Edited version of your private ruling

Authorisation Number: 1012446596838

Ruling

Subject: Decreasing adjustments pursuant to Division 78 of the GST Act.

Question

Is X entitled to claim a decreasing adjustment pursuant to subdivision 78-A of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) if X either makes a payment of money, a supply, or both a payment of money and a supply on or after the Transfer Date as defined in four concurrent but separate Schemes pursuant to Division 3A of Part III of the Insurance Act 1973 (Cth) for the transfer to X of the insurance businesses currently carried on by each of A, B C, and D in settlement of a claim under an insurance policy issued by either A, B, C, or D?

Answer

Yes, X is entitled to claim a decreasing adjustment pursuant to subdivisions 78-A and 78-F of the GST Act when X either makes a payment of money, a supply, or both a payment of money and a supply on or after the Transfer Date in settlement of a claim under an insurance policy issued by A, B, C, or D to the extent that A, B, C, or D would have been entitled to claim such a decreasing adjustment had the Schemes not been confirmed by the Federal Court.

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

Applicant

The applicant, X is authorised under the Insurance Act 1973 (Cth) (IA) to carry on insurance business in Australia.

Background

X has applied pursuant to Division 3A of Part III of the IA for confirmation by the Federal Court of four separate but concurrent Schemes for the transfer to X of the Australian general insurance businesses currently carried on by A, B, C and D.

Each of X, A, B, C, and D is part of a large group of insurance companies.

The four Schemes are intended to reduce the number of entities operating in Australia by consolidating the group's general insurance business into a single authorised insurer (X).

X, A, B, C, and D are all registered for GST and are members of a GST group of which Z is the representative member.

Ruling request

In the ruling request X asked:

Is X entitled to claim a decreasing adjustment under subdivision 78-A of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) available where the binding obligation to the supply was with a different entity in the… Group?

Insurance Act 1973 (Cth)

Subsection 17B (1) IA states that no part of the business of a general insurer may be transferred to another general insurer or amalgamated with the business of another general insurer except under a scheme confirmed by the Federal Court.

Subsection 17B (3) IA states that a scheme must set out the terms of the agreement or deed under which the proposed transfer or amalgamation is carried out.

Section 17G IA states that when a scheme is confirmed by the Federal Court it becomes binding on all persons and has effect in spite of anything in the constitution of any body corporate affected by the scheme.

The Schemes

Using the description of the Scheme in respect of D as an example, the Scheme involves a transfer of D's general insurance business to X on the Effective Date (X/X/2013 or other date as confirmed by the Federal Court) and refers to a Transfer Agreement dated X/X/2013 between A, B, C and D (together the 'Transferors') and X for the sale and transfer of the Transferors' insurance business to X.

The relevant provisions of the Scheme for D are set out below. The terms used in those provisions are defined as follows:

'Business' means the insurance business carried on by D in Australia within the meaning of the Insurance Act, including the Insurance Contracts, the Insurance Liabilities, the Business Assets and the Business Liabilities, but not including the Excluded Business Assets and Excluded Business Liabilities.

'Business Assets' means the assets of D used for the purposes of conducting the Business, but excludes Insurance Contracts and Excluded Business Assets (e.g. leases, contracts with employees etc).

'Business Liabilities' means claims, losses, liabilities, costs or expenses of any kind of the Business which have arisen and remain unsatisfied or which may arise in the future or which are prospective or contingent, other than the Insurance Liabilities and the Excluded Business Liabilities.

'Claim' means, in relation to a person, a claim, action, proceeding, judgment, damage, loss, cost, expense, or liability incurred by or made or recovered by or against the person whether arising before or after the Effective Date.

'Effective Date' means X/X/2013 or such other date that the Federal Court of Australia may specify as the commencement date of the Scheme should the Scheme be confirmed by the Court.

'Excluded Business Assets' means any leases, contracts with current or former employees, business records etc.

'Excluded Business Liabilities' means Claims, losses, liabilities or expenses that are identified by D as relating to any Excluded Business Asset or being otherwise unrelated to D's general insurance business.

'Insurance Contracts' means all right, title and benefit, including any entitlement to receive or recover any money or property (insurance receivable) under or in relation to all contracts of insurance or reinsurance issued, entered into, or assumed by D as insurer or reinsurer prior to the Effective Date.

'Insurance Liabilities' means all claims, losses, liabilities, costs or expenses of any kind under the Insurance Contracts, which have arisen and remain unsatisfied or which may arise in the future or which are prospective or contingent.

