Establishing a captive insurer – IPT compliance considerations

Compliance is a key priority in the establishment of any company. Although insurance premium tax (IPT), and other indirect taxes applicable to insurance contracts or premiums, are only one of the multiple compliance considerations, an understanding of the captive’s obligations and responsibilities at set up will be fundamental to business planning and in determining underwriting strategy.

When and where is IPT due?

The captive’s IPT obligations can, in the main, be ascertained by three variables, which in turn will then drive the processes and requirements to ensure compliance both at the outset and on an ongoing basis:

Location of risk

The jurisdictions in which insured risks will be covered is typically key in defining where IPT liabilities for reporting and settlement arise. A captive intent on insuring only the domestic operations of its parent will most likely only need to be concerned with a single IPT regime. However, where the policy covers risks in more than one territory on a cross border basis, the requirements of each jurisdiction in turn will need to be considered. IPT compliance obligations vary significantly between countries, even where those multiple countries are within one region, such as the EU/EEA.

Insurance product

The type of risk insured is equally important in ascertaining compliance requirements. For example, a European-based captive writing a property programme covering risks in Austria, Belgium, Finland, Luxembourg and UK could be subject to ten separate taxes, whereas an export credit programme in the same countries could potentially only incur one.

Programme structure

How the programme is going to be structured is also important in identifying where the captive will have future IPT liabilities, and in some cases where the responsibility for filing insurance premium related taxes may fall to the local policyholder or insured business entity.

An EU/EEA-based direct writing captive insurer will be liable for reporting and settling any IPT and parafiscals for business underwritten on a direct Freedom of Services (FoS) basis, subject to having obtained its passporting rights. Conversely, for reinsurance captives, many responsibilities will fall to the fronting insurer.

Direct writing captives writing non-admitted business across borders, especially outside of the EU/EEA, may find local laws dictate that premium tax responsibilities fall to the local policyholder, insured, or even a local broker, and in some situations a formal tax representative may be required to support the filing and settlement process.

Having considered risk location, coverage and programme structures, the captive can identify the premium taxes and parafiscal charges in scope across territories in scope, as well as determine which tax authorities will require the captive register as a taxpayer. The bureaucracy in attaining the relevant local tax IDs should not be underestimated. The inconsistency in types and rates of taxes applicable in different jurisdictions, and the levels of information and administration required by the various tax authorities to process a registration are all equally complex and can differ considerably.

Unlike VAT, there tends to be no registration thresholds for premium taxes, resulting in potentially very small amounts of tax demanding a registration and settlement, so it is important that registration occurs in all territories where risks will be insured by the captive, regardless of the size of premiums and consequential taxes due.

At set-up, the captive will work closely with its home state regulator on many issues, including their assistance in obtaining insurance authorisations for those territories where they are able to write cross-border business on a direct basis. Even within the EU/EEA, passporting insurers must be approved by the local regulator before any FoS business is underwritten. These authorisations are facilitated by the home state regulator of the insurer, and it is important in this process that the captive is aware of any key authorisation dates in each territory to enable compliant business planning.

Once licensed by the relevant regulatory authorities, there are often pre-defined timeframes as to when the captive must either register to settle IPT in local territories or appoint a fiscal agent/representative.

For example, in Spain, the tax regulator provides a fixed window for an insurer to register with both the IPT authorities and the Consorcio de Compensación de Seguros following authorisation. In comparison, HMRC in the UK require an application for a tax ID to file and settle IPT within 30 days of forming the intention of receiving premiums.

The registration process itself varies in both bureaucracy and timeframes. In the UK, a formal letter to HMRC generates a tax identification number within a couple of weeks. In other territories, documentation requirements are more onerous, with notarisation and apostilling of signed documents and certified copies of supporting documentation being a pre-requisite. In Hungary, copies of directors’ passports are additionally required.

Timeframes for obtaining a tax ID in the more bureaucratic territories can take several weeks, so these need to be factored into planning to ensure they are in place before liabilities fall due. Although some territories accept electronic signatures and soft copy documents, others required hard copies and wet signatures, and therefore additional time needs to be factored into the registration process for couriering documents cross border and sometimes in person appointments with the local tax authority by a local representative or agent to finalise the process.

