Page 1128 - SAIT Compendium 2016 Volume2

EXPLANATORY MEMORANDUM ON THE TAXATION LAWS AMENDMENT BILL, 2015
I. Background
Section 28(3)(a) allows a deduction for reserves calculated in terms of section 32(1)(a) of the Short-term Insurance Act in respect of outstanding claims reserve (OCR) and claims incurred but not yet reported (IBNR). Section 28(3)(b) allows a deduction for reserves in respect of unearned premium provisions (UPP) calculated in accordance with section 32(1) (b) of the Short-term Insurance Act and contains a provision that the reserve for a cash back bonus must be based on the regulatory regime for short-term insurance.
Controlled foreign companies (CFCs) engaged in offshore short-term insurance can deduct reserves related to the carrying on of a short-term insurance business outside South Africa. The nature of these deductions is similar to the deductions available for local insurers. In order for a CFC to get this deduction, the amounts must be required by the short-term insurance law of the country in which the CFC is subject to tax by virtue of residence, domicile or place of effective management. In addition, these amounts must be consistent with the liabilities under section 32 of the Short- Term Insurance Act as if incurred in South Africa.
II. Reasons for change
A. Introduction of SAM
The Financial Services Board will introduce the Solvency Assessment and Management (‘SAM’) framework in 2016, which will replace the regulatory regime for short-term insurers and long- term insurers. SAM is a risk-based supervisory framework, with the primary objective of improving policyholder protection and contributing to nancial stability. The SAM framework requires the insurer to invest in a manner that is appropriate to the nature of its liabilities and make provision for certain reserves to be kept. The SAM framework however recognises all future income on a policy upfront and is therefore not suitable as a basis for calculating tax where the Act only includes gross income when it is received by or accrued to a taxpayer. In addition, the concept of IBNR will no longer exist under the SAM regime as future reported claims are captured within the expected future claims cash ows.
B. New Insurance Act
In 2016 a new Insurance Act will also be promulgated and will replace certain sections of the Short-term Insurance Act and the Long-term Insurance Act. The introduction of the new Insurance Act will therefore repeal the current provisions of section 32(1) of the Short-term Insurance Act, which currently regulate deductions that are allowed under section 28(3) of the Act.
C. IFRS 4
Currently, most countries that apply Solvency II which is equivalent to SAM use either IFRS or their country’s accounting standards as the basis for determining the tax liability.
III. Proposal
A. Deductions in terms of new section 28(3)
It is proposed that amendments should be made to section 28(3) so that a short-term insurer may claim deductions in terms of the new section 28(3) of the Income Tax Act, that were recognised as liabilities for purposes of IFRS relating to: 1. claims (meaning claims reported but not yet paid (OCR)and claims incurred but not reported (IBNR)
2. premium;
Due to the proposed treatment of cash-back bonus going forward (see below), the term ‘unearned premium’ will be changed to ‘premium’. Deductions that will be allowed relating to (a) OCR and (b) IBNR will be the net amount after the short-term insurer had reduced the amount recognised in accordance with IFRS in respect of amounts recoverable under policies of reinsurance and further reduced by deferred acquisition cost.
B. Treatment of cash-back bonus
A premium provision, known as cash-back bonus which was included as unearned premium provisions for regulatory purposes under Board Notice 169 of 2011 will be allowed as a deduction as part of the amounts recognised as liabilities relating to ‘premium’, as premium already include cash-back bonus. The deletion of the word ‘unearned’ in the term ‘unearned premium’ will remove any uncertainty as to whether cash-back bonus can be claimed or not.
C. Treatment of amounts received from the owner of a cell in a cell captive insurance
In the case of third party cell captive arrangements, it could also be argued that the cell owner is merely recapitalising the cell as it would have recapitalised any of its business operations when the operations were making losses. As a result, this is not necessary a reinsurance. Therefore, it is proposed that all amounts treated as reinsurance for IFRS and which relates to amounts receivable from the cell owner must be disregarded.
D. CFC conducting short-term insurance business outside the Republic
It is proposed to delete subsections 7 to 11 of section 28 as they are now irrelevant. These provisions were intended to effect equity between local short-term insurer and offshore short term insurer using section 32 of the Short-Term Insurance Act as a basis. With the coming into effect of SAM, section 32 of the Short Term Insurance Act will no longer be applicable. It is therefore proposed that a resident who holds a qualifying participation in a CFC needs to determine the CFC’s net income for the purposes of proportional inclusion in their own income (section 9D(2) read with section 9D(2A)). This entails performing a full South African taxable income calculation. Therefore, CFC conducting short-term insurance business outside the Republic will be treated as a resident for purposes of determining the CFC’s net income.
1120 SAIT CompendIum oF TAx LegISLATIon VoLume 2