According to a Businessline article on July 14th (http://www.thehindubusinessline.com/2009/07/14/stories/2009071451931500.htm), Income Tax department of India is considering charging insurers for amounts that have been ceded to foreign reinsurers.

The I-T Department assumes the premium collected by insurers and ceded to international reinsurers can be thought of as the business generated by an ‘agent’ (Insurance Company I from India) for a multinational insurance company (’Reinsurance Company R from abroad’). Further, according to Section 195 of the Indian Income Tax act, a person is liable to pay taxes for any payments (other than salary) made to a foreign party – including NRIs. A tax of 20% should be deducted in such cases at source.

Now, lets look at the implications. The I-T Department has already sent notices to almost every insurance company to pay the taxes. If the department prudently asks for ALL the payments (i.e. tax calculated on the cumulative premium paid by insurers to foreign reinsurers till now – from the inception of the company), most of the companies will have serious liquidity issues.

How does it matter to the microinsurance sector? Firstly, most of the risks in agriculture insurance is reinsured. Further, according to mandate, at least 10% of the risk needs to be ceded to the public reinsurer – General Insurance Company of India(GIC Re). Beyond that the portfolio is usually hedged with an International reinsurer. Hence a large chunk has to be reinsured with the foreign reinsurers. Of course, not all companies keep all the remaining 90% of the risk with the reinsurers. Still – it can be said, at least for the agriculture portfolio, the retention ratio of risk among insurers is really low.

In such cases, the possible taxation may disincentivize insurers to Go Rural. Ironically, this comes at a time where consistent efforts are being undertaken  by other State and National Government to encourage insurers entry into rural and emerging markets.

The Meteorological Department and other allied parties are working to create better weather infrastructure to generate reliable weather data which allows greater offering of agriculture weather insurance contracts.

The irony lies in the detrimental impact of the IT Departments effort on the overall Rural and Microinsurance portolfio. .