20. TAXATION
Enstar Group Limited is incorporated under the laws of Bermuda and under Bermuda law is not required to pay taxes in Bermuda based upon income or capital gains. The Company, under the Exempted Undertakings Tax Protection Act of 1966, is protected against any legislation that may be enacted in Bermuda which would impose any tax on profits, income, or gain until March 31, 2035.
We have foreign operating subsidiaries and branch operations principally located in the United States, United Kingdom, Continental Europe and Australia that are subject to federal, foreign, state and local taxes in those jurisdictions. Deferred income tax liabilities have not been accrued with respect to the undistributed earnings of our foreign subsidiaries. If the earnings were to be distributed, as dividends or other distributions, withholding taxes may be imposed by the jurisdiction of the paying subsidiary. For our U.S. subsidiaries, we have not currently accrued any withholding taxes with respect to unremitted earnings as management has no current intention of remitting these earnings. For our United Kingdom subsidiaries, there are no withholding taxes imposed. For our other foreign subsidiaries, it would not be practicable to compute such amounts due to a variety of factors, including the amount, timing, and manner of any repatriation. Because we operate in many jurisdictions, our net earnings are subject to risk due to changing tax laws and tax rates around the world. The current, rapidly changing economic environment may increase the likelihood of substantial changes to tax laws in the jurisdictions in which we operate.
The following table presents earnings before income taxes by jurisdiction from continuing operations:
|
| | | | | | | | | | | |
| 2017 | | 2016 | | 2015 |
Domestic (Bermuda) | $ | 167,263 |
| | $ | 191,647 |
| | $ | 61,695 |
|
Foreign | 147,148 |
| | 135,677 |
| | 163,327 |
|
Total earnings before income tax on continuing operations | $ | 314,411 |
| | $ | 327,324 |
| | $ | 225,022 |
|
The following table presents our current and deferred income tax expense (benefit) from continuing operations by jurisdiction:
|
| | | | | | | | | | | |
| 2017 | | 2016 | | 2015 |
Current: | | | | | |
Domestic (Bermuda) | $ | — |
| | $ | — |
| | $ | — |
|
Foreign | 10,299 |
| | 21,485 |
| | 30,028 |
|
| 10,299 |
| | 21,485 |
| | 30,028 |
|
Deferred: | | | | | |
Domestic (Bermuda) | — |
| | — |
| | — |
|
Foreign | (16,694 | ) | | 13,389 |
| | (17,378 | ) |
| (16,694 | ) | | 13,389 |
| | (17,378 | ) |
Total tax expense (benefit) on continuing operations | $ | (6,395 | ) | | $ | 34,874 |
| | $ | 12,650 |
|
The actual income tax rate differs from the amount computed by applying the effective rate of 0% under Bermuda law to earnings from continuing operations before income taxes as shown in the following reconciliation:
|
| | | | | | | | | | | |
| 2017 | | 2016 | | 2015 |
Earnings before income tax | $ | 314,411 |
| | $ | 327,324 |
| | $ | 225,022 |
|
Bermuda income taxes at statutory rate | 0.0 | % | | 0.0 | % | | 0.0 | % |
Foreign income tax rate differential | 13.1 | % | | 8.8 | % | | 17.6 | % |
Change in valuation allowance | (34.9 | )% | | (0.1 | )% | | (10.5 | )% |
Effect of change in foreign (U.S.) tax rate | 20.3 | % | | — | % | | — | % |
Other | (0.5 | )% | | 2.0 | % | | (1.5 | )% |
Effective tax rate | (2.0 | )% | | 10.7 | % | | 5.6 | % |
Our effective tax rate is generally driven by the geographical distribution of our pre-tax net earnings between our taxable and non-taxable jurisdictions. We have recorded the effects of U.S. Tax Reform in 2017, primarily related to our deferred tax asset and valuation allowance thereon, as described below.
Deferred Tax Assets and Liabilities
Deferred tax assets and liabilities reflect the tax effect of the differences between the financial reporting and income tax bases of assets and liabilities. Significant components of the deferred tax assets and deferred tax liabilities related to our continuing operations were as follows:
|
| | | | | | | |
| December 31, |
| 2017 | | 2016 |
Deferred tax assets: | | | |
Net operating loss carryforwards | $ | 177,695 |
| | $ | 262,271 |
|
Tax credits and other carryforwards | — |
| | 7,487 |
|
Insurance reserves | 9,082 |
| | 19,265 |
|
Unearned premiums | 1,690 |
| | 8,760 |
|
Lloyd's underwriting losses taxable in future periods | 9,131 |
| | 6,581 |
|
Provisions for bad debt | 6,371 |
| | 16,018 |
|
Other deferred tax assets | 1,944 |
| | 7,946 |
|
Gross deferred tax assets | 205,913 |
| | 328,328 |
|
Valuation allowance | (188,300 | ) | | (290,861 | ) |
Deferred tax assets | 17,613 |
| | 37,467 |
|
Deferred tax liabilities: | | | |
Unrealized gains on investments | (3,798 | ) | | (12,804 | ) |
Intangible assets | — |
| | (20,615 | ) |
Other deferred tax liabilities | (16,076 | ) | | (21,030 | ) |
Deferred tax liabilities | (19,874 | ) | | (54,449 | ) |
Net deferred tax liability | $ | (2,261 | ) | | $ | (16,982 | ) |
The change in the deferred tax liability during the year ended December 31, 2017 differs from deferred tax expense for 2017 primarily due to reclassification of our deferred tax asset to other assets in relation to Alternative Minimum Tax ("AMT") recoverable as described below in relation to U.S. Tax Reform, partially offset by the adoption of ASU 2016-09 which resulted in a reduction of our deferred tax liability and an increase in retaining earnings on the consolidated statement of changes in shareholders' equity.