'Post-Effective Date Insurance Contract' means any contract of insurance or reinsurance inadvertently or mistakenly issued or entered into by or on behalf of D as insurer in the 3 months after the Effective Date.

'Transfer Agreement' means the Transfer Agreement dated X/X/2013 between A, B, C, and D (the Transferors) and X for the sale and transfer of the Transferors' insurance businesses to X.

'Transfer Value' means an amount equal to the net book value of all assets and liabilities directly related to D's general insurance business for the period ending X/X/2013 as contained in the balance sheet for D on that date and in accordance with the Transfer Agreement.

The relevant provisions of the Scheme for D state:

2. Transfer of business

On the Effective Date, D agrees to sell and transfer and X agrees to purchase and accept the transfer of all of the Business and, in particular:

(a) the Insurance Contracts and Insurance Liabilities; and

(b) the Business Assets and the Business Liabilities,

from D in accordance with the terms of the Transfer Agreement, including all right, title, interest, benefit and powers that have arisen, or may in the future arise under any of the above.

3. Consideration for the transfer of the Business

In consideration of the transfer of the Business to X, X agrees to:

(a) assume the Business Liabilities and the Insurance Liabilities; and

(b) pay to D an amount equal to the Transfer Value.

4. Transfer of Liability

(a) On and from the Effective date D transfers to X and X accepts the transfer of the Insurance Contracts and the Insurance Liabilities, and X assumes and takes over and must indemnify and keep D indemnified from and against all Claims under or in connection with the Insurance Contracts or Insurance Liabilities.

(b) In the case of any Post-Effective Date Insurance Contracts, the transfer of those contracts to and the assumption of liabilities under those contracts by X will take effect on and from the date on which the Post-Effective Date Insurance Contract is issued or entered into by D.

5. Transfer of Business Assets

On and from the Effective Date, X is beneficially entitled to the benefit of the Business Assets and X assumes responsibility for the Business Assets and shall indemnify and keep D indemnified from and against all Claims under or in connection with the Business Assets in accordance with the terms of the Transfer Agreement.

…

7. Effective Date

The sale and purchase of the Business from D to X, and the transfer to and assumption of the Insurance Contracts and Insurance Liabilities by X pursuant to this Scheme take effect on and from the Effective Date (or in the case of any Post-Effective Date Insurance Contract, on the date that it is issued by D) such that X will be entitled to all benefit and rights in respect of the Insurance Contracts and Business Assets, and will assume all of the obligations in respect of the Insurance Liabilities and Business Liabilities as from and including that date.

…

10. Rights and Obligations of Insureds

(a) The Scheme will not change the terms of any Insurance Contract, or affect any claim in respect of any Insurance Contract, issued by D, other than that X will become the insurer in place of D.

(b) Policyholders will continue to have the same rights and obligations under or in respect of any Insurance Contract or claim but with X as the insurer. The Scheme and Transfer Agreement will also reflect the change of insurer as follows:

(i) All outstanding claims-related rights and liabilities of D in respect of the Insurance Contracts will be transferred to X such that any claims arising under or in connection with any Insurance Contract underwritten by D must be against X;

(ii) All premiums and other amounts payable to or recoverable by D under the Insurance Contracts will be payable to and recoverable by X instead of D

(iii) X will be entitled to enforce all right and remedies which but for the Scheme would have been enforceable by D under or in respect of the Insurance Contracts (including but not limited to any claims by way of subrogation, contribution, outstanding premium and any other recoveries related directly or indirectly to any Insurance Contracts); and

(iv) Any policyholder under an Insurance Contract or other person who has a claim on or obligation to D under or in respect of an Insurance Contract will have the same claim on or obligation to D irrespective of when such claim or obligation arose.

(c) Policyholders are not required to take any action before or as a result of the Scheme.

(d) In the event of any inconsistency between this clause 10 and any other provision of this Scheme or the Transfer Agreement, the other provision shall prevail to the extent of the inconsistency.

Further information supplied by X

X confirmed that A, B, C and D would cease trading as insurers on the Effective Date but remain operating as companies as they own buildings and other assets which must be transferred to X.

X also advised that, subject to obtaining approval from APRA, each of A, B, C and D would have their licences to carry on insurance business revoked by 1 April 2014 and that A, B, and C would then be liquidated but D would be retained within the group of companies.

X also confirmed that the Schemes do not involve the amalgamation of companies but merely effect the transfer of the insurance business carried on by A, B, C and D to X.

Reasons for decision

Summary

Each Scheme is an 'arrangement in the nature of a portfolio transfer' within the meaning of subsection 78-118 in subdivision 78-F of the GST Act. Pursuant to subsection 78-118(1) and paragraph78-118(2)(b) of the GST Act, from the time when each Scheme takes effect section 78-10 applies as if X were the insurer that supplied each insurance policy that was supplied by A, B, C and D.

