A ground-breaking legal precedent handed down in 2001 has wide ramifications for global programmes which include European exposures.

In summer 2001, the European Court of Justice ruled in the Kvaerner plc v Staatssecretaris van Financien case. This ruling, described as `ground-breaking' by Praveen Sharma, a senior consultant with IRMG in London, has changed insurance tax payments on global policies, particularly those with EU-situated risks.

In May 1999, the Hoge Raad der Nederlanden referred the Kvaerner case to the European Court of Justice for a preliminary ruling on three questions raised around a revised assessment on insurance tax for policies covering the business risks of an indirect subsidiary of Kvaerner, based in the Netherlands. The queries were raised on the interpretation of certain articles of the Second Council Directive (88/357/EEC) of 22 June 1988, and centred around professional indemnity, worldwide umbrella and worldwide catastrophe covers purchased by Kvaerner from a UK insurer. The part of the premiums paid by Kvaerner relating to its Netherlands indirect subsidiary, John Brown BV, was charged on to the Netherlands operation. This raised the interest of the Netherlands tax authority, which charged Kvaerner insurance tax of G50,142 for the part of the premiums relating to John Brown BV, arguing that the subsidiary was an `establishment' of Kvaerner and therefore the risk was located in the Netherlands and subject to Dutch insurance tax. This was contested by Kvaerner, which eventually took the case to the Gerechtshof te Amderstam, which in turn upheld the tax authority's position. An appeal to the Hoge Raad der Nederlanden led to questions being raised about the interpretation of European Community law, and therefore the case was referred to the European Court of Justice.

European court decision
The European Court's decision rested on the interpretation of `establishment', which under article 2(c) of the Second Council Directive is defined as `the head office, agency or branch of an undertaking'. According to the court's decision, `establishment' includes EU subsidiaries, and further ruled that insurance tax could be charged in the European state in which the subsidiary is located, rather than in the state in which the parent company is established. What's more, according to the ruling, it makes no difference whether the parent company has passed on a charge for the subsidiary's share of the global premium or not - the insurance tax must be paid on the relevant amount of the premium for the risk in the state in which it resides.

Although the ruling did not come as a particular shock to the insurance market in general, there are now practices which must be implemented in order to comply with it. According to Mr Sharma and Patrick Thomas, a strategic account manager in Aon London, a number of organisations had not, towards the end of last year, put into practice the demands of the ruling to pay insurance tax in the risk's domicile, mostly because they were unaware of the new demands. In addition, there are several questions still unanswered by the ruling. For example, many umbrella liability policies are not allocated out to subsidiaries, so how would the different tax authorities accept the allocation methods - by sales volume, physical assets or perceived risk? How would a US- headquartered company allocate the cost of a global D&O policy? What's more, there is no indication as to whose independent opinion on these matters would be acceptable to the different taxation authorities.

There is little doubt that this ruling is, at the least, going to increase the administrative requirements of global policies. As Mr Sharma commented: "This ruling has the potential to become a nightmare for risk managers and tax managers, adding a further burden to the already overloaded and stretched global programme structure." He warned that brokers and other consultants should be aware of the new application of insurance tax rules, and that they need to ensure they can help international clients calculate the tax liabilities from this decision.