8 April 1997 GST/HST Interpretation RITS0000440 - Tax Status of "Overhead Expenses" Allocated by an Insurance Company

This is in reply to your memo of October 23, 1996 concerning the tax status of the "overhead expense" allocated by the XXXXX a non resident company, to its Canadian branch.

Facts:

Based on the information provided to us from your office and from XXXXX, XXXXX our understanding of the situation is as follows:

XXXXX is an insurance company resident in XXXXX XXXXX is licensed with the XXXXX to underwrite insurance and re-insurance in Canada through a branch in Canada. The Canadian branch (the "Branch") is an operating branch which is staffed to sell insurance in Canada.

Pursuant to the XXXXX regulations, the Branch must file reports with XXXXX showing all Canadian risk policies, whether or not the insurance was actually underwritten through the Branch or through the XXXXX head office in XXXXX[.] For income tax purposes, XXXXX is considered to be carrying on the insurance business in Canada and earning income on insurance policies covering Canadian risks that are issued by both offices. Expenses incurred by both offices in respect of policies underwritten on Canadian risks are deductible in calculating XXXXX income. When the polices are issued by XXXXX through it XXXXX head office (on Canadian risks), all underwriting activities are entirely performed outside Canada.

The Issues:

For years XXXXX the Branch disclosed on its Operating Expense Schedules (to be filed with XXXXX a single amount of the "overhead expense" allocated from XXXXX head office. This amount is treated by XXXXX as an allowable deduction from its income for income tax purposes. Your XXXXX Section proposed to assess the entire amount of the Overhead Expense allocated to the Branch under section 218 of the Excise Tax Act (the "Act"). XXXXX does not agree that the entire overhead expense amount should be subject to Division IV Tax.

XXXXX position is that the Overhead Expense allocated to the Branch is really made up of three types of expenses:

a. Expenses relating to the Canadian Paper (insurance policies issued through the Branch),

b. Expenses relating to the XXXXX Paper (insurance policies issued through XXXXX head office), and

c. Expenses relating to the XXXXX (additional insurance purchased by XXXXX through the XXXXX head office to re-insure against major/widespread catastrophes with respect to insurance policies issued through the Branch.)

XXXXX argues that Division IV tax should only be applied to the portion of the overhead expense relating to the Canadian Paper.

Our Comments:

Based on our understanding of the above facts, we offer our comments as follows:

Under the Act, a transfer of property or rendering of a service by a branch of a corporation to another branch normally will not constitute a "supply" for GST purposes since the branch is not a "person" and is not capable of effecting any transaction. However, where the corporation carries on a business through a branch in Canada and through another branch outside Canada (and both branches qualify as permanent establishments), the transfer of the property or the rendering of the service will be deemed to be a "supply made between two entities" by virtue of section 220 of the Act. (The term permanent establishment is defined in the Act. There is no dispute between your office and XXXXX that the Branch qualifies as a permanent establishment).

Under subsection 142(1) of the Act, a supply of a service that is performed in Canada will be deemed to be a supply made in Canada. Hence, when XXXXX issues an insurance policy through the Branch, XXXXX will be deemed to be making a supply in Canada by virtue of this subsection. However, under the rules of XXXXX must submit reports to XXXXX through the Branch, showing the revenue and expenses on policies issued through both branches if these policies are underwritten on Canadian risks.

1. Portion of the overhead expense relating to the Canadian Paper: This amount represents the portion of the overhead expense that is incurred by the XXXXX head office in administering the insurance policies underwritten by the Branch. It is our view that since the insurance policies are underwritten through the Branch, when the XXXXX office administers these insurance policies, the XXXXX office is doing it for the Branch. We agree with XXXXX position that this portion of the Overhead Expense is subject to Division IV tax, however, see our additional comments under 3 below as to the characterization of this supply.

2. Portion of the overhead expense relating to the XXXXX Paper: This amount represents the portion of the overhead expense incurred by the XXXXX head office in administering the insurance policies underwritten by XXXXX through its XXXXX head office. (The underwriting work of these policies is done wholly by the XXXXX head office.) Since these policies are underwritten by XXXXX through its XXXXX head office, it seems clear to us that the service of administering these policies would be for use by the XXXXX office, and NOT for use by the Branch. Hence, administering these policies would not constitute the rendering of a service to the Branch. If these policies were administered by a third party company, it would be clear that the service of administering the policies would be a service provided to XXXXX for the use by its XXXXX office, and not for use by the Branch. The fact that the amount of the cost of administering these policies is included in the Overhead Expense Schedule for XXXXX reporting purposes is not an evidence of a supply made to the Branch. Further, matching expenses with revenue on policies underwritten by the XXXXX office for income tax purposes does not mean there is a supply for GST purposes. In conclusion, we agree with XXXXX that there is no rendering of any service by the XXXXX office to the Branch in this respect.

3. Portion of the overhead expense relating to the Retrocessional Cover: This expense only relates to the costs of administering the additional insurance taken out by XXXXX through its XXXXX head office to re-insure against the risks undertaken through the Branch, and does not include the cost of the insurance (the premium). XXXXX[.] It is our understanding that the Retrocessional Cover is taken out to secure additional protection against the risks underwritten through the Branch. Hence, it is really the Branch that would require (and benefit from) this additional protection. When XXXXX office is administering this extra insurance, the XXXXX office is really providing an administrative service to the Branch. The amount of the overhead expense (relating to the Retrocessional Cover) allocated to the Branch represents the Branch's share of the general overhead costs of the XXXXX office for rendering its service of administering the Retrocessional Cover for the Branch.

On the basis of the above, an argument can be made that the portion of the overhead expense relating to the Retrocessional Cover represents (the value of the consideration for) the supply of an administrative service rendered by the XXXXX office to the Branch. This supply will be subject to Division IV Tax by virtue of sections 218 and 220 of the Act.

However we note that XXXXX has not specifically indicated if the Overhead Expense was for the service of "administering" the Retrocessional Cover insurance. Your XXXXX report also noted that XXXXX second letter of XXXXX XXXXX was silent as to the nature of the supply for the head office expenses. XXXXX argues that this allocation represents the Branch's share of the head office costs of acting as a broker in "arranging for" the Retrocessional Cover, and the costs for acquiring and administering this insurance, but it has not provided us with details to support this allegation. Our position on group insurance, as stated in Policy Statement P-92, is that the phrase "arranging for" should only apply to "services provided by licensed insurance brokers directly to the buyer or the seller with a view to bringing them together to transact, or by persons (such as professional associations, an employer, a union, an employer group, etc.) when they are acting as agents, salesperson, or brokers primarily involved in the placement of the insurance policy where a clear nexus between their activities and the provision of the insurance policy can be established". We have no information on file to determine as to whether or not the service of the XXXXX head office can qualify as the brokerage service of "arranging for" the issue of an insurance policy in this category. (This is a question of fact that can only be resolved upon an examination of the activities of the XXXXX branch in this respect).

It is our view that, when viewed in its totality, the services provided with respect to 1 and 3 above are in reality a single supply of a "management or administrative service" and, as such, subject to Division IV tax by virtue of sections 220 and 218 of the Act. We trust our comments are of assistance to you. Should you wish to discuss the issues further, please do not hesitate to contact the undersigned.

Phil Tang
Rulings Officer
Financial Institutions and Real Property division
GST Rulings and Interpretations Directorate

Téléphone: (613)954-8585

Télécopieur: (613)990-1233