Detailed reasoning

Subdivision 78-A of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act) includes section 78-10 which states: 

(1) An insurer has a decreasing adjustment if, in settlement of a claim under an insurance policy, the insurer:

(a) makes a payment of money; or

(b) makes a supply; or

(c) makes both a payment of money and a supply.

(2) However, this section only applies if:

(a) the supply of the insurance policy by the insurer was solely or partly a taxable supply; and

(b) either:

(i) there was no entitlement to an input tax credit for the premium paid in relation to the period during which the event giving rise to the claim happened; or

(ii) there was an entitlement to such an input tax credit, but the amount of the input tax credit was less than the GST payable by the insurer for the taxable supply; and

(c) the insurer settles the claim for a creditable purpose; and

(d) the insurer is registered, or required to be registered; and

(e) the settlement does not relate solely to one or more non-creditable insurance events.

(3) An event is a non-creditable insurance event if the supply of an insurance policy would not be a taxable supply if it were only an insurance policy against loss, damage, injury or risk that relates to that event happening.

Goods and Services Tax Ruling GSTR 2006/10 explains the policy intent behind section 78-10 as follows:

19. The insurance provisions in Division 78 are designed to ensure that an insurer will only pay GST on the value of services provided by the insurer. The legislation measures the value of the insurance services by imposing GST on the full amount of the premiums collected by the insurer and then reducing the insurer's GST by way of a decreasing adjustment under section 78-10.

20. The insurer is entitled to a decreasing adjustment if the insured is not entitled to an input tax credit on the premium it pays under the insurance policy. The amount of the decreasing adjustment is equal to 1/11th of the settlement amount.

21. The insurer is also entitled to a decreasing adjustment if the insured is entitled to an input tax credit on the premium it pays under the insurance policy, but that input tax credit is less than the GST payable on the premium…

The specific circumstances giving rise to a decreasing adjustment for an insurer in paragraphs 78-10(1)(a) to (c) of the GST Act (i.e. if, in settlement of a claim, the insurer either makes a payment of money, a supply or both a payment of money or a supply) are also discussed in GSTR 2006/10:

Division 78

33. If an insurer settles an insurance claim by way of payment of money to the insured or a third party, or reimburses the insured or a third party for costs incurred, or to be incurred, then the insurer may be entitled to a decreasing adjustment.

34. If, in settlement of a claim, the insurer supplies to the insured or a third party a voucher which, for example, entitles the holder to a choice of supplies up to a monetary value stated on the voucher (being a Division 100 voucher, that supply is not a taxable supply. However, the insurer may be entitled to a decreasing adjustment on the supply of the voucher in settlement of a claim.

35. If the insurer merely facilitates the payment as part of the settlement of an insurance claim or provides consideration for a supply by a supplier to the insured or a third party (which does not give rise to a taxable supply to the insurer), the insurer is not making a creditable acquisition and, therefore, has no entitlement to an input tax credit. However, the insurer may be entitled to a decreasing adjustment.

The availability of a decreasing adjustment to the insurer pursuant to section 78-10 is complemented by section 78-20 which denies the insurer an input tax credit for a payment, supply, etc. made by an insurer in settlement of a claim. Section 78-20 states that if, in settlement of a claim under an insurance policy an insurer makes a payment of money, a supply, or both a payment of money and a supply the payment or supply is not consideration for an acquisition made by the insurer.

In order to be eligible to make a decreasing adjustment pursuant to section 78-10 the insurer must satisfy the requirements set out in subsections 78-10(1) and (2). Subsection 78-10(1) requires that the insurer makes a payment, supply, or both a payment and a supply, in settlement of a claim under an 'insurance policy' which is defined in section 195-1 of the GST Act as:

A policy of insurance (or of reinsurance) against loss, damage, injury or risk of any kind, whether under a contract or a law. However, it does not include such a policy to the extent that it does not relate to insurance (or reinsurance) against loss, damage, injury or risk of any kind.

Subsection 78-10(2) commences by stating that section 78-10 'only applies if' the further requirements in paragraphs 78-10(2)(a) to (d) are satisfied. The requirement in paragraph 78-10(2)(a) is that 'the supply of the insurance policy by the insurer was solely or partly a taxable supply'. The reference to 'the insurer' in both subsection 78-10(1) and in paragraph 78-10(2)(a) means that in order to be eligible for a decreasing adjustment pursuant to section 78-10, the insurer making the payment, supply or both in settlement of a claim under an insurance policy must have supplied that insurance policy.

