On 22 October 2009 the European Court of Justice (ECJ) delivered judgment concerning the VAT treatment of portfolio transfers of both primary and reinsurance business1, a case that came before the ECJ upon referral from the German Federal Tax Court (BFH).
The background to the case was this: in 2002, the former Swiss Re Germany Holding GmbH transferred 195 reinsurance contracts to an affiliated company within the Swiss Re group situated in Zurich, Switzerland, and received in return the payment of a single purchase price. Of the transferred reinsurance contracts, some 18 were assessed as having a negative value, thereby reducing the net agreed price.
This being reinsurance business, the policy holders of the transferred contracts were themselves insurance companies, all of them located outside Germany, both in other EU member states and in non-member countries. They each gave their consent to the transfer. Upon execution of the transfer, however, the local Munich tax authorities determined the transfer to constitute a taxable supply of goods, applying a former decision of the BFH. Having appealed against the decision unsuccessfully to the Munich local tax court, Swiss Re filed an action with the BFH.
For its part, the BFH also took the view that a reinsurance portfolio transfer was a taxable supply, albeit a supply of services (not goods), and in the present case it held that the place of supply was Germany, the place of business of the transferor. Since no VAT exemption applied, it considered that, as a matter of German law, VAT should be charged in Germany. However, the BFH also wished to clarify whether this interpretation would violate the Sixth EU Council Directive 77/388/EEC (Sixth Council Directive), and accordingly it submitted a preliminary reference to the ECJ seeking its ruling on the following main points:
- Are such portfolio transfers to be regarded as a "supply of services" or a "supply of goods", (since a different VAT regime applies to each)?
- If a portfolio transfer is to be regarded as a supply of services, does it constitute a "banking, financial or insurance transaction" (if so, the service would be exempt from VAT under Art 13B of the Directive)?
- Is the transferee to be regarded as a service supplier in relation to the acquisition of those reinsurance contracts carrying a negative value and if so what difference (if any) does this make in respect of VAT obligations?
In considering the above matters, the ECJ held firstly that portfolio transfers of insurance and reinsurance business constituted a taxable supply of services, not goods, since the latter required the transfer of tangible property. The court also declined to classify the transfer as a "banking, financial or insurance transaction" and hence it held that the transaction could not, in principle, enjoy the attendant VAT exemptions under Art 13B. Whether or not the relevant VAT will be deductible or refunded as input VAT depends on the particular circumstances of the case.
The ECJ also refused to treat the portfolio transfer as two separate transactions (i.e. the first concerning the obligations assumed by the transferee to policy holders and the second concerning the transferee's right to collect future reinsurance premiums from the policy holders). The separation of a single transaction into two separate service elements to which different VAT treatments would apply was, in the court's view, an artificial construction.
Finally, on the question of the 18 contracts with a negative value, the ECJ declined to segregate those contracts from the remainder of the portfolio. While it may be true that, commercially, the transferor was paying the transferee an agreed sum of money to assume those particular contracts, the fact remained that the parties had agreed upon a total purchase price for the transfer of a single portfolio. Accordingly, the transferor was the supplier of all of the contracts for VAT purposes, and the attendant VAT was payable upon the overall net price agreed.
This ECJ ruling will have major consequences for insurance and reinsurance portfolio transfers in the future. The court confirmed that insurance and reinsurance portfolio transfers are in general subject to VAT. This should not only apply to future transactions, but also to past transfers that have not yet been finally assessed by the competent national tax authorities. Furthermore, if the transferee performs only VAT-exempt insurance services, it will not be eligible for VAT input deduction or VAT refund, with the result that the VAT imposed on portfolio transfers will effectively increase the purchase price of the portfolio.
As an aside from the ECJ ruling, it should also be noted that changes to the VAT system within EU member states are due to come into force in 2010. Those changes may well lead to a reverse charge of VAT (that is, the transferee becoming liable for VAT in its home country). Whether or not the VAT charge is deductible would then depend upon the individual VAT status of the transferee, rather than the transferor. This may well give rise to structuring opportunities to avoid a VAT charge, particularly with (but not limited to) intra-group transactions. Clearly, as the VAT solution will determine the deal structure this should be analysed at a very early stage.
As a final word of warning, manipulation of the purchase price for tax reasons (to reduce or mitigate the VAT basis) should not be considered a suitable solution. As a rule of thumb, the agreed purchase price must be reached at arm's length. In cases of intra group transactions especially, the agreed purchase price will come under the close scrutiny of the relevant tax authorities to ensure it represents the fair market value.
1. Swiss Re Germany Holding GmbH (C-242/08))
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