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Singapore – Court Of Appeal Clarifies Income Tax Treatment Of Insurance Company Investment Gains.

6 February, 2014

 

Legal News & Analysis – Asia Pacific – Singapore – Tax

 

Introduction

 

Insurance companies exist as a unique class of corporate entities, in that they have a distinctive business practice, and are governed by specific legislation. In Comptroller of Income Tax v BBO [2014] SGCA 10, the Singapore Court of Appeal had to consider whether this translates into a separate standard of tax treatment.

 

In this case, the insurance company in question (the “Respondent”) had disposed of certain shares, and the Comptroller of Income Tax (the “Appellant”) sought to establish that the resultant gains were in the nature of income, and thus taxable. The Appellant’s case relied largely on local regulatory requirements for the establishment and maintenance of insurance funds.

 

However, the Court of Appeal held that these requirements, without more, could not be determinative of the tax treatment of assets or investments. Rather, the Court would examine the facts of each case to determine whether gains are in the nature of taxable income from profit-making schemes, or non-taxable capital gains from the realisation of securities.

 

This judgment is significant as it is the first local case dealing with the income tax treatment of investment gains accruing to insurance companies, for which investment activities are crucial. It confirms that regulatory requirements are not dispositive of the tax treatment to be accorded, and that in determining whether gains are taxable in the specific context of the insurance industry, the factors to be considered are the same as those relevant to the determination of the objective intention of a taxpayer in an unregulated industry.

 

Brief Facts

 

Under section 17(1) of the Insurance Act, insurance companies are required to establish separate insurance funds for each class of insurance business. Pursuant to this requirement, the Respondent set up funds in respect of its Singapore and overseas policies and used the funds to invest in shares in related companies (the “Shares”).

 

In 2001 and 2002, the Respondent sold most of these shares to a third party, making gains of almost S$100 million. The Appellant took the view that these gains were taxable, against which the Respondent appealed. The Respondent was successful before the Income Tax Board of Review and the High Court, and so the Appellant brought the matter before the Court of Appeal. Broadly, the Appellant’s argument at the Court of Appeal was that gains derived from the Shares were taxable income as they were acquired by the Respondent using moneys from premiums that are required to be retained in a fund by the Respondent pursuant to the section 17(1) of the Insurance Act, and that therefore the Shares were acquired in the course of the Respondent’s insurance business and were at all times in its insurance funds.

 

Decision

 

The Court of Appeal ruled in favour of the Respondent, finding that the Shares were capital assets, and that the gains from their sale were accordingly not taxable. Specifically, the Court of Appeal considered that assets acquired with receipts of income are not invariably revenue in nature and that regulatory frameworks, such as that under the Insurance Act, are often designed with non-tax policy considerations in mind and therefore cannot be dispositive of the issue of whether a particular gain ought to be properly attributable to the revenue or capital account of a taxpayer. There is nothing in the Insurance Act which prohibits insurance companies from holding capital assets in funds established pursuant to section 17(1) of the Insurance Act.

 

Accordingly, the taxation of insurance companies can and should only be done in accordance with the ordinary principles of revenue law, i.e. one must undertake the usual inquiry of determining the objective intention of the taxpayer in acquiring the assets in question based on a number of factors. In this case, the Court of Appeal considered the following factors to be of particular relevance:

 

(i) The evidence strongly suggested that the Respondent’s intention in holding the Shares was as part of a group corporate preservation strategy, as opposed to being for the purposes of trade.

 

(ii) The Shares were held for a long period of time, and there were relatively few disposals of the Shares during this period.

 

(iii) The Respondent did not need to and in fact did not liquidate the Shares to meet its liabilities in the insurance business.

 

Therefore, notwithstanding the fact that the holding of the Shares in the insurance fund may be relevant in ascertaining whether the investment is intended to be held as a capital asset, it was held to be “insufficient to offset the very strong inference that the Shares were intended to be (and were in fact) held as capital assets. Accordingly, the gains from the sale of the Shares were capital gains, and were not taxable. The appeal was dismissed with costs.

 

Concluding Words

 

One of the significant takeaways from this decision is that regulatory requirements, which are driven by non-tax policy considerations, have little or no relevance in the determination of the taxation of companies that are subject to such regulations, and tax should be imposed based on tax legislation as interpreted by the courts using principles of case law. This echoes the general principle adopted by the courts in Singapore that ordinary accounting principles must yield to the principles of tax law where there is a conflict.

 

The decision also serves as a reminder that the question of whether a particular gain is revenue or capital in nature still depends very much on the totality of the facts. While the holding of an asset in a particular fund does not conclusively determine whether the investment was meant to be held as a capital asset, it is still a relevant factor to be considered, and therefore the taxability of the gains derived by an insurance company ultimately depends on whether the evidence supports a finding that the investment was held by the insurance company as a capital asset or a trading asset.

 

Rajah & Tann

 

Simon Goh, Partner, Rajah & Tann 

simon.goh@rajahtann.com

 

Irving Aw, Partner, Rajah & Tann

irving.aw@rajahtann.com

 

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