Tax Planning International: Tax authorities scrutinise Freedom of Services insurance

 

Richard Asquith, TMF VAT & IPT Services, United Kingdom
Click here to read the original article 14 December 2008 (pdf)

Since the opening of the European insurance markets to cross-border competition, insurers have successfully developed new multi-territory insurance programmes tailored to the needs of globalisation. Whilst initially neglected by foreign tax authorities, in the last 18 months, they have been actively catching up on missed revenue opportunities. In addition, local insurance regulators are now showing signs of enforcing strict compliance rules on in-bound carriers to provide a level playing field for their own native insurers.

I. How insurance premium tax works (“IPT”)

IPT, a global tax on insurance premium contracts, is administered in many ways. Most countries apply a percentage of the total premium, often including broker fees, to calculate the tax due. The time of the tax liability, “tax point”, varies – for example when the premium is paid, or when the policy matures.

For most territories, the insurer is responsible for administering IPT. This includes the calculation of the tax, and the collection and settlement of liabilities to each relevant tax authority. However, in most countries, the policyholder is next in line for the tax liability. Should the contract issuer fail to take care of the IPT, then the tax authorities are able to pursue the insured party. For buyers of global programmes, this is becoming a hot issue. Often brokers are confused with the complexities of IPT compliance. This is being picked-up by the tax authorities, who are seeing the policyholder as an easier target for any IPT that is due. As described below, they are now taking direct action in a number of countries.

On top of premium tax, insurance contracts also attract a number of parafiscal charges. These represent additional levies to be settled alongside the IPT, and vary hugely from country-to-country. Again, the insurer, working with the broker, should take care of these. The complexity in this area comes from understanding the variety of taxes, to whom they are payable and how to settle. For example, many taxes can only be paid from a bank account in country – a huge administrative burden on international programmes.

II. Where is IPT due?

Historically, the international IPT liability was assumed to fall due within the territory where the policy was written. In this case, IPT was calculated locally, and paid over to tax authorities all too willing not to challenge this presumption.

The European Union, under its Freedom of Services regime, was amongst the first trade block to review this issue. In its 2nd Non-Life Directive, it clarified the location of the taxable insurance supply as to where the risk was to be located. Therefore, the risks on global insurance programmes had to be allocated by country, and the relevant IPT rules and rates applied.

In 2001, this principle was tested in the European Court of Justice. The Kvaerner Case has come to be cited as a defining moment in the international insurance premium tax market. Kvaerner, a large Scandinavian engineering company, purchased an international insurance plan in the London insurance markets. At the time of writing the contract, the UK IPT rules were applied. This case was brought by the Dutch tax office, which believed that it was due IPT, under its rules, for the Kvaerner risks located in the Netherlands. This case went all the way to the ECJ, which found in favour of the Dutch tax authorities.

Crucially, in addition to illuminating the principle of the location of the IPT liability, the ECJ also stated that Kvaerner, as the policyholder, was liable for the IPT. This put the policyholder directly in the sights of the tax authorities. Since then, there has been a rush by policy issuers and risk managers to ensure that any IPT is properly allocated and accounted for.

Building on the Dutch Kvaerner Case, other tax authorities are looking towards IPT as an additional source of revenue. In 2007, the UK tax authorities brought hearings against DSG (the old “Dixons Group”) around its insurance cover provided from the Isle of Man. HMRC attempted to use Kvaerner to demonstrate a UK IPT liability where the Isle of Man issued cover applied to UK-located risks. Whilst DSG escaped on a technical issue, it showed the willingness of the tax authorities to apply Kvaerner. Another recent case of note is Homeserve, where the UK taxman successfully applied IPT on an “arrangement” fee for domestic emergency home cover.

III. European IPT compliance

The EU operates the world’s largest trade block. For a number of the European-wide taxes such as VAT, it issues governing legislation and Directives. However, it has no such interest in IPT even though many of its member states now charge IPT on foreign-generated risk programmes. This means there can be large differences in rates, methodologies and timings of taxes between countries.

Some 30 European countries now permit foreign insurers to provide cover in their countries without a local branch or subsidiary. This is provided under Europe’s Freedom of Services (“FOS”) regime, which has its roots in the EU’s original Treaty of Rome. For insurers wishing to use FOS, they simply need to apply for local passporting rights from their local insurance regulatory. This requires the assistance of their home insurance regulator. Often, insurers are obliged to appoint a local fiscal representative who is responsible for reporting and payment of any IPT due.

At present, it is almost entirely “Western” Europe where FOS insurers face an IPT regime. With the exception of Slovenia, there is no IPT on FOS premiums further to the east. This will change as the countries are encouraged by the World Bank and IMF to mature their insurance tax systems. Nevertheless, insurers may still face parafiscal charges, such as fire brigade charges in Hungary.

Many Non-European insurers can often write business across the region on a non-admitted basis. However, the tax authorities often then view the policyholder as liable in the first instance. This has important implications, as we will see below.

IV. International IPT

For global insurance programmes outside of the US and Europe, IPT compliance is tied-up with local insurance regulation. For many global programmes, if there is a local underlying policy, compliance with local tax is taken care of by the local agent/broker. No problem.

