Tax liability insurance, leveraging RWI and litigation insurance

Tax Liability Insurance

What is Tax Liability Insurance?

In short, tax liability (or tax opinion) insurance provides coverage for any identified and supportable tax position. In connection with a transaction, it is often relied upon to cover specified known exposures that are typically excluded from representations and warranties insurance (RWI) coverage, such as deal structure (tax-free reorganizations, spinoffs, etc.) or other historical issues that are flagged during diligence (NOLs, S-corp status, REIT status, transfer pricing, etc.). Outside of a transaction, other applications include coverage for tax credits and strategic tax management. 

Why does Tax Liability Insurance matter?

Tax liability insurance is a tool that has been in use since the mid-1980s and, while parties to a transaction have often relied upon tax insurance to navigate tax exposures in M&A transactions and corporate taxpayers are now seeing it as a means to address ongoing business tax risk, its use and demand may increase significantly due to the recently enacted CARES Act. Most notably, the CARES Act allows corporations to carry back NOLs up to five years, allowing corporations to offset taxable income in 2013–2019 with NOLs from 2018–2020 by filing amended returns in order to obtain refunds.


ABC Company (2016)  ABC Company (2019)  ABC Company (Carryback)
  • $200 million in taxable income
  • 35% corporate tax rate
  • Taxable amount: $70 million
  • $50 million in NOLs 
  • $150 million—2016 amended return
    • ($200 million–$50 million)
  • Taxable amount: $52.5 million
    • $150 million x 35%
  • Potential refund: $17.5 million
    • ($70 million–$52.5 million)

This should not be construed as tax or legal advice. Please consult your tax and legal advisors regarding specific tax and legal outcomes.

Tax Liability Policy Solution

Corporations that take advantage of the ability to temporarily carry back NOLs pursuant to the CARES Act could significantly increase balance sheet liquidity; however, that does not come without any risk, as the filing of an amended return could trigger an IRS audit where they would scrutinize the validity of the NOLs and prior returns. A tax liability policy would provide certainty regarding any potential refunds by protecting any NOL disallowance, penalties and interest, as well as a customary gross-up.

Leveraging RWI in Section 363 Sales

What is Representation and Warranties Insurance (RWI)?

Pursuant to a formal bankruptcy process, Section 363 transactions allows sellers (debtors) to obtain value for their assets through a bidding process. At the same time, it allows buyers the ability to purchase the assets at a discounted price while avoiding many of the debtors’ historical liabilities through the free-and-clear order issued by the court.

Why does Representation and Warranties Insurance (RWI) matter?

In the coming months, as the effects of COVID-19 begin to crystallize, it’s likely that we will see a rise in Section 363 sales, similar to what we saw following the Great Recession of 2008.

Representation and Warranties (RWI) Insurance Solution 

RWI can be leveraged in Section 363 sales by helping opportunistic buyers target and purchase assets while providing comfort regarding any unknown liabilities they might be absorbing. Although buyers are typically protected from any third-party liabilities pursuant to a free-and- clear order, protection against other first-party liabilities that arise post-close may not be entirely cleansed via bankruptcy since the buyer will likely have limited or no recourse against the debtor. Instead, RWI can be obtained to help provide indemnification for the reps and warranties made by the debtor.

Contingent Liability Insurance/Litigation Insurance

What is Contingent Liability/Litigation Insurance?

Where RWI is intended to cover unknown exposures, contingent liability insurance (which includes tax liability insurance) covers potential exposures that have not yet materialized by providing certainty regarding an unknown legal outcome that could affect deal valuation and/or effect the closing of a transaction by transferring the risk of an adverse outcome to an insurer. Contingent liability policies can cover securities and other class actions, intellectual property, antitrust, products liability, and construction defect litigation. Insurers will also consider covering the risk of adverse appellate rulings.

Why does Contingent Liability/Litigation Insurance matter?

Although contingent liability insurance is often used in connection with a transaction, there are other useful applications outside of M&A, and it is frequently used to transfer litigation off an insured’s balance sheet.

Contingent Liability/Litigation Insurance Solution

Litigation Buyout Insurance

Litigation buyout (LBO) insurance can help satisfy a buyer’s concern over an unexpected litigation result.

  • A buyer may require a large amount of money to be held in escrow in case of an adverse judgment.
  • The seller may not want or have the ability to place the amount the buyer is requesting in escrow.
  • The parties can work collaboratively with an insurer to place an LBO policy.
  • The LBO policy would cover loss resulting from the adverse judgment.

Litigation Preservation Insurance

Judgment preservation insurance can help monetize illiquid assets.

  •  Judgment preservation insurance allows the insured to lock in a monetary award and shield its corporate balance sheet in the event of an adverse outcome by the appellate court.
  • For example, if an insured has been awarded a $100 million judgment that is expected to go in front of an appellate court, a judgment preservation policy would essentially guarantee that the insured would recover a significant portion of the judgment.
    • Policy structures can vary, but one scenario is a policy with a $75 million limit of liability, combined with a $25 million
      retention, thereby locking in $75 million less the premium paid.

Please contact your Gallagher representative for more information.


Gallagher provides insurance, risk management and consultation services for our clients in response to both known and unknown risk exposures. When providing analysis and recommendations regarding potential insurance coverage, potential claims and/or operational strategy in response to national emergencies (including health crises), we do so from an insurance/risk management perspective, and offer broad information about risk mitigation, loss control strategy and potential claim exposures. We have prepared this commentary and other news alerts for general informational purposes only and the material is not intended to be, nor should it be interpreted as, legal or client-specific risk management advice. General insurance descriptions contained herein do not include complete insurance policy definitions, terms and/or conditions, and should not be relied on for coverage interpretation. The information may not include current governmental or insurance developments, is provided without knowledge of the individual recipient’s industry or specific business or coverage circumstances, and in no way reflects or promises to provide insurance coverage outcomes that only insurance carriers control.

Insurance brokerage and related services to be provided by Arthur J. Gallagher Risk Management Services, Inc. (License No. 0D69293) and/or its affiliate Arthur J. Gallagher & Co. Insurance Brokers of California, Inc. (License No. 0726293).