ATO ID 2006/53: Capital Gains Tax: disposal of a life insurance business - value of in force business
Date of decision: 15 February 2006
Year of income: Year ended 30 June 2006
Business line: Public Groups and International

Issue
Is a capital gain made by a life insurance company on the disposal of its life insurance business disregarded under item 1 in the table in subsection 118-300(1) of the Income Tax Assessment Act 1997 (ITAA 1997) where the capital gain relates to the consideration received by the company for the future profits component of the value of the 'in force business' of the company?

Decision
No. A capital gain made by a life insurance company on the disposal of its life insurance business is not disregarded under item 1 in the table in subsection 118-300(1) of the ITAA 1997 where the capital gain relates to the consideration received by the company for the future profits component of the value of the 'in force business' of the company.

Facts
A life insurance company (the transferor) transferred its life insurance business to another company (the transferee). The consideration received by the transferor was based on an appraisal valuation, which included an amount worked out in relation to the value of the 'future profits' component of the transferor's in force business. The valuation of in force business involved an assessment of the present value of the shareholders' interest in future distributable profits from the in force business, that is, the anticipated profits from the provision of services under current policy contracts which the transferor had issued. There was no enforceable right to the estimated future profits before the services had been provided by the transferor. The value of in force business may also include an amount in respect of regulatory surplus assets relating to current policies. This decision concerns the component of the value worked out in respect of future profits.

Reasons for decision
Summary: Under subsection 118-300(1) of the ITAA 1997, any capital gain or capital loss made from certain CGT events that happen in relation to an insurer's interest in rights under insurance policies, which it has issued, is disregarded. The exemption under item 1 in the table in subsection 118-300(1) of the ITAA 1997 only applies if all of the following conditions are satisfied: The value of the transferor's in force business was based on an estimate of its future profits. The projected future profits depended on the provision of future services to policy holders with existing policy contracts. There was no enforceable right to the estimated future profits until such time as the services had been provided by the transferor. In the general scheme of a life insurance policy, the profit element will be impacted by various factors, including whether and for how long the policy holder continues to maintain the policy with the life insurance company, or in a transfer of business, maintain the policy with the transferee. Where policy holders maintain the policy following a transfer of business, the transferee would normally earn the profits associated with the policies transferred. These anticipated profits are recognised in the value of in force business. The profits would arise from the performance of the contracts in the ongoing operations of the insurance business after the business transfer. The value of the profits is not considered to be attributable to any rights that the transferor may have in the transferred policies. Accordingly, it is not considered that the value of in force business reflected the transferor's 'interest in rights' under the insurance policies for the purposes of subsection 118-300(1) of the ITAA 1997, nor that the consideration paid for the transfer of in force business could be attributed to the policy rights which are the subject matter of the exemption. The amount paid for the future economic benefits represented by the value of in force business was not consideration for the realisation of the transferor's interest in rights under life insurance policies. It follows that the capital gain made from 'in force business' on disposal of the life insurance business is not disregarded under item 1 in the table in subsection 118-300(1) of the ITAA 1997.

Legislative references: Income Tax Assessment Act 1997 subsection 118-300(1) subsection 118-300(2)
Subject references: Capital gains Capital gains tax CGT exemptions Insurance industry Life insurance company Life insurance policies