However, many insurers still work on a non-admitted basis internationally – despite it being illegal in a number of countries, e.g. Brazil. Since most countries’ regulators and legislation actually ignores non-admitted contracts, tax has been overlooked too.

To cover the policyholders’ potential IPT liability, it may be required to include a clause indemnifying the insured against any foreign taxes.

V. International tax authorities take note

In the past year or two, IPT has become a “soft” target for foreign tax authorities. Primarily, this is because of the increase in global programmes, fuelled by risk managers attempting to simplify their insurance cover and realise cost savings. A further reason is the pressure felt by national insurers from their global competitors who have been writing premiums across borders. The national insurers, via their local insurance associations, have been pressuring their tax offices to step-up IPT audits.

On a regular basis, new examples of the direct action of the tax authorities emerge. In both Austria and Germany, the tax authorities have been contacting the large global insurers asking for details of international programmes, and confirmation of how the IPT is being administered. In France, there are cases of the direct tax authorities co-operating with their IPT colleagues on identifying policyholders whose tax is non-compliant.

All of this activity is now showing up on the compliance and risk manager’s radar – this is no wonder with them fearing that they may have to meet any fiscal shortfall. Most of the large corporations are now asking their insurers to provide clear documentary evidence of the management and settlement of foreign IPT. The largest groups have gone further, and are requiring indemnity against any international insurance premium tax. This is leading to a scramble by insurance auditors looking to spot any unresolved historic charges.

VI. A new, improved mutual assistance directive

For any serious level of co-operation to be undertaken between the European tax authorities, there has needed to be a more rigid set of guidelines for the sharing of data. In the past, it has been all too easy for insurers to be vague about their cross-border activities (even with the best of intentions) as long as foreign tax authorities were unable to cross-check activities with each other.

The EU’s original answer to this problem was the Mutual Assistance Directive, which was intended to enable rapid exchange of data and activities on companies between the varying tax authorities. It also included measures to facilitate bringing legal proceedings on behalf of each other. However, it proved unwieldy and underused. There is no doubt that its ineffectiveness contributed to the neglect of IPT on cross-border insurance outlined above.

To help combat this, the Directive was redrafted in the Summer of 2008. This has now tightened up many of the loopholes in the old document. The only question mark now hanging over this otherwise potentially effective tool is workload: insurance centres such as the United Kingdom and Ireland are already deluged by enquiries from other European tax offices.

VII. Insurance regulators toughen up

Whilst few welcome unscheduled visits or even fines from the tax authorities, many insurers seemed to be willing to ride out the risks. Often this was simply down to the low levels of coverage and low risk of immaterial fines. Many managers within the insurance carriers simply had too many other bigger issues to handle.

However, this outlook is going to have to change quickly if the trend for the foreign insurance regulators to get involved with tax compliance continues. It was inevitable that regulators would at some point become more demanding on compliance for Freedom of Services insurers. What seems to be driving a new wave of audits from the regulators are local insurance associations pushing for a more level playing field for their members who are being squeezed by large global insurers moving into their markets.

An interesting case is Italy. A source of huge frustration for insurers has been the inability to get satisfactory “closure” on historic non-compliance in Italy. As with VAT, the Italian tax authorities seemed to be unwilling to accept back filings or confirm payments. However, the Italian insurance regulator has this year been taking a much stricter view. They are insisting on a complete record of all back filings be completed and filed. This can result in hours of work for insurers, and unwelcome questions from the regulator on procedures.

It is apparent that the tax authorities are much more willing to pass over cases of non-compliance to the local insurance regulator. Switzerland features highly in this regard. Many insurers, particularly from North America, have been correctly calculating Swiss Stamp Duties (there is no IPT in Switzerland) when quoting for global programmes. They have then charged this on to the insured – often believing they can pay over the IPT directly to the authorities on behalf of their policyholder. However, in Switzerland, it is often the insured party that must report the tax due. When approaching the tax authorities, such cases may be passed through to the regulator. Global insurers issuing multi-territory programmes centrally, but with local branches are particularly vulnerable to the regulators’ wrath in these situations.

Given the ultra sensitivity of insurers to their market reputation, the fear of crossing swords with insurance regulators is certainly going to drive IPT compliance back to the centre of everyone’s attention.

VIII. Conclusion

The complex variations in international IPT regulations and rates have often meant that insurers and risk managers have elected to ignore any tax liabilities. However, the foreign taxman and insurance regulator is now forcing a re-think as he seeks to catch-up on outstanding liabilities. With the policyholders now increasingly worried about their liability exposure, it is becoming vital for insurers to tackle this issue.

Anyone who does not may be the next to take a call from the tax authorities or regulators.

Richard Asquith is the MD of TMF VAT & IPT Services, which assists with IPT compliance through 79 worldwide offices www.tmf-vat.com. The TMF Group is a global independent management and accounting outsourcing firm. For further information, please contact Richard by email at: richard.asquith@tmf-group.com

 

 

 

 

 
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