Consultation on Changes to the VAT Exemption For Insurance-Related Services
10th October 2005
The British Insurance Brokers Association (BIBA) represents the interests of 2300 insurance brokers and intermediary businesses ranging from Lloyd’s brokers and the major international brokers to small regional firms. BIBA members handle some 50% of the general insurance premiums placed in the UK market and more than 75% of business transacted by insurance intermediaries. Our members are responsible for generating the vast majority of insurance brokers invisible earnings, amounting to over £2bn in 2004.
In response to the Consultation document “Consultation on Changes to the VAT Exemption for Insurance-Related Services” (“ConDoc”), dated July 2005, we have set out our comments below. As brokers we would expect many of the transactions we undertake to still fall within the insurance VAT exemption. However given the wording and interpretations in the ConDoc we have a number questions and concerns. Our members are particularly concerned that the ConDoc may not be flexible enough to take account of the changes currently taking place to our market practices which have resulted from new regulatory guidelines.
HOW THE JUDGMENT WILL BE IMPLEMENTED IN THE UK
Question 1: Do you agree with our interpretation of the Andersen judgment? If not, please explain why you disagree and provide an alternative interpretation where appropriate.
We believe that HM Revenue & Customs (“HMRC”) may be interpreting the recent Arthur Andersen European Court of Justice case (C-472/03) out of context and therefore seeking to apply additional constraints to the scope of the exemption available under Article 13B(a) of the EC Sixth Directive than intended by the ECJ . For example, though it was unnecessary for the point to be referred to in the final judgement of the CPP Case (C-349/96), we note that the Advocate General made significant comments on the term “related services provided by insurance brokers and agents” in paragraphs 28-33 of his Opinion. In those comments he indicated that you need only look at the “usual business” to determine whether a provider is a broker/agent or not. As we are not aware that this view has been distinguished in later European opinions or judgements, we ask “Is HMRC correct to be looking at whether a provider’s status should be determined on each individual supply the provider makes?”, with reference to paragraph 2.14 of the ConDoc.
Our members specific concerns on the interpretation outlined in paragraphs 2.10 – 2.15 of the ConDoc are as follows:
Paragraph 2.11 – Independence and profitability
We regard this paragraph as fundamental to the consultation and the implementation of the decision, setting out as it does HMRC’s opinion as to the essential two tests for exemption.
With regard to the second limb (i.e. bullet point) of this test, our view is that carrying out an act of intermediation and negotiating terms was never held by the ECJ to be an “essential aspect” of the work of an insurance agent. In particular, we draw your attention to paragraph 36 of the judgement. Too much emphasis is given to the reference made to the CSC Financial Services ECJ case cited at paragraph 38 of the decision. This is inappropriate as there is no mention of negotiation in Article 13B(a) of the EC Sixth Directive or in the Andersen decision itself. This case was in fact referred to as an analogy in the summing up. Our conclusion is that HMRC is taking the reference to this decision by the Court out of context. As a consequence, we believe the HMRC’s interpretation of the decision is too narrow, which has the effect of restricting the exemption for insurance related services well beyond the bounds envisaged by the ECJ.
If HMRC insists on retaining this part of the test, we would query the wording of the section within brackets as this appears to suggest that exemption depends upon “independent status (for example, negotiating the terms and conditions of an insurance contract without having any interest of their own in its terms).”
Firstly, some policy renewals by intermediaries could involve minimal negotiation but our view, is that exemption applies. We understand that HMRC may harbour some concerns over the degree of proactivity involved in procuring renewal business but we believe that this is irrelevant. We believe there is no doubt that renewed business satisfies the “finding and introducing” part of the test. Some renewal business will involve significant work on the review of alternative insurers whereas some will involve less work. This will depend on the exact commercial position and the knowledge the broker has of the market. It would be quite wrong and impractical for HMRC to accept that an initial placing is exempt but subsequent renewals can only be exempt if some sort of arbitrary additional test is added. This illustrates why the requirement to negotiate terms cannot be a requirement for exemption to apply to an insurance broker / agent. At the time of expiry of any existing insurance contract, although the broker is known to the insured, the latter is in fact free to appoint any broker to provide services. The incumbent broker must again re-offer its services and if re-appointed will then, in satisfying his obligations to act in the best interests of the insured, review alternative opportunities available in the market to procure insurance protection for that client. Whilst it may be in the best interests of that insured to renew his existing relationship with the same insurer the broker will effectively have repeated the same finding and introducing process that he had undertaken in the previous year or prior. Therefore in terms of the brokers responsibilities a “renewal” is in fact the same process as required for a “new” client. Consequently, could HMRC give the necessary assurance that insurance brokerage “renewal” business will be exempt.
Secondly, there are instances where a broker or agent has a pecuniary interest in the performance of an underwriting facility (such as a binding authority), while having no interest in the contract of insurance itself, and hence our view is that exemption applies.
a broker may have negotiated a binding authority with one or more insurers and part of the brokers’ remuneration could be in the form of a profit commission, payable if the binding authority achieves a certain level of profitability.
