Reinsurance and other forms of risk transfer: tax issues: retrospective treaty reinsurance
Many reinsurance treaties run for a calendar year, and are subject to annual renewal. Very commonly the terms on which a treaty will be renewed are not agreed until some time well into the year, as the parties haggle in the light of prevailing market conditions.
Consequently it is commonplace for treaties to have retrospective effect. This normal market practice presents a tax risk. If the terms of a treaty are not agreed until near the end of the year, or even after it, it will be apparent whether a particular rate of premium will give rise to a profit or loss for the reinsurer. This knowledge can be used to shift profits or losses between companies. This can be done either within a group, or as a form of loss-buying between unconnected companies.
Treaties that are signed very late in the day may merit particular scrutiny, and the documents will need to be studied in detail. It is not unknown for such arrangements to slip over the borderline between avoidance and evasion. The arrangements may be a sham and it has been known for documents to be fraudulently back-dated. Care needs to be taken to obtain the full facts and complete documentation.