This requirement appears not to be satisfied where, following confirmation of the Schemes by the Federal Court, X makes a payment, supply, or both a payment and a supply is settlement of a claim under an insurance policy that was supplied by A, B, C or D.

However, subdivision 78-F of the GST Act includes section 78-118 which states:

78-118 Portfolio transfers

(1) If an insurer (the first insurer) enters into an arrangement, in the nature of a portfolio transfer, with another insurer for the other insurer:

(a) to act as the insurer in relation to an insurance policy; or

(b) to meet the first insurer's liabilities arising under an insurance policy;

Subsection 38-60(1) and this Division apply, from the time the arrangement takes effect, as if the other insurer were an insurer in relation to the policy.

(a) anything done after that time by the other insurer that, if it had been done by the first insurer, would have been done under the policy is taken, for the purposes of subsection 38-60(1) and this Division, to have been done by the other insurer under the policy; and

(2) Without limiting subsection (1):

(b) sections 78-10 and 78-30 apply as if the other insurer were the insurer that supplied the policy; and

(c) section 78-18 applies as if the insurer that settles the claim referred to in paragraph 78-18(1)(b) or (3)(b) (as the case requires) has the increasing adjustment under that section, regardless of which insurer was paid the excess to which the adjustment relates.

Pursuant to subsection 14(2) of the Taxation Laws Amendment Act (No. 6) 2001, section 78-118 applies to net amounts for tax periods starting on or after 1 January 2001. The Revised Explanatory Memorandum to the Taxation Laws Amendment Bill (No. 6) 2001 (REM) explains the intended operation of section 78-118:

6.33       Division 78 of the GST Act sets out the GST treatment for payments or supplies made between insurers, insureds and certain third parties. Generally, the supply of anything in settlement of a claim under an insurance policy is not a taxable supply and a payment or supply made by an entity in settlement of a claim under an insurance policy is not consideration for a supply made by the recipient of the payment or supply. The GST legislation also provides insurers with various increasing and decreasing adjustments.

6.34       The insurance industry has advised that it is not unusual for one insurer to transfer a `book of insurance' to another insurer. These transfers are known within the industry as a `portfolio transfer'. Where a portfolio transfer has occurred, the provisions within Division 78 of the GST Act may not apply to give the appropriate GST outcome. For example, the decreasing adjustment available under section 78-10 of the GST Act and the denied input tax credit under section 78-30 of the GST Act, only apply to the insurer that issued the policy.

6.35       The inability of insurers to claim decreasing adjustments has been highlighted by the financial collapse of the HIH group of companies. As a result of various contractual arrangements with HIH companies, portfolio transfers have occurred so that some insurers have undertaken to make payments under insurance policies issued by an HIH company. There are a variety of other situations where such a portfolio transfer can arise.

6.36       New section 78-118 of the GST Act ensures that where a portfolio transfer has occurred, the insurance provisions within the GST Act apply as if the transferee insurer were the insurer in relation to the insurance policy.

6.37       The new section only applies where a portfolio transfer has occurred. Generally, a portfolio transfer occurs where an arrangement is entered into by 2 insurers and under the arrangement the second insurer undertakes to meet the liabilities, such as the liability to pay claims, under insurance policies issued by the first insurer. A portfolio transfer is contractual in nature and does not include situations where statutory provisions may provide that an entity will assume liability for a claim without any contractual agreement between the 2 insurers. For example, legislation providing for compulsory third party schemes may also provide that where an insurer is declared to be insolvent, the Nominal Defendant is liable to meet claims under a compulsory third party insurance policy issued by the insolvent insurer. This assumption of liability by the Nominal Defendant would not be an arrangement in the nature of a portfolio transfer.

6.38       In particular, the amendments ensure that:

anything done by the transferee insurer is done under the insurance policy if it would have been done under the policy by the first insurer;

regardless of which insurer issued the policy:

decreasing adjustments may be available, under section 78-10 of the GST Act, to an insurer that is settling a claim under an insurance policy that was a taxable policy; and

an insurer is not entitled to input tax credits, under section 78-30 of the GST Act, on acquisitions made by the insurer to provide in settlement of a claim under an insurance policy that was a GST-free policy; and

where there is a payment of an excess to either the transferor or transferee insurer, the insurer that settles the claim under the insurance policy is the insurer that has an increasing adjustment under section 78-18 of the GST Act.

