WASHINGTON—Rep. Richard Neal, D-Mass., has reintroduced legislation that would limit tax deductions for reinsurance that insurers cede to affiliates outside the United States, but the bill's future is unclear, observers say.

The bill, H.R. 3424, is designed to “end the practice of excessive reinsurance between related entities” by altering the U.S. Internal Revenue Code to cap the deductibility of nontaxed reinsurance premiums paid by insurers to their foreign affiliates.

Rep. Neal argues that foreign insurers shift premiums offshore to lower their U.S. tax burden, putting U.S-based firms at a disadvantage.

“There is no doubt that there is a legitimate role for reinsurance. However, reinsurance among affiliates can serve other purposes as well, including tax avoidance,” Rep. Neal said on the House floor July 31 in introducing the bill.

The bill is backed by the Coalition for a Domestic Insurance Industry, a group of 14 U.S.-based insurers that include Greenwich, Conn.-based W.R. Berkley Corp., Warren, N.J.-based Chubb Corp. and St. Paul, Minn.-based Travelers Cos. Inc. William R. Berkley, a coalition spokesman and chairman and chief executive officer W.R. Berkley, said the bill would “level the playing field.”

Opponents, however, argue the measure would cut reinsurance capacity and drive up costs for insurers. Groups including the Assn. of Bermuda Insurers and Reinsurers, New York-based Risk & Insurance Management Society Inc. and the Washington-based Coalition for Competitive Insurance Rates all oppose the bill.

The legislation would have a “chilling effect on these entities and their willingness to serve as an important safety valve in many areas of the country,” particularly in disaster-prone areas, said Deborah M. Luthi, a member of RIMS board of directors and director of risk management services at Matheson Inc. in Sacramento, Calif.

Opponents pointed to a May study by Cambridge, Mass.-based Brattle Group that said the proposed legislation would cost consumers more than $10 billion per year and reduce U.S. reinsurance capacity by 20%, hitting the disaster-prone states of California, Florida and Louisiana the hardest.

Foreign-based insurers such as Zurich-based Swiss Reinsurance Co. say they reinsure their business with affiliates because it's a more effective way to manage capital, not to gain tax advantages.

“This is very punitive, and it's clearly a double tax,” said Michael Natal, vp-finance for Swiss Re in Armonk, N.Y. He said Swiss Re, as a group, already pays taxes to Switzerland on the portion of U.S. business it cedes to its affiliates.

Such a measure could result in Swiss Re “reducing its U.S. business, or pulling out of the market entirely,” Mr. Natal said.

The controversy over the perceived tax advantage for foreign-based insurers and reinsurers has been brewing for several years, observers say.

Rep. Neal introduced a similar measure last year, on which Congress took no action. In December, Sen. Max Baucus, D-Mont., sought comments for a draft proposal on a similar measure. The effort gained momentum again in May when President Obama said a tax haven crackdown was needed, although he did not specifically include limiting tax deductions for foreign-placed reinsurance. Soon after, Rep. Neal said he would reintroduce his bill, saying he hoped President Obama's initiatives would reinforce his efforts.

Opponents argue the bill is “unfairly” marketed as tax-haven legislation.

One reason the previous legislation was unsuccessful is because it was viewed as a move that could affect capacity, said Howard Mills, a New York-based director and chief adviser for the insurance industry group of consultants at Deloitte & Touche USA L.L.P. “Anything seen to further reduce capacity could viewed negatively,” he said.

As a stand-alone tax measure, observers say the bill is not likely to succeed. However, “this bill could go through as a revenue raiser on another piece of legislation completely unrelated to reinsurance,” said Eli Lehrer, a senior fellow with the Competitive Enterprise Institute in Washington. Opponents said this scenario poses the “biggest threat.”

Observers say the political climate also has intensified since the previous measure was introduced. While President Obama has not backed the latest measure, “the Democratic president and the Democratic Congress are looking for ways to raise revenue to pay for their programs,” said Robert P. Hartwig, president of the New York-based Insurance Information Institute.

Observers say any action on the bill is unlikely until after the August recess. In addition, the bill has not yet been evaluated by the Congressional Budget Office to determine how much tax revenue the bill could generate.

However, opponents said they plan to keep up lobbying efforts.

“We plan to be pushing just as hard” to prevent it from moving forward, said Terry Fleming, a vp of RIMS and director-division of risk management for Montgomery County in Rockville, Md.