ATO Interpretative Decision
ATO ID 2004/930
Income Tax
Portfolio transfer of general insurance liabilities: receipt of refund of exchange commissions in respect of cancelled reinsurance contractFOI status: may be released
This ATOID provides you with the following level of protection:
If you reasonably apply this decision in good faith to your own circumstances (which are not materially different from those described in the decision), and the decision is later found to be incorrect you will not be liable to pay any penalty or interest. However, you will be required to pay any underpaid tax (or repay any over-claimed credit, grant or benefit), provided the time limits under the law allow it. If you do intend to apply this decision to your own circumstances, you will need to ensure that the relevant provisions referred to in the decision have not been amended or repealed. You may wish to obtain further advice from the Tax Office or from a professional adviser.
Issue
Is the amount of consideration received by a general insurance company from another general insurance company in respect of exchange commissions relating to a reinsurance contract that is cancelled because of a portfolio transfer assessable under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?
Decision
Yes. The amount of consideration received by a general reinsurance company from another general reinsurance company in respect of exchange commissions relating to a reinsurance contract that is cancelled because of a portfolio transfer is assessable under section 6-5 of the ITAA 1997.
Facts
The taxpayer is a general insurance company for the purposes of section 995-1 of the ITAA 1997 and the Insurance Act 1973.
The taxpayer has a reinsurance contract with another general insurance company (the reinsured). The purpose of the reinsurance contract is to reduce the reinsured's exposure to claims and to be indemnified against some part of the claims.
The taxpayer previously paid the reinsured exchange commissions under the reinsurance contract. The exchange commissions were paid by the taxpayer to the reinsured in recognition of the costs that the reinsured had incurred in relation to the reinsurance that was retroceded to the taxpayer. The exchange commission formed a part of the taxpayer's deferred acquisition cost, which is an asset recorded in its accounts.
The taxpayer entered into a portfolio transfer arrangement with the reinsured whereby the whole of the reinsured's insurance liabilities are to be assumed. Under the arrangement the reinsurance contract between the taxpayer and the reinsured will cease to have effect and exchange commissions relating to the unexpired portion of the premium are to be refunded to the taxpayer.
Reasons for Decision
Section 6-5 of the ITAA 1997 states that 'your assessable income includes income according to ordinary concepts'. The characterisation of the consideration received by the taxpayer will determine whether the amount is assessable income under this section.
In H R Sinclair and Son Pty Ltd v. Federal Commissioner of Taxation (1966) 114 CLR 537; (1966) 14 ATD 194; (1966) 10 AITR 3, the High Court considered whether the refund of royalties paid to the Forest Commission of Victoria should be taken into account in ascertaining the proceeds of the business in the year the refund was received. In determining the refund was assessable, Owen J said:
The company's business was that of a saw-mill. It was in that capacity that it paid royalties for timber cut by it for the purpose of its business and it was in that capacity that it received that amount refunded.
Similarly in Warner Music Australia Pty Limited v. Federal Commissioner of Taxation (1996) FCR 197; 96 ATC 5046; (1996) 34 ATR 171 (Warner Music) the taxpayer was refunded sales tax. The Federal Court held that for a reimbursement or refund to be assessable, two requirements must be satisfied:
The first involves the question of whether the amount released involved a gain to Warner so as to constitute a profit. The second is whether this profit or gain was on revenue account.
In relation to the first requirement, the refund of the exchange commissions is clearly a gain to the taxpayer.
In relation to the second requirement, the characterisation of a receipt is determined by examining the receipt in the hands of the recipient. In Warner Music, Hill J stated that for a reimbursement to be assessable it must be in respect of an expenditure that is 'intimately connected' with the business. Since the reimbursement is received as an incident of the taxpayer's business of providing general reinsurance and satisfying some of that reinsurance liability, the reimbursement of the exchange commissions is 'intimately connected' to the taxpayer's ordinary business and is of a revenue nature.
Accordingly, the amount of consideration received by the taxpayer, in respect of exchange commissions relating to a reinsurance contract that is cancelled under a portfolio transfer, is assessable under section 6-5 of the ITAA 1997.
Date of decision: 1 November 2004Year of income: Year ended 30 June 2004
Legislative References:
Income Tax Assessment Act 1997
section 6-5
section 995-1
the Act
Case References:
H. R. Sinclair & Son Pty. Ltd. v. Federal Commissioner of Taxation
(1966) 114 CLR 537
(1966) 14 ATD 194
(1966) 10 AITR 3
(1996) 70 FCR 197
96 ATC 5046
34 ATR 171 Related ATO Interpretative Decisions
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Keywords
General insurance
General insurance industry
Reinsurance & reinsurers
ISSN: 1445-2782