have become increasingly attractive in recent years because traditional tax planning tools, such as trusts and corporations, have become less favourable due to changes in onshore tax rules. Of course, Swiss annuities have been around for a long time and more recently, Americans have been using private-placement life insurance to hold hedge funds, or as a means of sheltering the gains achieved during the heady days of the US stock exchanges in the 1990s.

The current flavour of the month is the Latin American market, where changing tax laws are prompting financial advisors to include insurance products in the structure of client portfolios. Mexico had a major overhaul of its tax laws at the beginning of 2005, putting an end to previously successful strategies that took advantage of New Zealand trusts, Netherlands Antilles partnerships and other shelters. Currently, governments in Brazil and Venezuela appear to be heading toward tax reforms, as well. However, life insurance can still be effectively applied by investors in all of these countries, both as a means of providing for family members after death and also as a tax-efficient vehicle for sheltering and transferring investment assets.

Captives for family offices
The use of captive insurance companies as sophisticated risk-management tools has traditionally been the province of large multinational firms, with the market dominated by financial institutions based in Bermuda. This is now changing as we are seeing increasing use of traditional captive techniques in the context of family offices.

From a tax point of view, as with life insurance, the purchase of property and casualty insurance is promoted as socially desirable in most countries. It is reasonable to want to protect one’s assets, therefore governments typically allow premiums paid for such purposes to be income-tax deductible. Very often, there’s also a tax break given on the investment income generated by the insurance company.

Wealthy families and successful businesses who have the capital and access to the relevant expertise in the financial services industry can self-insure and set up their own captive insurance company to more effectively manage their risk and provide an effective tax shelter. Assuming that this risk-management technique is successfully executed, paying tax- deductible dollars to one’s own insurance company, where it can then grow tax free, is a highly attractive option.

Combined approach wins
Captive insurance is an extremely effective income tax planning tool for active businesses and a deferral mechanism for future investment growth. However, it is less effective as a vehicle for transferring wealth. This is where life insurance comes into its own. Although life insurance premiums are commonly paid with post-tax dollars, a life policy can also provide tax deferral on investment growth and, upon death, the tax-free transfer to the next generation is a considerable benefit for the family. The combination of captive insurance coupled with correctly structured life insurance planning can provide cradle-to-grave tax efficiencies.

Structures for investments
A final observation that can be made on recent trends is that the offshore insurance industry has stepped away from the investment management aspects of the business where traditionally it has been relatively unsuccessful. Recognizing this and allowing the banks and investment houses to handle asset management has considerably enhanced the international insurance products now available to high-net-worth individuals.

This investment flexibility, along with the tax- and risk-management benefits of insurance, have now put the international insurance sector at the forefront of the financial planning arena.

Bio
Hywel L Jones
Hywel L Jones is founder and president of Britannia Consulting Group, a Nassau-based company that works with a variety of financial institutions in The Bahamas and other offshore jurisdictions to provide tailored financial products for clients around the world. Born in North Wales, Jones was educated in the UK and the Channel Islands and has over 25 years of experience in financial services with the National Westminster Bank PLC, Jamaica Institute of Bankers, Bahamas Institute of Bankers and the Canadian Imperial Bank of Commerce. An ACIB and FSD holder of the Chartered Institute of Bankers, London, he is well known internationally as a writer and speaker on banking, finance and taxation. He is a former director of both the Bankers Association of The Bahamas, The Bahamas Institute of Bankers and the founder and president of The Bahamas International Insurance Association.

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International Insurance in The Bahamas
In 1994, the government of The Bahamas listed Captive Insurance as one of the areas especially targeted for overseas investment. The government is beginning a new thrust to substantially develop the role of The Bahamas in the International (Captive) Insurance business. The thrust is a co-operative movement between government and the private sector, represented by The Bahamas International Insurance Association.

Benefits of Bahamian Captives
Among the many advantages of operating through The Bahamas are the following:

• Strong professional infrastructure; financial, legal, and accounting services are readily available.

• Responsive, well-informed regulatory department able to react promptly and intelligently to new proposals.

• Excellent communications with the United States and Canada; plentiful airline services, including many direct flights daily to major US and Canadian centres.

• High-quality, world-famous facilities and leisure activities, including sports fishing, sailing, snorkelling, championship golf and tennis and a glittering nightlife.

The outlook for international insurance in The Bahamas is very positive. The supportive infrastructure already exists, the legal framework is similar to that found in other jurisdictions, and the supervisory system is well-equipped to handle the demands arising without losing the personal touch, which is so important in fostering good relationships with market participants.

Reprinted from the Office of the Registrar of Insurance Companies website: www.oric.gov.bs

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