6.39       The decreasing adjustment available to the transferee insurer is calculated under section 78-15 of the GST Act and is limited to the amount to which the insurer that issued the policy would have been entitled, if it had made the settlement of the claim under the insurance policy. The first insurer will not be entitled to a decreasing adjustment under section 78-10 of the GST Act because it no longer settles a claim under the insurance policy.

Example 6.4

Ostrich Insurance Company (Ostrich) and Whyte Nite Insurance Company (Whyte Nite) enter into an arrangement where Ostrich transfers its home and contents insurance portfolio to Whyte Nite. The arrangement is in the nature of a portfolio transfer and Whyte Nite has undertaken to settle claims that may arise from those policies that had been issued by Ostrich. Section 78-118 provides that Division 78 of the GST Act applies to Whyte Nite as if Whyte Nite were an insurer in relation to the policies.

If Ostrich had settled a claim under one of the insurance policies (and the insurance policy had not been transferred):

the supply of something by Ostrich in settlement of the claim would not be a taxable supply;

any payment or supply made by an entity in settlement of a claim under an insurance policy is not consideration for a supply made by the recipient of the payment or supply; and

a decreasing adjustment would be available to Ostrich (where section 78-10 of the GST Act is satisfied).

Section 78-118 of the GST Act operates to ensure that the same outcome arises for payments or supplies made by Whyte Nite in settlement of a claim under the transferred insurance policy.

In particular, when Whyte Nite settles claims under an insurance policy issued by Ostrich, Whyte Nite would be entitled to a decreasing adjustment under section 78-10 of the GST Act to the same extent that Ostrich would have if the insurance policy had not been transferred.

Section 78-118 of the GST Act refers to 'an arrangement in the nature of a portfolio transfer'. 'Portfolio transfer' is not defined in the GST Act and therefore takes its ordinary meaning. The REM provides the following definition (Para 6.37):

Generally, a portfolio transfer occurs where an arrangement is entered into by 2 insurers and under the arrangement the second insurer undertakes to meet the liabilities, such as the liability to pay claims, under insurance policies issued by the first insurer. A portfolio transfer is contractual in nature and does not include situations where statutory provisions may provide that an entity will assume liability for a claim without any contractual agreement between the 2 insurers.

The description of the Scheme in relation to D and X refers to a Transfer Agreement between A, B, C and D (Transferors) and X 'for the sale and transfer of the Transferors' insurance businesses to X'. Pursuant to clause 2 of the description of the Scheme, D agrees to sell and X agrees to purchase the Business. Pursuant to clause 3, X provides consideration for the transfer of the Business by assuming the Business Liabilities and Insurance Liabilities and paying D the Transfer Value (the net book value of all assets and liabilities related to D's general insurance business as at X/X/2013). Pursuant to clause 4(a) on and from the Effective Date X 'accepts the transfer of the …Insurance Liabilities' (defined as 'claims, losses, liabilities, costs or expenses of any kind under the Insurance Contracts (defined as all contracts of insurance or reinsurance entered into by D as insurer or reinsurer prior to the Effective Date)) and 'X assumes and takes over…all Claims…'.

Based on this description of the Scheme, we consider that there is an arrangement entered into by two insurers (D and X) under which X undertakes to meet the liabilities under insurance policies issued by D.

We do not consider that the exclusion in paragraph 6.37 of the REM for cases where 'statutory provisions may provide that an entity will assume liability for a claim without any contractual agreement' applies. The example of such a statutory scheme given in the REM is where legislation governing compulsory third party insurance schemes provides for a Nominal Defendant to meet claims where the issuer of the relevant insurance policy has become insolvent. Notwithstanding that section 17G IA states that when a Scheme is confirmed by the Federal Court it becomes binding on all persons, we consider that in the present case X's liability to pay claims under insurance policies issued by A, B, C or D arises under a portfolio transfer that is contractual in nature.

We therefore consider that each Scheme is 'an arrangement, in the nature of a portfolio transfer' for the purposes of section 78-118 of the GST Act and that each Scheme is an arrangement for another insurer (i.e. X) 'to meet the first insurer's liabilities arising under an insurance policy' as described in paragraph 78-118(1)(b).

Where, as is the case with each Scheme, the requirements of either paragraph 78-118(1) (a) or (b) are satisfied, subsection 78-118 states that Division 78 of the GST Act applies 'from the time the arrangement takes effect, as if the other insurer [i.e. X] were an insurer in relation to the policy'. More specifically, for the purposes of the ruling request, subsection 78-118(2) states:

Without limiting subsection (1):

(b) sections 78-10 and 78-30 apply as if the other insurer [i.e. AAI] were the insurer that supplied the policy.