What are tax risks?
Ambiguities in tax laws and their interpretation harbour high risks
Tax risks are uncertainties that can lead to unplanned tax payments, and can be caused by ambiguities in the determination and amount of the tax liability or limited knowledge of interpretation of tax laws and structuring options.
In some cases, tax risks can entail considerable financial risks beyond the impact on profits and outflows of liquidity as a result of (unplanned) tax payments or tax provisions: besides ancillary tax payments such as interest, surcharges, penalties and fines, tax liabilities can trigger significant litigation and consulting costs. Finally, tax risks can entail reputational damage (“negative press”) and, in the worst case, the risk of criminal prosecution.
Tax risks can arise in all phases of the business and have a significant impact on the success or failure of the company. Until tax insurance was introduced in Germany a few years ago as a hedge against tax risks, only two instruments of limited use were available:
Warranties and tax indemnities granted by the seller with transactions or, for all other cases, binding rulings issued by the tax authorities.
Binding rulings require compliance with certain formal requirements, they generally take a long time to be issued and the result may also be negative. Tax insurance, on the other hand, can be used flexibly and is both time and cost efficient. Tax insurance is evolving dynamically and can now be used in a wide variety of situations.
How can tax risks be eliminated?
Assigning tax risks to insurance companies for greater flexibility
What are the advantages of insuring tax risks?
Depending on the initial situation, the use of tax insurance can offer various advantages, particularly in terms of security, release from liability, time and costs, such as
- Speeding up negotiations in transactions
- Increasing liquidity by avoiding indemnification or purchase price retentions or discounts
- Proactively improving the negotiating position by avoiding purchase price discounts for existing or potential tax risks that have already been identified, e.g. in a vendor due diligence
- Fast settlement or payment of proceeds (without the need of deposits)
- Planning security for both the past and the future
- Financial security with regard to possible, high and unplanned tax payments
- Release of liquid funds that do not have to be retained for potential tax payments, but can be used more efficiently for any other business purposes
- Cost certainty
- Securing defense costs
- Releasing responsibility for failure in tax compliance or tax risks
- Managing directors and board members, CFO
- Indemnification of asset or fund managers for any investments managed on behalf of investors and AIFM issuing investment opportunities with regard to potential tax risks
- Reduction of liability or release from liability of tax advisors
Beyond this, tax insurance can be implemented quickly, is flexible in terms of requirements, cost-efficient, protects liquidity and is highly confidential.
Tax risks at a glance
divestment / liquidation
