One of the most important principles of VAT is neutrality, which means that VAT should apply equally to all goods and services. This is ensured by a standard VAT regime coupled with a right of deduction on intermediate consumption.
An exemption regime, such as that applied to financial and insurance services, goes against the neutrality of VAT because it restricts the right of deduction for non-taxed activities. This results in cost impact on business structures, competitive disadvantages, etc.
Life insurance services are exempt from VAT in the UAE, while general insurance is subject to 5% VAT. Insurance companies providing vehicle cover are required to collect 5% VAT on the premium. We will discuss the nuances of VAT around non-life insurance in general and, more specifically, motor insurance.
In the context of a general insurance contract, the settlement made by the insurer in respect of a claim may take the form of financial compensation (payment of a pecuniary claim) or in kind, when the insurance company undertakes to have the vehicle repaired or replaced. In principle, the statements made by the insurer in the context of an insurance claim are outside the scope of VAT.
Franchises or deductibles
A deductible, or deductible, is the amount the insured must bear in the event of a loss as a threshold before the insurer pays the claim. The amount paid by the insurer will be the amount of the claim minus the excess amount. The excess or excess is not taken into account for any supply by the insurer and as such should be outside the scope of VAT.
Subrogation or reinsurance
There could be cases of reinsurance, subrogation, fraud, etc. in which an insurance company can recover some or all of the cash payment made under the contract from another person.
Reinsurance is the practice of insurance companies to insure their risk of paying claims to policyholders in the event of loss of the vehicle. The reinsurer will charge a premium to cover the risk of the insurance company and will pay an agreed amount for any loss covered by the insurer, like any other insurance contract.
Subrogation is a term describing a right held by most insurance companies to legally pursue a third party who has caused an insurance loss to the insured. In most cases of subrogation, an insurer directly pays its client’s claim for losses and then seeks reimbursement from the other party’s insurer.
The amount received by the insurer under reinsurance or subrogation is not consideration for any supply made by it and as such should be outside the scope of VAT.
VAT on the disposal of salvaged vehicles
Opinions on the applicability of VAT to the disposal of salvaged motor vehicles are divided. Several countries treat it as a taxable supply, while a few treat it as outside the scope of VAT.
Such assignment by an insurance company is ancillary to the business of insurance. While the transfer of ownership of the salvaged vehicle from an insured to an insurer might not be subject to VAT, the sale to a third party might be treated as a supply of goods. It should be noted that the transfer of ownership of the vehicle recovered by the insurer to a third-party client is not covered by the terms of the insurance contract between the insured and the insurance company. Therefore, it could be treated on an equal footing with the normal supply of goods and could be subject to VAT.
It could also be argued that there is no transfer of legal ownership of the salvaged vehicle from the insured to the insurance company when compensating for the loss. The insurer only disposes of what would otherwise have been disposed of by the insured.
The property – the vehicle – is neither transferred nor registered in the name of the insurer, at the time of transfer. As such, the assignment is not a delivery into the hands of an insurance company for VAT purposes. This is also consistent with the doctrine of subrogation. Thus, the insured may be required to pay VAT, if applicable.
Input VAT on expenses
In the event that the insurer agrees to pay for repairs, a third-party workshop would provide repair services to the insured but would be paid for by the insurance company. In such cases, the insurance company is not eligible for input VAT with respect to monetary claim payments made to the insured.
As a general rule, contracts of insurance with VAT-liable persons who are eligible for input VAT charged by the third-party seller will stipulate that claims will be paid exclusive of VAT. While for other people, either not registered or not eligible for input VAT, insurance compensation will be paid including tax.
The insurer might contract with third party workshops to repair or replace the vehicle to satisfy its own obligation under the contract with the policyholder. In these cases, the insurance company will be the primary beneficiary of the services, even if it is the insured who receives the benefits of the services.
Thus, the insurance company would bear the VAT on these third-party workshop costs. It would also incur VAT on fees paid to surveyors, adjusters, investigators and other specialists. In these cases, the insurer would be eligible for input VAT because it would be the recipient of the services.