MBIA enters the Bermuda triangle

MBIA (MBI) dropped 6% in trading Friday, a day after the bond insurer raised eyebrows by dropping out of a trade group it had belonged to for more than 20 years. Friday’s selloff came as investors worry that the rating agencies might downgrade MBIA and rival Ambac (ABK), setting off a wave of forced selling of bonds whose rating is dependent on the insurers’ guarantee. CNBC reported a downgrade could come in the next few days, though New York insurance regulators have been working on a plan aimed at avoiding or lessening the impact of any downgrades.

Meanwhile, MBIA’s statement to drop out of the Association of Financial Guaranty Insurers drew a preplexed response from the Albany, N.Y.-based group. “AFGI members are surprised at the withdrawal of MBIA from AFGI,” the group said in a press release Thursday evening. AFGI also took issue with MBIA’s suggestion that it withdrew because of conflicts with the group’s stances on the appropriateness of the structured finance business and a possible regulator-inspired breakup of insurers along policy lines. “AFGI has not taken a position on member firms’ organizational structures, lines of business or execution formats, such as credit default swaps (CDS) or policy forms,” the group said.

Most puzzling was MBIA’s claim that it disagreed with AFGI’s stance on “the ability of U.S. financial guarantors to reinsure U.S. domestic financial guarantee insurance transactions with foreign affiliates without paying U.S. corporate tax rates.” AFGI said it wouldn’t go beyond its statement, and MBIA reps didn’t return calls seeking comment. But the comment by MBIA could pit the company against several members of AFGI that are based in Bermuda, in an ongoing debate over how insurance profits are taxed beyond U.S. borders.

Last fall the Senate Finance Committee held hearings on rules covering the taxation of insurance companies with overseas affiliates. The congressional Joint Committee on Taxation said last fall that purchases by American subsidiaries of reinsurance from their parent companies in Bermuda doubled between 2001 and 2006, the New York Times reported. MBIA and Ambac were listed as members of the Coalition for a Domestic Insurance Industry, which argued that the tax laws hurt U.S.-based insurers.

Other members of the AFGI such as Assured Guaranty (AGO) - an MBIA competitor that stands to benefit from the company’s recent image problems among risk-averse bond issuers  - are based in Bermuda and thus stand to benefit from keeping the laws as they stand. It’s impossible to know what’s behind MBIA’s sudden interest in tax law, but it appears the company has seized on its U.S. domicile as a rare asset in its many public relations battles.