Edited version of private advice

Authorisation Number: 1051533682379

Date of advice: 24 June 2019

Ruling

Subject: Taxation of reinsurance premiums

Question

For the reinsurance provided under a reinsurance agreement (Reinsurance Agreement), is the gross amount of the premiums paid or credited, as referred to in subsection 148(3) of the Income Tax Assessment Act 1936 (ITAA 1936), the Reinsurance Premium as defined in the Reinsurance Agreement?

Answer

Yes

This ruling applies for the following period:

XXX to XXX

The scheme commences on:

XXX

Relevant facts and circumstances

Aus Insurer is an Australian authorised general insurer under section 12 of the Insurance Act 1973 that holds an Australian Financial Services Licence.

Aus Insurer enters into various general insurance contracts with Australian residents including contracts of travel insurance.

Aus Insurer has entered into the Reinsurance Agreement with a non-resident reinsurer, ForCo Reinsurance (or the Reinsurer). Under the Reinsurance Agreement, Aus Insurer reinsures all its general insurance products it underwrites on a 100% quota share basis. That is, all risk and all claims are 100% ceded to ForCo Reinsurance.

Under the Reinsurance Agreement Aus Insurer is required to pay the Reinsurance Premium.

Relevant legislative provisions

Income Tax Assessment Act 1936 Subsection 148(3)

Reasons for decision

All legislative references in this Reasons for Decision are to the ITAA 1936 unless otherwise indicated.

Division 15

1.    Division 15 imposes tax in respect of certain premiums derived by non-resident insurance companies, firms or individuals. Specifically section 148 provides for the taxation of reinsurances effected out of Australia by a person carrying on a business of insurance in Australia. Subsection 148(1) provides:

(1) Notwithstanding anything contained in this Act other than section 177F, but subject to this section, where a person carrying on the business of insurance in Australia reinsures out of Australia the whole or part of any risk with a non-resident:

(a) the premiums paid or credited in respect of the reinsurance shall not be:

     (i) an allowable deduction to the person carrying on the business of insurance in Australia; or

     (ii) included in the assessable income of the non-resident; and

(b) the income of the person carrying on the business of insurance in Australia shall not include sums recovered from that non-resident in respect of a loss on any risk so reinsured.

2.    Pursuant to subsection 148(2) a taxpayer may elect that subsection 148(1) does not apply:

(2) A person carrying on the business of insurance in Australia who reinsures out of Australia the whole or part of any risk with a non-resident may elect, in accordance with this section, that the provisions of subsection (1) shall not be applied in arriving at that person's taxable income, and thereupon:

(a) those provisions shall not apply in arriving at that person's taxable income of a year of income to which the election applies; and

(b) that person shall be liable to furnish returns, and to pay tax, in accordance with the succeeding provisions of this section, as agent for all non-residents with whom that person so reinsures.

3.    Where an election under subsection 148(2) is made, subsection 148(3) operates to include 10% of the gross amount of the reinsurance premiums in the taxpayer's assessable income. That amount is taxed at the applicable company tax rate. Subsection 148(3) provides:

(3) Where a person makes an election under subsection (2), he or she shall, subject to subsection (5), be assessed and liable to pay tax as agent, on an amount equal to 10% of the sum of the gross amounts of the premiums paid or credited by him or her in the year of income (being a year of income to which the election applies) to non-residents in respect of all such reinsurances, as if that amount were the taxable income of a non-resident company (not being a private company) not carrying on business in Australia by means either of a principal office or a branch.

4.    Under subsection 148(4) where a person has made an election under subsection 148(2), that person, shall as agent, be required to furnish a return to the Commissioner in respect of every year of income to which section 148 applies.

Meaning of 'reinsurance'

5.    The term 'reinsurance' is not defined in the ITAA 1936 or Income Tax Assessment Act 1997 (ITAA 1997), therefore the term takes on its ordinary meaning subject to the context in which it appears and having regard to any relevant case law authorities.

6.    The Macquarie Dictionary defines 'reinsurance' as having the following meaning:

noun the taking out of insurance by one insurer with another insurer against the risk of having to pay a particular claim or claims.

7.    In the case of R v. Insurance Commissioner; Ex Parte Saltergate Insurance Co Limited (1976) 12 ACTR 1 at page 7 Northrop J defined reinsurance as:

Reinsurance refers to that type of insurance by which a person carrying on insurance business insures himself against loss which he may himself sustain in his capacity as an insurer under another contract of insurance.