Net Deferred Tax Liability balance for continuing operations by major jurisdiction:
|
| | | | | | | |
| December 31, |
| 2017 | | 2016 |
| Net Deferred Tax Asset / (Liability) | | Net Deferred Tax Asset / (Liability) |
United States | $ | 4,947 |
| | $ | (513 | ) |
United Kingdom | (5,150 | ) | | (12,297 | ) |
Other | (2,058 | ) | | (4,172 | ) |
Total | $ | (2,261 | ) | | $ | (16,982 | ) |
As of December 31, 2017, we had net operating loss carryforwards that could be available to offset future taxable income, as follows:
|
| | | | | | | | | |
Tax Jurisdiction | Loss Carryforwards | | Tax effect | | Expiration |
Operating and Capital Loss Carryforwards: | | | | | |
United States - Net operating loss | $ | 528,226 |
| | $ | 110,927 |
| | 2030-2036 |
United States - Capital loss | 14,339 |
| | 3,011 |
| | 2021-2022 |
United Kingdom | 324,784 |
| | 62,521 |
| | None |
Other | 19,105 |
| | 1,236 |
| | None |
Impact of US Tax Reform
On December 22, 2017, the U.S. Government enacted comprehensive tax legislation commonly referred to as the Tax Cuts and Jobs Act (the “Tax Act”). The Tax Act resulted in a reduction of the U.S. Federal Tax rate to 21% from 35%, effective for tax years beginning after December 31, 2017. Consequently, we have recorded a $63.8 million write down of our U.S. deferred tax asset in 2017. The Tax Act also repealed the corporate AMT. Taxpayers with AMT credit carryovers in excess of their tax liability may have the credits refunded over multiple years between 2018 and 2022. As a result, we have recorded a reduction to our valuation allowance of $7.4 million and reclassified our AMT credit carryforward to other assets on our consolidated balance sheet.
Assessment of Valuation Allowance on Deferred Tax Assets
As of December 31, 2017 and 2016, we had deferred tax asset valuation allowances of $188.3 million and $290.9 million, respectively, related to foreign subsidiaries. We recorded a reduction of $102.6 million in our deferred tax valuation allowance for continuing operations during 2017. The valuation allowance was decreased in relation to (i) the decrease of the deferred tax asset due to the reduction in the U.S. income tax rate from 35% to 21%, (ii) the current year utilization of deferred tax assets, partially offset by an increase relating to deferred tax assets for which we have deemed are not likely to be realized.
The realization of deferred tax assets is dependent on generating sufficient taxable income in future periods in which the tax benefits are deductible or creditable. Taxes are determined and assessed jurisdictionally by legal entity or by filing group. Certain jurisdictions require or allow combined or consolidated tax filings. We have estimated future taxable income of our foreign subsidiaries and provided a valuation allowance in respect of those assets where we do not expect to realize a benefit. We have considered all available evidence using a “more likely than not” standard in determining the amount of the valuation allowance. Our assessment weighs both positive and negative evidence and considers the extent to which the evidence can be objectively verified. When negative evidence outweighs positive evidence then it can be difficult to support a conclusion that a valuation allowance is not needed. We consider the following evidence: (i) net earnings or losses in recent years; (ii) the future sustainability and likelihood of positive net earnings of our subsidiaries; (iii) the carryforward periods of tax losses including the effect of reversing temporary differences; and (iv) tax planning strategies.
Uncertainty in Income Taxes
During the years ended December 31, 2017, 2016 and 2015, there were no unrecognized tax benefits. There were no accruals for the payment of interest and penalties related to unrecognized tax benefits as at December 31, 2017, 2016 and 2015.
Our operating subsidiaries may be subject to audit by various tax authorities and may have different statutes of limitations expiration dates. Tax authorities may propose adjustments to our income taxes. Listed below are the tax years that remain subject to examination by a major tax jurisdiction as of December 31, 2017:
|
| | | | | |
Major Tax Jurisdiction |
| |
| | Open Tax Years |
United States |
| |
| | 2014-2016 |
United Kingdom |
| |
| | 2014-2016 |
Australia |
| |
| | 2012-2016 |