Accordingly, we should be grateful for confirmation that our understanding on these matters is correct and suggest that the uncertainty would be removed by amending the wording of the guidance section within brackets in the second bullet point to: “independent status (for example, arranging or renewing an insurance contract or negotiating the terms and conditions of an insurance contract).”
Lastly, the tests set out at paragraph 2.11 suggest that failed leads will not result in exemption and hence the guidance needs to be clear that the VAT treatment of the intended supply will prevail. This could possibly be corrected by amending the first sentence of paragraph 2.11 to:”….a provider will need to be supplying services that either include or are intended to include the essential elements, which are:”.
Paragraph 2.12 – Single supply
We note from this paragraph of the ConDoc that it is proposed that where a provider meets the criteria for qualifying as an insurance broker/agent and as part of a single supply also goes on to administer the policies they have arranged and handle claims made under them, the whole supply will fall within the VAT exemption. Our prime concern lies with the use of the phrase “as part of a single supply”.
We are of the opinion that this additional test is not required for the proper implementation of any part of the Andersen judgement and, as such, we seek further understanding as to why HMRC feel that this is necessary. The decision itself suggests that the “essential aspects” must be present in the intermediary’s supply of services for the exemption to apply, but it does not state at any point that they must predominate. This would reduce the exemption for related services to pure introduction, which would be contrary to the legislature’s intention.
However, if HMRC insist that this remains an `Andersen’ requirement, then we would like confirmation that our understanding of how the test will be applied to the following situations is correct:
- Policy administration will remain exempt provided that the broker / agent who arranged the insurance policy provides the administration, irrespective of whether the administration is charged on different invoices and / or provided under a different contract.
- Policy administration will remain exempt when carried out by a different legal entity to the legal entity that arranged the insurance policy provided that they are both in the same VAT grouping.
- The supplies of related services (e.g. assisting with policy wordings, issuing certificates of insurance, and assisting in the negotiation of claims) made to the insurer will remain exempt, irrespective of the fact that the services of the broker / agent are provided to the insured. This applies provided that the entity that provides the related services to the insurer is either the same entity that provides the insurance-related services to the insured or is an entity in the same VAT grouping as the latter entity.
HMRC will be aware that insurance brokers often acquire books of brokerage business from other intermediaries or insurance groups, the value in such acquisitions lying in the anticipated renewals. There are two issues to consider, being the VAT treatment of the supplies by the old broker and the VAT treatment of supplies by the new broker.
Firstly, our view is that where the old (i.e. selling) broker continues to receive commission or fees for insurance policies placed by the new broker then the commission or fees should remain exempt in a post Andersen environment provided that the old broker met the “finding and introducing” requirement with respect to those customers in the past (this is consistent with the guidance at paragraph 2.13 concerning chains of brokers).
Secondly, where the new insurance broker has acquired new clients mid-term, with the intention being to receive brokerage on renewal of the insurance policies, any administration for historic policies will be carried as a necessary step to acquisition, rather than as an end in itself. The acquiring insurance broker will not have been the intermediary bringing together insurer and insured at the time of the business taken on being placed, nor even (probably) an intermediary in the transaction chain. Of course, when the business is renewed (and this will come at a range of times depending on the individual policy), the acquiring broker will meet that test. It would be helpful to have confirmation of our view that in acquiring the business, the acquirer is still regarded as falling within the insurance exemption on the basis they are providing intermediary services so that any historic claims dealt with by the new broker are incidental to the predominant supply (or predominant prospective supply) of exempt brokerage, even if the new broker succeeds in negotiating a specific fee to deal with the historic claims / administration.
We believe this approach could be assisted by the use of a general “purpose” easement. If in making an acquisition, the commercial value for the purchaser lies in the anticipated renewal commissions, then the VAT consequences of this prospective income stream should take precedence over any subordinate or incidental services (such as dealing with historic claims) that the purchaser may find themselves performing as “part and parcel” of taking on that book of business. This would avoid any VAT-driven complications around servicing existing business versus prospective business.
Paragraph 2.13 – Chains of brokers
HMRC have acknowledged the workings of the London insurance market and appreciate that it is common practice in significant commercial insurance arrangements for a chain of brokers to be involved, so that no one intermediary in the chain can have contact with both the insurer and insured; each broker is instrumental in bringing the parties together. Some clarification of the proposal would be helpful, both generally and on specific points, as follows:
The ConDoc states: “Exemption will still apply … where the provider sub contracts the introductory service to a sub-agent, so that there is a direct contractual link between the principal agent and the agent that has the direct contact with the prospective customer.” This could be interpreted as suggesting that a chain of only two intermediaries is possible; were there three intermediaries, there would not be a direct link between the two parties referred to. It may also cause uncertainty where a broker arranges insurance contracts under delegated authority for another broker, because it is not clear what is meant by “principal agent”. Given the nature of the situation covered in this paragraph, references to a ‘direct’ link are misleading and accordingly we should like the guidance to confirm that exemption applies to longer chains of brokers and to delegated authorities.
