Amendments to the exemption for insurance CFCs
2012 legislative amendment relating to controlled foreign companies, the CIR's ability to impose conditions on a determination, and reinsurance claim income.
Sections 91AAQ(5B) and 91AAQ(4)(b) of the Tax Administration Act 1994
As part of the Taxation (International Tax, Life Insurance, and Remedial Matters) Act 2009, an exemption was introduced for insurance CFCs as a transitional measure until further work was done to develop special rules for financial CFCs more generally.
To qualify for this exemption the insurance CFC must first have applied for and obtained a determination from the Commissioner of Inland Revenue, and this determination must not have expired or been revoked. Section 91AAQ of the Tax Administration Act 1994 regulates this process.
Discretion for Commissioner to impose conditions on a determination
The Act inserts section 91AAQ(5B) which enables the Commissioner to stipulate conditions that must be satisfied in addition to the existing requirements for a CFC or CFC group member to qualify as a non-attributing active CFC. For example, a determination could be made conditional on the insurer informing the Commissioner of any significant changes to its organisational structure, funding or major business activities.
Note that the Commissioner already has the ability to revoke a previously issued determination.
Reinsurance claim income is disregarded
To be granted a determination that an insurance CFC is a non-attributing active CFC, the Commissioner must be satisfied that the CFC does not earn a significant amount of its income from activities unrelated to the provision of insurance services that cover risks in the CFC's jurisdiction.
This is achieved through subparagraph 91AAQ(4)(b) which requires the Commissioner to consider if the insurance business of the CFC or group of CFCs earns all or nearly all of its income from:
- premiums from insurance contracts (excluding reinsurance premiums) that cover risks that arise in the country or territory of the business of the CFC; and
- proceeds from investment assets, but only if those investment assets are commensurate with the value of the insurance contracts.
There are basically three ways that an insurance CFC could fail to satisfy these requirements:
- if it earned a significant proportion of income unrelated to premiums or investment proceeds, for example, banking or sales income;
- if it earned a significant proportion of income from reinsurance premiums, or from premiums derived from insurance contracts that cover risks from a jurisdiction that is different from the one in which the CFC's business is located. Reinsurance premium income is disregarded because reinsurance contracts may effectively be insuring an ultimate risk that is in a different jurisdiction from the one in which the CFC is located; and
- if the CFC held a level of investment assets that was in excess of the level that comparable insurance businesses would generally hold and earned a significant proportion of its income from these excess assets.
The original provision failed to recognise that insurers can receive another type of income in the form of reinsurance claim income for liabilities which they have reinsured. Amounts from reinsurance claims could be significant in some years when adverse events arise.
It would not be sensible to deny a determination in such circumstances as this would discourage insurance CFCs from taking out reinsurance to spread their risk.
For this reason, subparagraph 91AAQ(4)(b) of the Tax Administration Act has been amended to exclude reinsurance claim income when considering the total income of the CFC. Note that reinsurance premium income is still included when considering the total income of the CFC.