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The impact of taxes on global programmes
By Mike Stalley FCA, Chief Executive, FiscalReps
Driven by the global financial crisis and the need to balance their books, governments are targeting insurance as a source of much needed tax revenue, leaving businesses vulnerable to changing legislation and stringent penalties.
In Europe and North America, governments introducing or increasing the level of insurance premium tax (IPT) or imposing other taxes, such as value added tax (VAT), will inevitably impact on the purchase of multinational corporate insurance.
At present, four taxation options are available to cash-hungry governments.
First, a government can introduce new taxes: this has already taken place in Bulgaria, which saw its Finance Ministry introduce IPT of 2% in 2011. Hungary will follow suit in 2013 by introducing IPT at a rates of 10% or 15%, depending on the type of insurance offered.
Please sign up here to our full-time mailing list to ensure that you receive our weekly newsletter. In Canada, a new taxation regime has been implemented in the province of Manitoba, which recently enacted legislation imposing a 7% retail sales tax (RST) on premiums payable on taxable insurance contracts, effective July 15, 2012.
The second option is to increase existing taxes.
On October 1, 2012, the Dutch government proposed an amendment to its 2013 budget, which could see the more-than-doubling of its IPT rate from the current rate of 9.7% to 21%. This proposed amendment would also bring the rate of IPT in line with the country’s VAT rate, which increased from 19% to 21% on October 1, 2012.
Similarly, the Finnish government has proposed an increase in what is already one of Europe’s highest rates of IPT, with plans for it to rise from 23% to 24%.
The third option is greater enforcement, an approach taken by the US Internal Revenue Service (IRS), which is employing cascading Federal Excise Tax (FET). According to Asher Harris, a New York tax attorney and consultant with FiscalReps, the IRS is keen to combat tax evasion by tightening its FET procedures.
“In Europe, acquiring the knowledge and administrative resources to keep up with the European Union’s 21 different insurance premium tax regimes, which vary widely in terms of business classes liable and methods of payment, is challenging enough,” Mr Asher said.
“However, insurers globally need to be aware that the US is serious about significantly intensifying tax collection procedures.” Cascading FET is a key area in which the IRS has signified such an intent, he added.
Finally, a government hungry to bump up its cash flow can also pay attention to closing tax avoidance loopholes.
A prime example of this is the 2009 IPT tribunal case in the UK of Homeserve vs Her Majesty’s Revenue and Customs (HMRC), which considered the artificial unbundling of premiums to remove them from the scope of IPT.
Although the tribunal was initially won by HMRC, the ruling went to appeal and the decision was overturned. However, the HMRC’s response was simply to have new legislation enacted which closed this loophole.
While the UK’s new legislation relating to premium splitting does not currently apply to insurance bought by businesses, as avoidance has not been seen in this area, HMRC are monitoring the situation.
Rising transaction taxation
Based on our observations of premium taxation issues, the long term trend appears to be to increase the taxation of insurance transactions, with the emphasis on indirect taxation, as opposed to an increase in direct taxation in the form of increasing the tax on profits and income.
This hypothesis is supported by research carried out by KPMG for its 2012 benchmark survey on VAT and Goods & Services Tax (GST). It noted: “Around the world the shift to indirect taxes, such as Value Added Tax/Goods & Services Tax, away from direct tax is clear. Governments increasingly look to indirect tax as a means of maximizing tax yields.”
Multinational insurance challenges
The global shift towards indirect taxation is undoubtedly having an impact on the purchasing of multinational insurance. Today, taxation in this area takes the shape of premium taxes, stamp duties, parafiscal levies - such as fire brigade charges and catastrophe levies - GST and VAT.
Determining which taxes apply is affected by the Location of Risk rules, which vary from country to country and from tax to tax. Switzerland, for example, operates significantly different Location of Risk rules to those used in the rest of the EU. Within the EU, the Location of Risk is the key point; in Switzerland, however, it is the location of the policy that is the decisive factor.
Furthermore, Federal Excise Tax legislation in Canada considers that, ‘every corporation carrying on business in Canada shall be deemed to be a person resident in Canada’ and, consequently, liable to file FET returns on taxable insurance premiums.
In addition, there is no clear guidance in terms of premium allocation, which is essentially the methodology that is adopted to split a single global premium across multiple countries and risks.
A range of options
At present, a number of different options apply to this area, alongside a variety of means of allocating premiums, all of which produce different answers.
In the UK, HMRC takes the view that premium allocations must be ‘just and reasonable’; however, this interpretation may not always be consistent with that of other tax authorities, which could find themselves fighting for their share of the tax ‘cake’ from a global programme.
Ultimately, as with all other commercial activities, it is the end customer, which ultimately bears the cost of any increased taxes. For any supplier to be profitable, it must ensure that the end customer supports the full cost of bringing a product to market.
The insurance industry is no different in this respect and intelligent insurers will always attempt to pass on taxation costs. This can be seen in the shape of overtly billing premium taxes on to the end user by adding them to the premium, or can take the form of ensuring that anticipated premium taxes, which should be borne by the insurer, are included within the premium quoted to the policy holder.
The costs of such taxes can be material, reaching highs such as are seen in Germany, where the standard rate of IPT is now 19% - although this is soon to be surpassed by Dutch legislation.
As a result, these taxes must be controlled in the same way as any other cost, making it imperative not only to perform thorough calculations, but also to check the legislation and to challenge and question your broker and insurer.
Other tax areas to consider
The wise insurance manager should also consider the impact of other areas of taxation, which at present include transfer pricing, relating to the charging out of centrally procured insurance to subsidiaries.
Taxation of claims also merits careful scrutiny; should a policy be non-admitted, for example, it should be asked if the claim being paid locally is subject to tax.
As far as corporate tax deduction is concerned, meanwhile, it is wise to enquire if there can be valid deductions for costs where policies are non-admitted.
The costs of getting it wrong
In its 2012 benchmark survey, KPMG stated that, ‘Despite the shift to indirect tax globally, VAT/GST remains under-resourced, under-measured and under-managed in most businesses.’
Confusion is widespread: in countries such as the US and Canada, for example, depending on the nature of the insurance transaction, either the local insured or the insurer can be liable for the premium taxes.
Despite such misunderstandings and the chronic lack of VAT and GST support, the price for not paying or simply ignoring the appropriate taxation can, in fact, be substantial. Today, insurance managers who fail to pay attention to taxation pitfalls can be liable to suffer, as the costs of getting it wrong range from hefty fines to interest charges.
Current penalties can be punitive, such as the maximum of 400% levied by Italy in certain circumstances on those failing to pay the correct taxes, according to article 24 of the country’s ‘New Tax Rules on Private Insurance and Annuity Contracts’.
Last but not least, reputational damage is a major factor. In this era of corporate governance, being a poor corporate citizen can harm your reputation, which can in turn, reduce future revenues.
It’s all down to you
Ultimately, the introduction or increase in levels of IPT or other taxation has the heaviest impact on insurance managers, thanks to their role as the purchasers of insurance. Insurance managers are therefore advised to ensure that they scrutinise the taxation climate of the markets in which they operate.
If they wish to avoid stringent penalties or reputational damage, the onus is unfortunately on them to ensure that the correct tax is paid - even if the insurer itself has charged the wrong tax in the first place.