The Insurance Law (Amendment) Act, 2015 paved the way for foreign re-insurers to establish a branch office in India for carrying out re-insurance business from India. Following which, a regulatory framework was laid down by the Insurance Regulatory and Development Authority of India (IRDAI) with one of the stated objectives as making India a re-insurance hub. This enabled globally renowned re-insurance players to set up their branch office in India. At present, ten such players have a branch office in India, with five of them having reported profit for the Financial Year (FY) 2018-19.
In a continuing effort to promote re-insurance business from India, last year, the requirement of Net Owned Fund was reduced by the government to INR 5,000 crore from INR 1,000 crore in case of an office set up in the International Financial Services Centre (IFSC) by a foreign re-insurer. Also, IRDAI has played an active role in addressing some of the regulatory and business concerns of the branches by revising regulations where necessary.
While there are constant efforts on the regulatory front to meet the objective of promoting re-insurance business, one would expect the income-tax regime to also keep pace towards meeting this objective. As the income-tax law has not evolved over the years alongside the regulatory developments, it has led to ambiguity or lack of clarity in taxation not only for long standing life insurance companies but also for the new entrants like Indian branches of foreign re-insurers. Therefore, this article seeks to throw light on certain key income-tax issues faced by the India branch of foreign re-insurers, that require much needed attention of the law makers.
Need for clarity on taxation of profits of re-insurance branches in India
The Income-tax Act, 1961 (the Act) contains special provisions for taxation of profits of insurance business due to which normal provisions of the Act which ordinarily apply in case of companies do not apply to companies engaged in insurance business unless specifically provided for.
Under the Act, section 44 deals with taxation of profits of insurance business. Section 44 provides inter alia that the taxable profits of insurance business shall be computed in accordance with the rules contained in the First Schedule to the Act. Rule 2 in the First Schedule provides the manner of computation of taxable profits of a life insurance business, and rule 5 provides the manner of computation of taxable profits of a business of insurance other than life insurance. Rule 6 in the First Schedule provides the deeming basis of computation of taxable profits of India branch(es) of a non-resident carrying on any business of insurance in absence of reliable data. Except for the life insurance business whose profits are taxed at a special rate of 12.5% (plus applicable surcharge and cesses), the profits of other insurance businesses are taxed at the normal rates as applicable to the assessee.
As such, section 44 as well as the rules in the First Schedule to the Act refer to insurance business. This leads to uncertainty as to whether section 44 covers re-insurance business as well, and if answer to the same is in affirmative, a question arises as to which particular rule in the First Schedule ought to apply in case of life segment and/or non-life segment of re-insurance business. A clear answer to these questions is extremely crucial as, the computation methodology would differ based on which rule applies, and the tax rate would also differ accordingly.
Given that the Act contains special provisions for insurance business due to its peculiar nature of business, it is expected that the re-insurance business also being a peculiar business, should be treated no differently, and accordingly, special provisions contained in section 44 and rules in the First Schedule to the Act ought to apply to re-insurance business as well. Similarly, it is expected that since rule 2 specifically deals with computation of profits of life segment of insurance business, the same manner of computation should apply for computation of profits of life segment of re-insurance business.
The lack of clarity in this regard can lead to litigation, as already witnessed in case of life insurance companies where the changes in regulatory laws have resulted in different interpretations being adopted by tax payers and tax authorities for the purpose of computation of profits of life insurance business under rule 2. Therefore, it is desired that a required clarity is brought out under the Act by providing that section 44 would apply for computation of taxable profits of re-insurance business carried on by India branch of foreign re-insurers and providing also the specific rules that would apply for the mechanism of computation of such profits for life and/ or non-life segment of re-insurance business.
Need for nil withholding tax regime
Another significant issue bothering foreign re-insurance branches is withholding of tax on their gross receipts (i.e. re-insurance premium and interest income) at a maximum tax rate (i.e. 43.68 percent) unless they apply and obtain a specific lower withholding tax certificate from the income-tax authorities. Since the tax is deducted by the payers on the gross amount of re-insurance premium (and not on the profit element) and that also at the maximum tax rate of 43.68%, it results into significantly higher amount deducted as tax as compared to the actual tax liability arising based on the profit margins of re-insurance business. This not only impacts the cash flow of the re-insurance branches but also the solvency ratio required to be maintained in accordance with the IRDAI regulations.
Under the Act, there is no requirement to withhold taxes while making payment of insurance/ re-insurance premium and interest income to a domestic insurer. Therefore, to provide a level playing field, it is recommended that no taxes should be withheld while making payment of re-insurance premium and interest income to branches of foreign re-insurers.
Alternatively, the re-insurance branches be provided with the facility to obtain a blanket NIL withholding tax certificate on the similar lines as provided in the case of Indian branches of foreign banks under rule 29B of the Income-tax Rules, 1962. This is also keeping in mind that like foreign banks, the foreign re-insurers are globally renowned and are highly regulated entities that are adequately capitalized to meet the solvency norms. Further, the object of section 195 as laid down in Circular no 152 dated 27 November 1974 was to ensure that the tax due from non-resident persons is secured at the earliest point of time so that there is no difficulty in collection of tax subsequently at the time of regular assessment. The circular also provides that the failure to deduct tax at source from payment to a non-resident may result in loss of revenue as the non-resident may sometimes have no assets in India from which tax could be collected at a later stage. However, in the case of branches set-up in India by such non-resident, there would be adequate assets maintained in India in accordance with the regulatory norms. Therefore, based on the intention of the circular and specific provisions in case of foreign bank branches operating in India, NIL withholding should be provided for the Indian branch of foreign re-insurers.
Thus, bringing the required clarity in tax law for the Indian branch of foreign re-insurers is the need of hour. Such positive measures would provide necessary impetus to the industry and could play a pivotal role to the Government ambition of making India a USD 5 trillion economy.
CA Amit Kedia (with inputs from CA Rajesh Bhagat and CA Ankit Jain)