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HMRC internal manual

General Insurance Manual

HM Revenue & Customs
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Captive insurers: warranties, creditor business and service agreements: FA 2003

High street retailers have often made use of captive insurers, fronted by UK insurers, to insure the risks of extended warranties to customers who purchase such items as electrical goods. Typically the policy is written directly with a fronting insurer who then reinsures to the retailer’s captive. A development of the warranty scheme is for the retailer to sell a service agreement between the fronting company and the customer, which covers the same risks as the insurance. The agreements are then insured by the service company with the retailer’s captive. Similar schemes were also set up by banks providing credit card protection business. This latter type of insurance may include an element of long term protection business which is not discussed here, although it is also subject to the new legislation mentioned below.

In such cases the retailer acts as ‘agent’ for the insurer/service company in selling the policy/agreement and carries out most of the activity undertaken under the scheme. The insurance policy or service agreement is, however, with the customer and therefore with a third party, so the transaction of insurance is not between connected persons. Such arrangements have in the past been successfully challenged on transfer pricing grounds - see the Special Commissioners’ decision in DSG Retail Ltd v HMRC Commissioners 2009TC00001. However, the controlled foreign companies legislation would not apply. The captive would pass the exempt activities test, as the policies were not obtained from connected persons -ICTA88/SCH25/PARA6 (2)(b).

FA03/S200 and FA03/SCH42 amended the exempt activities test in Schedule 25 to ensure that captives of this sort could no longer obtain automatic exemption from the CFC legislation. Part 2 of Schedule 25 was amended so that a company engaged in wholesale, distributive, financial or service business is only engaged in ‘exempt activities’ where less than 50% of its turnover is derived from persons, among others, who are individuals habitually resident in the UK (paragraph 6(2A)(f)). There is a let out for insurers who effect or carry out contracts of long-term business, other than protection business, or who insure or reinsure large risks. Further guidance on the application of this legislation to insurers can be found at INTM205110.