8.    Taxation Ruling TR 95/5 Income tax: basis of assessment of reinsurance activities (TR 95/5) at paragraph 33 provides that reinsurance is:

...the insuring of the risks undertaken by an insurer. Reinsurance is a form of insurance and many of the principles and practices applying to the conduct of insurance business apply equally to reinsurance.

9.    Based on relevant case law authorities TR 95/5 comprehensively defines 'contract of reinsurance' as follows:

34. A contract of reinsurance has also been described as an independent contract of insurance. (Barker J in Farmers Mutual Insurance Ltd v. QBE Insurance International Ltd; American International Underwriters Ltd v. Farmers Mutual Insurance Ltd (1993) 7 ANZ Insurance Cases at 61:185.)

35. A reinsurance contract is a contract of indemnity. Under a contract of reinsurance one party known as the reinsurer, promises to indemnify the other party, known as the reinsured, for any financial losses sustained by the reinsured as a result of the occurrence of an uncertain event originally insured by the reinsured in its business of insurance. In return for this indemnity, the reinsured agrees to pay the reinsurer an amount known as a premium. Reinsurance contracts, therefore, are concerned with providing for the reinsurance of risks under contracts of insurance.

36. A reinsurer indemnifies an insurance company under a contract of reinsurance against risk(s) originally assumed by the insurance company under a contract of insurance. A reinsurance contract provides that the reinsurer will indemnify a portion of the risk in specific proportions to the amount of risk originally assumed or alternatively they may provide for protection over and above a specified amount or ratio of claims. Reinsurance involves the transfer of insurance risk from an insurer to a reinsurer and this transfer exposes a reinsurer to the possibility of incurring a loss under a reinsurance contract as it relates to the risk assumed by the reinsurer.

Definition of premium

10.  The terms 'premium' and 'gross amounts' (as used in subsection 148(3)) are not defined in the ITAA 1936 or the ITAA 1997and therefore the terms take on their ordinary meaning subject to the context in which they appear and having regard to any relevant case law authorities.

11.  In Commissioner of State Revenue (Vic) v. Royal Sun Alliance Insurance Australia Ltd [2003] VSCA 177 (Sun Alliance) the issue was whether the premiums and gross premiums for the purposes of the relevant part of the Stamps Act 1958 (Vic) should include that part of the premium that was charged to cover the GST payable by the insurer in relation to its insurance policies. In respect to gross premiums, in the Court stated at paragraph 55:

In the absence of any reliable indication in the statute or elsewhere as to the meaning of "gross premiums", one should accept, as the learned judge did, that the expression bore its natural meaning. In other words it was intended to denote the total of all sums received by way of premium, howsoever described, in consideration of the granting or renewal of insurance cover.

The Court also noted at paragraph 27 that premiums were:

...consideration, usually in the form of a monetary obligation, paid or payable by the insured for the grant or renewal of insurance cover or of other rights under a policy of insurance.

12.  In ATO Interpretative Decision 2013/59 Income derived by non-resident insurer (ATO ID 2013/59) in relation to insurance premiums it is stated at paragraph:

An insured party pays a premium to the insurer in exchange for the insurer's assumption of the insured's risk upon the happening of some event (Prudential Insurance Co v. Inland Revenue Commissioners [1904] 2 KB 658 at 663). The composition of the premium amount is determined by the insurer and is a reflection of the selling price of the insurance. Additionally, though a premium may have numerous components, it is the total amount of the consideration the insured is required to pay to secure the grant or renewal of the insurance cover. That is, the premium is a required payment for an insurance policy to have effect.

The contract of reinsurance

13.  As noted in TR 95/5 a contract of reinsurance is a separate contract to the contract of insurance made by an insurer with an insured. The relevant contract of reinsurance in this case is the Reinsurance Agreement.

14.  Under the Reinsurance Agreement 100% of Premiums are ceded by the Insurer to the Reinsurer.

15.  For the purposes of subsection 148(3), the phrase 'gross amount of premiums paid or credited' take on its ordinary meaning in accordance with Sun Alliance and refers to the total amount required to bind the contract of reinsurance and hence refers to the Reinsurance Premium as calculated under the Reinsurance Agreement.

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