| 920659 | |
| 24(1) | N. Goldstein |
| (613) 957-3499 |
Attention: 19(1)
March 26, 1992
Dear Madam:
Re: Subsection 138(11.92) of the Income Tax Act ("the Act")
We are responding to your letter of February 26, 1992 in which you requested a technical interpretation with respect to the income tax implications of a "reinsurance arrangement" between two related parties.
The situation described in your letter appears to be a proposed transaction; accordingly we are unable to provide you with any definitive comments on the tax implications of the proposed transaction as this can only be done on an advance ruling basis with respect to a particular taxpayer. Furthermore, you appear to be asking a question of fact with respect to whether a line of business has been disposed of. This determination, if it can be made at all on an advance ruling basis, requires the disclosure of all the relevant facts and circumstances.
We are, however, able to provide the following general comments. In order for subsection 138(11.92) of the Act to apply to a particular transaction, two conditions must be met, namely:
1. The vendor has disposed of all or substantially all of an insurance business carried on by it in Canada or the vendor has disposed of all or substantially all of a line of business of an insurance business carried on by it in Canada; and
2. The obligations in respect of the business or line of business, as the case may be, in respect of which a reserve may be claimed under paragraph 20(7)(c) or subparagraph 138(3)(a)(i) or (ii), were assumed by the purchaser.
It is our understanding that the term "assumption reinsurance" has a special meaning in the insurance industry. It involves the purchase by another insurer of an insurance business or line of insurance business from the original insurer ("the vendor"). The purchaser assumes the liabilities in respect of the insurance business or the line of an insurance business of the vendor. The purchaser becomes solely liable to the policyholders.
We understand that "reinsurance" (other than "assumption reinsurance"), referred to herein as "non-assumption reinsurance" occurs when the original insurer reinsures or cedes with a reinsurer some or all of its risk under a policy or policies to another insurance company in an attempt to reduce its exposure on a particular risk. Notwithstanding the "non-assumption reinsurance", the original insurer remains liable to the policyholder(s). The reinsurer has no liability to the policyholder(s).
Accordingly, we are of the view that a ceding company party to a "non-assumption reinsurance" arrangement has not met the conditions of subsection 138(11.92) of the Act as the ceding company has not disposed of all of its insurance business or a line of insurance business, but merely reinsured them. In order to have disposed of an insurance business or a line of insurance business, we are of the view that the ceding company must have no remaining potential obligations to the policyholders, a requirement that would not be met in a "non-assumption reinsurance" arrangement.
As indicated earlier, we are not prepared to opine one way or the other whether the facts contained in your letter would lead to the conclusion that all or substantially all of an insurance business or a line of insurance business had been disposed of. However, we refer you to a letter dated August 1, 1990, to 19(1) of your office, in which we noted the factors we would consider in determining if all or substantially all of an insurance business or a line of business of an insurance business had ceased to be carried on by the vendor.
With respect to your questions regarding the calculations of the reserves under subsection 1403(8) of the Regulations to the Act (the "Regulations"), in light of the above, we are of the view that subsection 1403(8) of the Regulations has no application where the arrangement is one of "non-assumption reinsurance" as no disposition of an insurance business or a line of business of an insurance business has occurred, as required by subsection 138(11.92) of the Act. We are also of the view that subsection 1403(8) of the Regulations cannot apply to non-arm's length transactions.
We note that while subsection 1403(2) of the Regulations may be of application if the rate of mortality or other probability used by the issuing insurer was not reasonable in the circumstances, the question of reasonability applies only to the rates used by the issuing insurer when the policy was issued, not the reasonableness of using those rates at the date of transfer of the policies. We do not consider subsection 1403(2) of the Regulations to be of any assistance in interpreting subsection 1403(8) of the Regulations and the issue of whether or not subsection 1403(8) of the Regulations should apply to non-arm's length transactions. As indicated above, subsection 1403(8) of the Regulations expressly states that it does not apply to non-arm's length situations.
We trust the foregoing comments are of assistance.
Yours truly,
for DirectorFinancial Industries DivisionRulings Directorate