Non-resident insurers: scope of UK taxing rights: section 11 ICTA & Article 7 OECD Model: attribution of the investment return: significance of solvency margin
ICTA88/S11 and Article 7(2) of the OECD Model suggest that an amount of investment yield on assets over and above the minimum solvency margin (see GIM10150) should be attributed to a UK branch/permanent establishment. The yield on investment assets is within section 11, as trading income or profits. Circumstances where additional attribution may be needed include:
- where the business is customarily lightly funded, reliance being placed on the company-wide assets to give the market confidence
- where the transfer back to Head Office (and therefore outside the UK) of premium income and other cashflow exceeds what at arm’s length it would have been prudent for the establishment - considered as a separate entity - to distribute
- where deployment in the UK of low yielding assets is not appropriate to the nature of the business, thus reducing investment income
- where decisions not to realise assets held for the UK establishment while realising assets outside appears inappropriate to the split of business.For enterprises such as banks the question is whether, comparing liabilities which bear interest and equity capital which does not, what proportion of each would a stand-alone enterprise hold. If the amount of interest bearing capital is higher than would be held at arm’s length, the costs associated with that loan capital are disallowed as representing a return on equity.
For an insurer, the question is different. An insurer does not rely on loan capital. Its liabilities largely comprise technical provisions – often referred to as reserves – additions to which are deductible trading expenses. An insurer’s equivalent to equity capital is represented by the excess of its assets over liabilities – GIM10123. This excess consists of regulatory capital – the minimum solvency margin etc, and other economic capital – as required by both the regulator and exposure to the market. See General Reinsurance Co. Ltd v Tomlinson 48TC81, where it is stated, on the separate enterprise/arm’s length hypothesis required by the OECD Model, that
“…it would be necessary for [the non-resident company] to have a portfolio of investments in order to carry on its business.’’
A successful insurer will strike the best balance between maintaining the capital necessary to sustain market confidence and to satisfy the regulator, and keeping capital service costs down.