Life insurance companies are quasi-banks

Life insurance companies are quasi-banks

by Dick Du-Baladad

In Revenue Memorandum Circular (RMC 30-08) issued by the Bureau of Internal Revenue (BIR) last week, the BIR made a clear differentiation on what constitutes an insurance business and the business of banking.

The BIR noted that some products being offered by insurance companies, such as the variable insurance, are not really in the nature of insurance as it does not insure any risk, but are instead investments similar to bank deposits and investment in trusts. Thus, with respect to these services provided by insurance companies that are similar to banking, the BIR said that insurance companies shall be considered to be engaged in quasi-banking, and are to be taxed as such.

Specifically, RMC 30-08 outlined the taxation of Variable Unit Link (VUL) and the Premium Deposit Fund (PDF) and similar products.

A VUL is an insurance product wherein a significant portion of the amount paid by the policyholder is not a payment for the cost of insurance but is, in actuality, an investment in pooled funds which are subsequently invested in shares of stocks, mutual funds, debt securities, and others. The contribution to the fund is represented by a unit of participation and the income of the pooled fund together with the contribution is given back to the policyholder upon the surrender or redemption of the units. The insurance company manages the funds and earns income in the form of management fees and trust fees.

For VUL, the investment portion of the premium paid by the policyholder shall not be subject to the premium tax and to the DST imposed on life insurance.  Instead, it shall be considered as an investment in trust and the covering agreement shall be subject to a DST of .2%.  The management fees, trust fees, and other related income earned by the insurance company shall be subject to regular income tax and a VAT of 12%.  Although RMC 30-08 mandates that the income of the policyholder from the fund shall be reported in their income tax return and subjected to the regular income tax rates of 5-32%, my thinking is that, similar to other trust arrangements, the income of the pooled funds, if already subjected to a final tax (e.g. the 20% final tax on interest income or the ½ of 1% on sale of shares of stocks in the stock exchange) shall no longer be subject to tax when distributed to the policyholders.

The PDF is akin to a debt instrument or a deposit in banks. Under a PDF arrangement, a policyholder shall deposit an amount from which payment for future premiums shall be taken. The amount deposited is given by the insurance company a guaranteed interest at a rate not lower than the regular deposit in banks which is a feature similar to the special savings deposits offered by banks.

The covering instrument evidencing payment of the premium deposit is subject to a DST of 0.5%.  Likewise, the income of the insurance company from the investment of the PDF is subject to the 1% or 5% gross receipts tax (1% if the maturity period of the instrument is more than 5 years and 5% if 5 years or less) imposed on banks and quasi-banks, which is also subject to income tax - either a final tax or a regular income tax.

The interest income of the policyholder from the PDF is subject to the 20% final tax imposed on bank deposits, deposit substitutes and similar arrangements.  But again, while RMC 30-08 specifically mentions a 20% rate, there could be justified reasons for applying the rules on the exemption of interest arising from long-term investment in banks by individuals – that is, if the PDF is deposited for 5 years or more, the interest income shall be exempt from tax.  Non-application of this exemption provision enjoyed by investors in banks may again create a distortion, a problem which the RMC seeks to address.

The alignment, from a tax perspective, of similar products by banks, quasi-banks and insurance companies will level the playing field for similar financial products offered by different fina ncial intermediaries as it removes the tax-induced distortions in the market   For a long period of time, these 2 financial institutions have been competing with one another in attracting investors for these same financial products. But because the insurance companies can offer more tax-advantaged packages, their attractiveness cannot be denied.

In my  book, “Taxation of Financial Institutions in the Philippines” which was published in 2006 by Punongbayan &Araullo, it was pointed out that there is a need to provide clear guidelines for the tax treatment of variable insurance products as our present tax laws are inadequate. Other than exempting the investment portion of variable insurance from the premium tax - it being not a cost of insurance - it did not specify the tax treatment for the investment component of the amount paid.  This RMC could probably be the answer.

Notwithstanding the similarity in their business as financial intermediaries, there is a whale of a difference in the taxation of a bank from that of an insurance company. The same is true as regards the financial products and services they offer.  Some of these differences could not be addressed by a mere RMC as what has been done in this RMC 30-08 for variable insurance. It requires a legislation as it involves a change in the law itself.