In some territories and scenarios, where the policyholder takes responsibility for settlement of charges, it is key to consider any requirements to register with the various authorities. It would be in the direct writing captive’s interest to ensure the policyholder is fully cognisant of their obligations and responsibilities in this area.

The premium transaction could create an increased liability for a tax the policyholder already manages such as GST, VAT or withholding tax. A cross border premium payment for insurance may simply be treated by the local entity as any other payment for services delivered by a non-resident supplier.

Alternatively, the policyholder or local insured entity may have completely new tax obligations that they have never had to deal with before, self-procurement taxes in the USA being a prime example. These are taxes that are only ever due on non-admitted insurance, and the policyholder will need to register for and declare at state level, though identification of the Home State for the purpose of filing self-procurement taxes may reduce the administrative burden of registering to pay multi-state taxes in the US.

Ongoing compliance obligations

Once registrations are in place, IPT compliance is an on-going obligation requiring constant attention. Establishing the right processes and controls as well as maintaining knowledge should be addressed from the outset.

This captive will need to decide on how they want to conduct their relationship with the tax authorities. In some jurisdictions this will be dictated to them – the mandatory appointment of a tax representative or requirement for a local insured entity to file taxes cannot always be avoided – but in some jurisdictions the captive may have a degree of flexibility, being able to choose whether to appoint a tax agent, or deal with the tax authorities direct.

The obvious benefit of outsourcing is access to the global and local tax expertise of the provider, but this comes at a cost. In some territories where low premium volumes apply, this compliance cost could prove to be higher than the tax itself. For example, a €1m premium allocated to Poland may only generate a €300 tax bill, but trying to navigate the registration and declaration process can be a minefield without local knowledge and language. The Cypriot Stamp Duty regime will require the appointment of a local tax representative, even though the tax is only €2 per policy, regardless of the size of premium.

As well as the obligation for filing premium taxes falling to both the captive and local policyholder, the calculation and invoicing equally is the responsibility of the captive. Support from other parties will assist – brokers, captive managers, fronting partners and other third-party service providers are likely to be involved in premium and risk allocations – but in most cases, the captive is ultimately responsible to the tax authorities for reporting and settling its liabilities.

During the pricing and premium allocation process, the relevant IPT rates should be identified, calculated and applied accordingly. With well over 100 different tax and parafiscal charge regimes across the EEA alone, this requires both expertise and local technical knowledge. Changes in local rates and regulations also need to be monitored to be subsequently and accurately applied to the captive’s insurance programme.

Once the captive’s insurance programme is bound and premiums have been invoiced, robust processes will need to be established to track the contract and premium collection in line with the relevant tax points per jurisdiction, which in turn trigger local reporting and settling requirements. Taxes on insurance most commonly need to be reported monthly, but the trigger to account for the tax, i.e. the tax point, varies.

Taxes may need to be accounted for at policy inception, on invoice issuance, on the booking of the premium or upon premium payment. In practice, all these triggers may not fall within the same calendar month, creating the need to make multiple declarations over several months, which can then be further complicated should there be any mid-term premium adjustments.

The simplicity of only a handful of premiums and policies per year, a trait attributable to many captives, differs hugely to the IPT filing characteristics for a global insurer writing hundreds of policies a year, or domestic personal lines insurers issuing thousands of policies a month. However, captives lack the large tax departments and resources available to their larger counterparts, and so the controls and process need to be carefully designed to deal with this.

There should be clear designation of responsibility for IPT within the captive. Processes need to be clearly documented, regardless of whether the numerous tasks associated with IPT will be completed by a mixture of the broker, captive manager, and/or third-party tax service providers. Robust processes and the clear documentation of these processes can not only ensure that the highest level of compliance is achieved on an ongoing basis but can prove useful in the event of a tax office audit, demonstrating the appropriate level of due care.

With responsibility as both an insurer for the tax liabilities where due, as well as a group company of the policyholders, the captive has a wider interest in tax compliance than insurers writing third-party business. Strong partnerships with industry brokers, fronting partners and captive managers as well as third-party specialists can support the captive in ensuring adequate and documented processes for IPT compliance.

Contributed by Joseph Finbow, IPT assurance director, TMF Group, and Karen Jenner, head of tax services, BII, TMF Group