Tax and Regulation

[Garima Chawla]

Hi, I have below queries
1. In September 2014, Q2 it has been asked the steps company will take to have a status of XSI. Could you please confirm why company would want to become XSI. Also in Sep 2020, Q3 ii below is mentioned. Could you please clarify if the company status is XSI, there is some tax relief which is applicable?
"If this were the taxation basis, then Company A would not be able to compete… [½]
o … with companies that have “XSI” products… [½]
o … as these companies would be able to allow for tax relief on their term assurance expenses in pricing."

2. In sep 2021, Q1 (ii), it has been mentioned that in case of interest rate up and credit widening, not offset by any change in the volatility adjustment for annuities. Could you please clarify how is volatility adjustment impacting this?

 

[Garima Chawla]

In September 2014, Q2 it has been asked the steps company will take to have a status of XSI. Could you please confirm why company would want to become XSI. Also in Sep 2020, Q3 ii below is mentioned. Could you please clarify if the company status is XSI, there is some tax relief which is applicable?
"If this were the taxation basis, then Company A would not be able to compete… [½]
o … with companies that have “XSI” products… [½]
o … as these companies would be able to allow for tax relief on their term assurance expenses in pricin

Additionally, in September 2021, Q3 iii, it has been mentioned that
"Company A will limit sales to ensure the company’s XSE position is preserved [1]
this would be especially true if the company has passed the tax benefit to the customer"
Could you please clarify how preserving XSE position can be tax advantage for the customer and how it can be shared with them?

 

[Lindsay Smitherman]

Hi, I have below queries
1. In September 2014, Q2 it has been asked the steps company will take to have a status of XSI. Could you please confirm why company would want to become XSI. Also in Sep 2020, Q3 ii below is mentioned. Could you please clarify if the company status is XSI, there is some tax relief which is applicable?
"If this were the taxation basis, then Company A would not be able to compete… [½]
o … with companies that have “XSI” products… [½]
o … as these companies would be able to allow for tax relief on their term assurance expenses in pricing."

Remember that BLAGAB business is fundamentally taxed on 'I-E': so it gains tax relief on its expenses (E). If a company is stuck as being XSE, it is unable to gain tax relief on all of its expenses. It is effectively incurring its expenses gross of tax. This is not good for pricing - see also Section 3.7 of Chapter 23

 

[Lindsay Smitherman]

Hi, I have below queries
In sep 2021, Q1 (ii), it has been mentioned that in case of interest rate up and credit widening, not offset by any change in the volatility adjustment for annuities. Could you please clarify how is volatility adjustment impacting this?

If the credit spread widened due to a reduction in liquidity, it might be expected that the VA would also increase (thus reducing the BEL and hence partly offsetting the asset value change). However, for a company using the standard formula this is not the case (at least at the moment). See also:

https://www.acted.co.uk/forums/inde...-adjustment-on-sf-scr-april-2017-q1-iv.14915/

 

[Lindsay Smitherman]

Additionally, in September 2021, Q3 iii, it has been mentioned that
"Company A will limit sales to ensure the company’s XSE position is preserved [1]
this would be especially true if the company has passed the tax benefit to the customer"
Could you please clarify how preserving XSE position can be tax advantage for the customer and how it can be shared with them?

If the company writes an unlimited amount of the savings product, it will become XSI and then the 'I' (investment earnings) for the savings product would start to be taxable - bad for the customer.

 

[Garima Chawla]

Remember that BLAGAB business is fundamentally taxed on 'I-E': so it gains tax relief on its expenses (E). If a company is stuck as being XSE, it is unable to gain tax relief on all of its expenses. It is effectively incurring its expenses gross of tax. This is not good for pricing - see also Section 3.7 of Chapter 23

Could you please confirm if this relief is only applicable for term product? Because n September 2021, Q3 response has mentioned that it is bad for customer if we have XSI status. But when we are I, we are taking tax relied and is able to price lower premium

 

[Lindsay Smitherman]

E is deducted from the taxable amount for all BLAGAB business, not just for term assurance.

The point in the question that you cite is that term assurance business has high E, low I. Being in an XSE position effectively means incurring both expenses and investment return on a gross (pre-tax) basis. This is bad for the pricing of term assurance, since E will significantly outweigh I for that type of business.

Being in an XSI position means incurring both investment return and expenses net of tax. So this would be bad for a customer with a savings contract, as for such contracts the investment return I would be expected to significantly outweigh expenses E.

 

[T Samuel]

E is deducted from the taxable amount for all BLAGAB business, not just for term assurance.

The point in the question that you cite is that term assurance business has high E, low I. Being in an XSE position effectively means incurring both expenses and investment return on a gross (pre-tax) basis. This is bad for the pricing of term assurance, since E will significantly outweigh I for that type of business.

Being in an XSI position means incurring both investment return and expenses net of tax. So this would be bad for a customer with a savings contract, as for such contracts the investment return I would be expected to significantly outweigh expenses E.

When looking at this question I followed the argument for why there would be a benefit from utilising the XSE from the term assurance business to offset the I from the fixed term savings product. However, I am unclear on why there is no consideration of the minimum profits test. I would have thought the minimum profits test would apply and result in the tax for the combined term assurance and savings product business being based on a trading profit (with adjustments). Are we saying that being taxed based on trading profit (with adjustments) is favourable for for the savings product relative to I-E? Can you please help me understand what I am missing?

 

[Lindsay Smitherman]

Hi - yes you are correct that the minimum profit test would probably apply for a proprietary company (I use 'probably' because we only know that the taxation is similar to UK BLAGAB, not identical). But that doesn't change the conclusions.

If the company writes lots of term assurance, it will probably be XSE (minimum profit > I-E, due to low I and high E) and therefore will be taxed on profit and would have to price using gross I, gross E. If it writes a lot of savings business to offset that (so that now overall I-E > minimum profit), it will be taxed on I-E and so would price using net I, net E.

If a savings product were taxed on I-E, that could potentially be a pretty high amount of tax due (big I). Profit would normally be expected to be considerably lower than 'I-E' for savings products, as most of the I will 'belong' to the policyholder.