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HMRC internal manual

International Manual

From
HM Revenue & Customs
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Controlled Foreign Companies: The CFC charge gateway chapter 7 - captive Insurance Business: contracts of insurance falling within TIOPA10/S371GA(2)

For the purposes of Chapter 7 the term “contract of insurance” (see INTM248100) within TIOPA10/S371GA(2) includes both “contracts of insurance” and “contracts of reinsurance”.

TIOPA10/S371GA(2) captures profits derived from two categories of insurance contracts. These are insurance contracts that the CFC (directly or indirectly) enters into with:

  • a connected UK company (or UK PE of connected non-UK resident company), and
  • a UK resident person.

Insurance contracts between a captive insurance CFC and connected UK resident company, or UK PE of a connected non-resident company

TIOPA10/S371GA(2)(a) captures the profits arising from a CFC’s insurance activity to the extent they are (directly or indirectly) derived from a contract of insurance for which the insured party is either:

  • a connected UK resident company or
  • a UK permanent establishment of a non-UK resident company that is connected with the CFC.

TIOPA10/S371GA(2)(a) includes profits indirectly derived from contracts of insurance, including cases where the CFC is the reinsurer of a contract falling within its terms. However, its scope is limited by TIOPA10/S371GA(5) (see INTM210700) in the case where the insurance contract mentioned in TIOPA10/S371GA(2)(a) is a reinsurance contract.

An example of an arrangement that falls within s371GA(2)(a) indirectly is an insurance “fronting arrangement”.

Example - Fronting arrangement

A fronting arrangement involves the use of a third party insurer. In a simple example, this unconnected party will facilitate the insurance (in return for a fee) to the CFC in order to break the direct connection. It would firstly insure and then secondly reinsure the original group risk to the CFC. This fronting arrangement results in the CFC directly deriving its profits from a contract of insurance with an unconnected company i.e. the direct connection is broken by the use of an intermediary.

Use this link to view a diagram of a fronting arrangement

The profits are however indirectly derived from an insurance contract entered into by the third party fronting company with a connected UK resident company and so fall within s371GA(2)(a).

It is common in multinational groups for a head office or holding company to enter into an umbrella type contract of insurance on behalf of the entire, or part of its, group. On payment of the premium, it may then recharge the appropriate amounts of this premium to the subsidiaries whom are insured parties under the contract.

The subsidiaries in the above arrangement (as named insured parties) are in essence policyholders under this umbrella contract and the arrangement in effect represents a series of insurance contracts between each subsidiary within the arrangement and the insurer. The holding company acts on behalf of these insured parties. The head office or holding company’s payment to the insurer can be viewed as a series of premiums for these contracts and only so much of it that relates to insurance contracts with the stipulated UK entities should be taken into account when determining the correct profit allocation arising from UK and non-UK premiums. Where such an umbrella type arrangement is stated to exist, it will be important to verify this by reviewing the terms of that contract.

Insurance contracts between a captive insurance CFC and UK resident persons

TIOPA10/S371GA(2)(b) covers circumstances whereby the insurance activity of a captive insurance CFC derives profits directly or indirectly from a contract of insurance entered into with a UK resident person. This applies, whether or not the UK resident insured person is connected with the CFC, if the contract of insurance is linked directly (or indirectly) to the provision of “goods” or “services” to that person by a UK resident company connected to the CFC.

TIOPA10/S371GA(3) defines “services” and “UK connected company” for the purposes of TIOPA10/S371GA(2)(b).

In this context “services” excludes services provided as part of an insurance business. This therefore excludes profits derived from contracts of insurance that are linked to the provision of insurance business provided by a connected UK resident company, in particular it excludes the reinsurance of such business.

“UK connected company” includes either a UK resident company connected with the CFC, or a UK permanent establishment of a connected non-UK resident company.

TIOPA10/S371GA(2)(b) targets situations where the insurance contract is linked to the main provision of goods or services to UK resident persons. The provision of insurance linked to such transactions raises issues in relation to the pricing split of each element, and has led to a significant amount of avoidance activity. The link between the provision of goods or services and the provision of insurance for those goods or services, highlights the insurances’ link to UK activity. As the CFC regime is part of the wider UK corporate tax system which has moved to a more territorial focus (i.e. it focuses on the diversion of profits arising from UK activity), such arrangements expose the Exchequer to a risk of tax loss and are therefore specifically targeted by Chapter 7.

Example

Company A is a retail distributor of electrical goods. It offers optional insurance for its goods at the point of sale to its UK customers. Company A may structure the arrangements in a number of ways including the following:

directly from a contract of insurance with a UK resident person, and

the contract of insurance being linked to the provision of goods (Company A’s retail goods) to that UK resident person by a UK resident company connected to the CFC (Company A).

  • Company A enters into a contract of insurance with the UK resident customer, before reinsuring the risk to its captive insurance CFC (1).
  • The UK resident customer insures directly with Company A’s captive insurance CFC (2).

Use this link to view a diagram showing the example described above

Where the retailer chooses to structure the arrangement in line with (1), the insurance contract will be caught within TIOPA10/S371GA(2)(a), as profits are directly derived from a contract of insurance (being the reinsurance contract) with a connected UK resident company.

In contrast, were the retailer to structure the arrangement as set out in (2), in order to bypass TIOPA10/S371GA(2)(a), it will be caught within TIOPA10/S371GA(2)(b). This is due to the CFC deriving profits:

Company A may choose more complicated arrangements such as the use of an unconnected third party insurer to facilitate either the insurance or reinsurance of the above transactions. For the same reasons set out within the guidance on fronting arrangements, we would consider those profits to be indirectly derived from a contract of insurance and therefore within the scope of Chapter 7.