In last year’s survey, we noted that tax had been under-represented in Solvency II implementation, at both the firm and regulatory levels, and that this needed addressing urgently.
Whilst we have seen progress being made by respondents in the year, we believe there is still some way to go to get tax judgements settled, benchmarked and validated and to develop a framework for managing those judgements and any risks inherent in them.
We have also seen regulatory developments in the year, with a number of level 2 and level 3 papers being issued to certain stakeholders for pre-consultation and perhaps more importantly, we have begun to see the regulator asking questions about how tax is being dealt with by Internal Model companies.
A more detailed analysis of the tax results is available in the survey itself, but a few interesting observations are:
- Deferred tax asset (DTA) recognition: Relative to the 2011 survey it appears that a greater proportion of respondents are using future profits in order to support the recognition of post stress DTAs and fewer are capping the DTA at the level of the deferred tax liability (DTL) on the economic balance sheet. By a considerable margin, the three most common sources of future profit anticipated are release of the Risk Margin, allowance for future new business and investment return on excess capital.
- Validation: It appears from the survey that many respondents have not yet fully validated tax results. In 23% of cases, validation has not yet covered tax. This is potentially problematic if it indicates a lack of engagement between the modelling function and tax specialists.
- Governance: 46% of Boards have had no visibility of tax. Tax can offer material savings on capital requirements, therefore Boards may want to challenge the assumptions underpinning DTA recognition (or non-recognition). There appears to still be considerable scope for Board engagement in tax to increase in the time leading up to Solvency II implementation.
- Companies should consider if they are maximising recognition of DTAs to mitigate capital requirements, and if they can use the results of this survey to inform judgements. They should also ensure they can articulate the tax methodology to the regulator.
- Companies should also ensure that key tax risks and judgements are communicated to the Board and ensure that appropriate validation work has been undertaken on uncertain or subjective areas.
- Given that DTLs may systematically reduce over the next 10 years due to the new UK life insurance corporate tax regime, companies should consider if assumptions need to be revisited to allow recognition of the LADT to continue.
If you would like to discuss matters raised in this article please contact Gordon Gray, Simon Tomlinson or your usual tax or actuarial contact.
Gordon Gray, Senior Manager, FS Tax, +44 131 527 6796, firstname.lastname@example.org
Simon Tomlinson, Manager, FS Tax, +44 117 905 4012 email@example.com