Hedge Fund Managers Flock To Bermuda Tax Dodge

February 19, 2013 Bloomberg News

Last year, about $450 million belonging to top executives at billionaire hedge fund manager John Paulsons New York firm took a quick round trip to Bermuda.

In April, the executives sent the money to a reinsurance company that theyd set up on the island 650 miles off the North Carolina coast. By June, the Bermuda company, which has no employees and sells far less reinsurance than the industry norm, had sent all the cash back to New York, to be invested in Paulson & Co. funds.

By recycling the funds through Bermuda-based Pacre Ltd. the Paulson executives are positioned to legally exploit a little-known tax loophole, reduce their personal income taxes and delay paying the bill for years.

These types of reinsurance companies are permitting U.S. taxpayers to defer — indefinitely — U.S. tax, said David S. Miller, a tax lawyer at Cadwalader Wickersham & Taft LLP. For some, he said, its an unjustified benefit.

A decade after the U.S. Internal Revenue Service threatened to crack down on what it said were abuses by hedge-fund backed reinsurers, more high-profile money managers are setting up shop in tax havens. Paulson, SAC Capital Advisors LPs Steven A. Cohen and Third Point LLCs Daniel Loeb have started Bermuda reinsurance companies since 2011, following a similar Cayman Islands venture by Greenlight Capital Inc.s David Einhorn.

Because reinsurers, which sell coverage to other insurers, manage large pools of capital, theyre a handy way to funnel a U.S. hedge fund investment through a tax haven.

Some Loopholes

At a time when the Obama administration and Congressional leaders of both parties are calling for a corporate tax overhaul that includes eliminating some loopholes, the reinsurance tax dodge is gaining popularity among hedge funds. The three new reinsurers backed by U.S. hedge fund managers put a combined $1.7 billion back into the managers hands.

Other top money managers, including some in London, are hiring advisers to explore setting up reinsurance companies in Bermuda, said Timothy Faries, an insurance lawyer at Appleby, one of the islands largest law firms.

Fund managers are trying to find a way to have a vehicle that can go offshore and avoid paying taxes, said William Berkley, founder of W.R. Berkley Corp. a Greenwich, Connecticut-based insurer. You have one company that does it and nobody pays attention. You now have four or five and its likely to get more peoples attention.

Tax Management

Those involved in establishing reinsurers defend the strategy. Given the world were in, its just good tax management, said Robert Cooney, who served as chief executive officer of one of the first hedge-fund-backed reinsurers from 1999 to 2006.

Tax avoidance isnt the only advantage to establishing a Bermuda reinsurer, insurance executives said. It means creating a large, fee-paying client that is unlikely to take its money out of a hedge fund after a bad year. Moreover, insurance companies get to invest customers premiums for months or years before they pay out claims.

Cohens, Loebs and Einhorns reinsurance firms are better designed to reap those non-tax benefits than Paulsons company, Pacre, which has just one outside investor. The white, steel- and-glass complex overlooking Bermudas capital of Hamilton, which is listed as its legal address, is the office of another reinsurer to which it outsources its underwriting.

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