Some private clients are in the business of underwriting insurance as a way of diversifying their business interests. Such clients typically structure themselves as a UK company (a NameCo) or Limited Liability Partnership (LLP). Both entities provide limited liability that protects capital outside the entity from losses of the insurance business.
Each NameCo or LLP is an insurance underwriting business. A NameCo is subject to corporation tax on its profits whereas the profits of an LLP are assessible on the members at their marginal rate of income tax. We tend to see NameCos among our client base and, in this article, we focus particularly on the NameCo structure.
Any distributions of profit from a NameCo will be taxed as dividend income in the hands of the shareholder. An eventual disposal of the shares themselves will be subject to capital gains tax. Business Asset Disposal Relief (BADR – formerly Entrepreneur’s Relief) may also be available, up to the new lifetime limit of £1 million per shareholder and subject to the conditions for the relief being met on disposal.
The NameCo shares may qualify for inheritance tax Business Property Relief (BPR) after a two-year holding period, provided the other conditions for BPR are met. Therefore, clients may consider leaving such shares under their will. Currently, a tax-free base cost uplift on death would also apply to the shares, however, this uplift has been the subject of recent government consultations and reviews, and so may be subject to change in the future. Loan funding for the NameCo acquisition may be considered for younger clients to provide more flexibility, however, loan capital does not qualify for BPR unless certain conditions are met.
Some clients incorporate a holding company above the NameCo, which provides further liability protection; retained profits of the NameCo may be distributed by way of a dividend to the holding company, thus removing the funds from risk if the NameCo incurs significant trading losses. Such a dividend should be received tax-free by the holding company, provided the conditions are met. A dividend may then be declared to the owner of the holding company as and when required.
At Saffery Champness, we do not advise on the commercial rationale for acquiring one NameCo over another; there are expert firms in that area. The insurance industry continues to be in the financial press in respect of Coronavirus and storm claims, and so entering this industry is clearly not without its risks. However, for the right person, a NameCo is an effective way of running an insurance business and the current tax profile of such businesses may be attractive.
David Fell of Argenta Private Capital, an authorised Lloyd’s members’ agent, comments on the considerations for those individuals thinking about acquiring a Lloyd’s vehicle:
“Private capital makes up around 10% of Lloyd’s capital and provides a unique opportunity to share in the fortunes of insurance entities by placing their capital alongside that of industry capital. Lloyd’s delivers a diversified asset class with attractive returns with little correlation to traditional asset classes.
“Underwriting at Lloyd’s allows the double use of assets so, for example, offshore assets may be used as capital in the Lloyd’s market through the use of a bank guarantee or letter of credit; whilst the underlying assets are delivering returns they are also enabling a return from Lloyd’s.
“Lloyd’s results can be subject to both man-made and natural disasters. The insurance cycle tends to work on the principle that too much capital exposed to the market drives down premiums (the price charged for insurance); a soft market. In contrast to this a shortage of capital pushes up the premiums that can be charged into a hard market. We are currently in a phase where having lost money due to the hurricanes in 2017 and other recent events, premium rates have increased considerably, moving Lloyd’s into a ‘hard market’ and making 2021 a good opportunity for new entrants.”
In return for limited liability, a NameCo must have sufficient funds to meet its potential underwriting liabilities. These funds are known as Funds at Lloyd’s or “FAL” and may be invested. However, the FAL must be managed in a certain way by a Lloyd’s approved manager.
Andrew Palmer of LGT Vestra, a wealth management firm, comments: “For most clients, one of the attractions of investing FAL is the potential to enhance any insurance return with an uncorrelated investment return. We manage risk in FAL portfolios diligently to smooth volatility and manage downside risk so that clients have access to capital should Lloyds call on it.”
Where a NameCo holds other investments that are not part of the FAL, the amount needs to be monitored for inheritance tax BPR purposes, to ensure that the activity of NameCo does not become “wholly or mainly” one of investment rather than one of an insurance trade. If the non-FAL value in NameCo exceeds the level reasonably required to support the insurance trade of that NameCo, then the BPR position could be at risk.
Whilst interests in Lloyd’s are one of the more niche assets we see, for some clients, such interests continue to have a role in their asset allocation and we still see clients seeking tax and accounting advice on entering this market. Furthermore, the ability to pass on a share of an insurance business, with the benefit of BPR where the conditions are met, may be an interesting proposition for succession planning.
Elizabeth Hartless, Partner
Disclaimer: This article is published on a general basis for information only and does not constitute, and should not be construed as, investment advice nor a recommendation to subscribe to, purchase, sell or otherwise transact in any security or financial instrument. No liability is accepted for errors of fact or opinion it may contain. Professional advice should always be obtained before applying the information to particular circumstances. Views in this article expressed by external parties are their own, and do not necessarily reflect those of Saffery Champness LLP.