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HMRC internal manual

Corporate Finance Manual

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HM Revenue & Customs
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Derivative contracts: special kinds of company: insurance companies

Insurance companies

For the purposes of the derivative contracts rules under CTA09/PART7, activities carried on by a company in the course of

  • any mutual insurance or other mutual business which is not life assurance business, or
  • any basic life assurance and general annuity business

are treated as not constituting the whole or any part of a trade (CTA09/S634). It follows that any credits and debits arising to such a company will not be brought into account under Part 3 but they will, by virtue of CTA09/S574 be brought into account under Part 5 as non-trading credits and debits.

Creditor relationships: embedded derivatives which are options

Under Generally Accepted Accounting Practice, a company that accounts for a creditor relationship at fair value through profit and loss would not, in general, bifurcate or divide a complex relationship into an embedded derivative and remaining loan relationship rights. But life assurance companies are an exception, and the treatment at CTA09/S585 (division) operates notwithstanding that FVTPL accounting applies (CTA09/S635).

Continuity of treatment on transfers within groups

CTA09/S636 supplements the group continuity rules at CTA09/S625 in relation to certain insurance business transfers and contains the derivative contract equivalent of the loan relationship rules under CTA09/S337.

Life company contracts that are excluded from being derivatives

CTA09/S589 excludes from treatment as a derivative certain contracts, dependent on conditions (listed in CTA09/S591) and their subject matter. One such (CTA09/S591(2)) is a simple derivative contract held by a life company, which is not a hybrid, is approved by the Financial Services Authority (INSPRU 3.2.5) or under equivalent EEA rules, and whose underlying assets comprise shares or units in a unit trust, provided these are not guaranteed return shares or shares in an OEIC that fails to meet the qualifying investments test.

Embedded derivatives treated as meeting condition in CTA09/S591 etc

CTA09/S592 identifies cases where an embedded derivative (which itself is treated under accounting standards as such) is to be treated as meeting the CTA09/S591 conditions. It applies where there is a ‘hybrid derivative’ (CTA09/S584) which, due to the size of the initial outlay, is not treated as a derivative but as a financial asset or liability, with the host contract also treated as a financial asset. The underlying subject matter must be shares or units in a unit trust, as above. It is aimed particularly at prepaid equity forwards of the type discussed in the Special Commissioners case of HSBC Life (UK) Ltd v Stubbs (SpC295).

Before CTA, the embedded derivative was treated as meeting the life company condition (A of CTA09/S591) because it is expected to apply primarily to life companies. The rule is now not specific but simply deems the CTA09/S591 conditions to be satisfied. The effect is to treat the embedded derivative as a chargeable asset and the host contract as a creditor relationship.

Further guidance

Further information is available in the Life Assurance Manual (LAM), the General Insurance Manual (GIM) and the Lloyd’s Manual (LLM).