- The second point on this paragraph is the definition of ‘contractual’ – you will be aware that dealings by brokers in the London market are not always fully documented as far as written contracts are concerned. This is not to say that the parties are not contractually bound – the market depends upon the good faith of the parties involved, but contracts are often verbal and supported by only circumstantial documentation. There is also the issue of intra-group intermediary chain links (some of which may be cross-border), which also may not be covered by written contracts. We would be grateful for HMRC’s acknowledgement of this, and confirmation that non-written contracts will be satisfactory for this purpose.
- The third point is that there will be intermediaries in the London market whose participation is both necessary and commercially commonplace, but who will not have contact with the insured and whose role may not extend to bringing together the parties. A particular example would be in relation to a Lloyd’s broker, whose principal role is to arrange an underwriting authority and the remainder of the placement work is carried out by another (non Lloyd’s) broker. It will be appreciated that their primary role is to arrange for the insurance to be effected, and we should appreciate confirmation that the services of the Lloyd’s broker will remain exempt.
Para 2.14 of the ConDoc states “it will not follow that because a provider qualifies as an insurance…broker in respect of services performed under one or more contracts, they will qualify in respect of all services performed”. We are assuming that any claims handling services provided by brokers to insureds as an inherent part of the broking service will continue to be exempt post the implementation date. Confirmation of this assumption would be welcome. Furthermore, we should appreciate confirmation that claims handling services or similar “related” services provided by a single entity in connection with “placed” business will continue to be exempt post implementation irrespective of the contracting arrangements, or client counterparty (i.e. insured or insurer).
CHANGES TO UK LAW
Question 2:. Do you have any comments on the proposed changes to UK law?
We note that the proposed UK law imports the now superseded terms of “broker” and “agent” which appeared in the previous Insurance Mediation Directive (77/92/EC). Instead the term “mediation” is now used. In light of this, would it not be more appropriate for item 2 of Group 2 to be worded as “the provision of related services of insurance mediation”? It seems anomalous to be referring to outdated definitions in the new law.
Question 3: Do you have any comments on the substance of the draft guidance on changes to the VAT liability in the UK of certain insurance-related services, following the Andersen decision, included at Annex E?
The guidance in its current form does not reflect the breadth of services brokers provide to a widely diverse client base. The proposed changes to UK law will necessitate detailed and comprehensive guidance in order to give it any practical effect. Given its significance, our members would like to feed into the consultative process around the drafting of this document.
Did HMRC intend to refer to only agents in the last paragraph of 1.7 Claims Handling Services (Annex E)? We assume reference should also be made to brokers.
In the interest of achieving certainty, our members would like to see the specific points raised in response to Question 1 reflected in the final guidance.
TIMING OF IMPLEMENTATION
Question 4: Does the proposed implementation date of 1 January 2006 give you any practical difficulties e.g. renewal dates of contracts? Please provide actual examples where possible.
We believe it to be essential that the changes required as a result of the Arthur Andersen decision be properly implemented and as such it will be necessary for there to be clear guidance in place ahead of the effective date of implementation. This can only be achieved when there is certainty, which at best will only prevail sometime after November. We also believe it is necessary that there should then be an additional period for the industry to implement the guidance. We therefore ask that HMRC convey this to Ministers that 1 January 2006 is not an appropriate date to implement the changes already suggested by HMRC in the ConDoc, particularly since many renewals take place then.
A more achievable implementation date in our members’ view would be 1 July 2006.
Question 5: If so, what sort of transitional measures would assist in alleviating the difficulties?
We understand that HMRC have not ruled out the possibility of some existing arrangements benefiting from transitional relief. Our members are of the view that this transitional relief should be provided for all existing contracts that will be impacted by the change of law (i.e. not just those that are silent on VAT or are somehow seen to be more deserving of special treatment). To do otherwise, would punish taxpayers for what is essentially “good housekeeping” and / or may be discriminatory by selectively favouring certain arrangements that clearly fall foul of the Andersen judgement.
Question 6: Are there any other specific factors which you feel might support an alternative implementation date? Please provide details.
We understand that there is no immediate threat of infraction proceedings by the EU Commission. Our members question the haste, particularly in the light of the lengthy periods of consultation that have taken place and are still taking place in respect of some ECJ decisions handed down almost two years ago. There would be greater certainty for taxpayers if the status quo remained for a little while longer.
Implications for UK Industry and Policy Holders
We would refer you to the insurance company representatives to answer this question, since it is likely the brokers, as intermediaries, and their clients will be significantly affected by the actions of the insurers.
29th September 2005