(Bloomberg) — Dan Loeb's reinsurer cited risks tied to regulation as the Internal Revenue Service and U.S. Senator Ron Wyden work to limit what the lawmaker called a "tax loophole" used by hedge fund managers to route investments abroad.

Third Point Reinsurance Ltd. joins a venture with ties to David Einhorn in addressing the effects of possible tax changes. Legislators are weighing limits on rules that allow hedge fund managers to pay lower rates on trading profits and postpone some bills when their operations are classified as insurers in offshore locations. The IRS in April proposed rules that could limit the insurance company exemption, while not offering specifics about which firms would be excluded.

"It is unclear whether final regulations will include a specific methodology and how any such methodology would apply to us," Third Point Re said in its annual filing to the Securities and Exchange Commission, in a passage about possible risks. Loeb manages investments for the Bermuda-based reinsurer.

Regulators and lawmakers have been discussing for years the possibility of limiting the insurance exemption. The focus intensified in 2015 with the IRS proposal and a bill from Wyden that would deny companies the beneficial treatment if insurance liabilities are less than 10% of assets. Loeb's company said in the Feb. 26 document that it believes its reserves are consistent with industry standards, but that it can't be sure that the IRS will agree that it qualifies for the exemption.

Greenlight Capital Re Ltd., which counts Einhorn as chairman, said in its annual filing that a new classification could affect the taxation of some investors.

'Adverse effect'

"If regulations are adopted or legislation enacted that cause us to fail to meet the requirements of theinsurance company exception, such failure could have a material adverse effect" on taxation of U.S. shareholders, the company said in the Feb. 22 document. "In that event, we may undertake changes to the manner in which we conduct our business." That passage is similar to language used by Cayman Islands-based Greenlight Re in a quarterly filing last year.

Wyden, the top Democrat on the Senate Finance Committee, proposed legislation in June. Under the Oregon lawmaker's plan, the status of firms with a ratio of liabilities to assets between 10% and 25% would be based on "facts and circumstances." Third Point Re had a ratio of 11.9% at the end of 2012, according to a 2014 report by the Joint Committee on Taxation on Bermuda-based insurers.

Paulson's exit

Hedge fund manager John Paulson's PacRe Ltd. has shut down and returned capital to investors, according to a January statement from Validus Holdings Ltd., the billionaire's insurance partner. PacRe devoted a much smaller share of its capital to insurance contracts than the Einhorn or Loeb ventures do.

Also, the IRS proposal targets companies that borrow their insurance executives from another firm, as PacRe did with Validus. Both Greenlight Re and Third Point Re have their own underwriters and have added insurance professionals.

Hillary Clinton, who is seeking the Democratic nomination for president, has pledged to fight the Bermuda reinsurance tax advantage. While Wyden has long been pushing for tighter rules on hedge fund reinsurers, the issue has drawn less attention from Republicans, who hold the Senate majority.

–With assistance from Selina Wang and Lily Katz.

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Loeb, Einhorn reinsurers cite risk from IRS, Wyden tax scrutiny

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