EY warns captive insurers can’t wing it on transfer pricing

Transfer pricing for captive insurance companies presents unique challenges due to the central role of risk in this business, according to a new report by EY that says that this analysis cannot be approached like that of a typical captive in other sectors. 

Further, although, the comparable uncontrolled price method is an option for determining the arm’s length pricing, its application is rarely straightforward, EY pointed out.

In the report EY asked how should one proceed with the arm’s length determination for a captive insurer and what are the dos and don’ts around the same? According to the company it’s important to ensure that the economic substance of the transaction/genuineness of the transaction is documented in sufficient detail.

EY stated: “While this seems to be one of the most basic points, it is also one of those points that is often ignored. Economic substance is the heart of Transfer Pricing and any analysis with respect to a transaction that lacks an economic substance could fall flat. The OECD Transfer Pricing Guidelines, 2022 sufficiently captures the relevance of accurate delineation of a transaction and ensuring that the transaction has genuine economic substance.

“Specifically, in this case, it shall therefore become essential for the taxpayer to demonstrate in sufficient detail the following:

• Nature of the business operations of the captive insurance company;

• The core expertise and experience of its team;

• The nature of risks assumed and whether these are those risks that an independent insurer would have assumed, the possibility of the risks actually crystallising, i.e., a real possibility of losses being suffered;

• The benefits obtained by other Group members by passing on these risks to the captive insurer;

• The fact that other regulatory requirements are being adhered to;

• Demonstrate that it has a portfolio of diversified risks which is generally the case if the captive insurer assumes various risks of a large MNE Group.

“Once, the economic substance is sufficiently demonstrated, the next step is to proceed with the arm’s length evaluation.”

For more information contact EY.

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