Tax Court of Canada Judgments

Date: 20000630

Docket: 98-1872-GST-G

BETWEEN:

HEALTHCARE INSURANCE RECIPROCAL OF CANADA,

Appellant,

and

HER MAJESTY THE QUEEN,

Respondent.

Reasons for Judgment

Sarchuk J.T.C.C.

[1] This is an appeal by Healthcare Insurance Reciprocal of Canada from an assessment of goods and services tax (GST) dated March 3, 1998 and relating to the period September 1, 1996 to November 30, 1997.

[2] At the commencement of the hearing, the parties filed the following Statement of Agreed Facts:

1. The Appellant is an unincorporated organization. The Appellant's principal place of business is located at 4100 Yonge Street, Suite 412, Toronto (North York), Ontario, M2P 2B5.

2. The Appellant was established on July 1, 1987. The members of the Appellant (the "Members") are health care institutions across Canada. A majority of the Members are "hospital authorities" as defined in subsection 123(1) of the Excise Tax Act (Canada) ("Act").

3. The Appellant was established in order to enable the Members to insure the risks inherent in their activities. The Appellant is licensed as a reciprocal or inter-insurance exchange within the meaning of Part XIII of the Insurance Act, R.S.O. 1990, c.I.8 and within the meaning of the insurance laws of certain other provinces in Canada.

4. Throughout the relevant period for this appeal, the Appellant was governed by a board of fourteen directors. The Appellant's management consists of an Attorney and Chief Executive Officer and four Vice-Presidents.

5. During the period September 1, 1996 to November 3, 1997, the Appellant had from 201 to 234 Members.

6. Members' obligations are contained in a Subscriber's Agreement and in an agreement entitled "Health Care Comprehensive Casualty Insurance Policy, Master Policy Number 1995/1" (the "Policy"). Both of these agreements are contained in the Common Book of Documents.

7. The Appellant's activities include monitoring, arranging for the defence of, and settling claims, administering funds, co-ordinating and implementing the inter-exchange of insurance among the Members, risk management, regulatory compliance, and accounting and record-keeping services.

8. Effective January 1, 1991, the Appellant became a registrant for purposes of the goods and services tax ("GST") levied pursuant to Part IX of the Act.

9. During the period September 1, 1996 to December 31, 1996 and in accordance with advice received from its professional advisors, the Appellant charged and collected GST on the fees paid to it by the Members in the amount of $148,283, and claimed input tax credits of $119,124. Pursuant to the Public Service Body Rebate (GST/HST) Regulations, Members claimed rebates of 83% of the aforesaid GST amount, being $123,075 in total.

10. In the course of an audit undertaken by the Minister in 1996, the Minister's auditor received an opinion from the GST Rulings and Interpretations Section of Revenue Canada. A copy of that opinion is contained in the Common Book of Documents.

11. In view of the dispute with the Minister, for the period January 1, 1997 to November 30, 1997, the Appellant did not collect GST from the Members, but did remit to Revenue Canada the sum of $143,662, being the difference between (i) $476,591, being 7% of the fees charged to the Appellant's Members in this period, and (ii) input tax credits of $332,929 earned by the Appellant during this period.

12. By Notice of (Re)Assessment No. 00000000302, dated March 3, 1998, the Minister assessed the Appellant, for the period September 1, 1996 to November 30, 1997, as follows:

(a) the Minister disallowed, for the period September 1, 1996 to December 31, 1996, input tax credits claimed by the Appellant in the net amount of $93,916, being the amount of input tax credits claimed by the Appellant less 17% of the GST that the Appellant charged to the Members;

(b) credited the Appellant with the amount of $143,662 remitted for the period January 1, 1997 to November 30, 1997; and

(c) charged interest and penalties of $1,095.08 and $2,680.44, respectively.

13. By Notice of Decision dated May 15, 1998, the Minister confirmed the assessment.

14. The parties agree that an issue in this appeal is whether the Appellant supplied "financial services" as defined in subsection 123(1) of the Act to the Members, and, accordingly, was not required to collect GST on the fees that it charged to the Members and was not eligible to claim input tax credits for the GST that it paid on costs and expenses it incurred in the course of providing services to the Members. The other issue is whether the penalties were properly levied against the Appellant.

[3] Evidence was also adduced on behalf of the Appellant from Gregory Bruce King, the Appellant's vice-president for finance and administration.

Statutory Provisions:

[4] 123(1) DEFINITIONS – In section 121, this Part and Schedule V to X.

"exempt supply" means a supply included in Schedule V;

"financial instruments" means

...

(c) an insurance policy,

"financial service" means

...

(d) the issue, granting, allotment, acceptance, endorsement, renewal, processing, variation, transfer of ownership or repayment of a financial instrument,

...

(f.1) the payment or receipt of an amount in full or partial satisfaction of a claim arising under an insurance policy,

...

(h) the underwriting of a financial instrument,

...

(l) the agreeing to provide, or the arranging for, a service referred to in any of paragraphs (a) to (i), or

...

but does not include

...

(t) a prescribed service;

“insurance policy” means

(a) a policy or contract of insurance (other than a warranty in respect of the quality, fitness or performance of tangible property, where the warranty is supplied to a person who acquires the property otherwise than for resale) that is issued by an insurer, including

(i) a policy of reinsurance issued by an insurer,

(ii) an annuity contract issued by an insurer, or a contract issued by an insurer that would be an annuity contract except that the payments under the contract

(A) are payable on a periodic basis at intervals that are longer or shorter than one year, or

(B) vary in amount depending on the value of a specified group of assets or on changes in interest rates, and

(iii) a contract issued by an insurer all or part of the insurer's reserves for which vary in amount depending on the value of a specified group of assets,

(b) a policy or contract in the nature of accident and sickness insurance, whether the policy is issued, or the contract is entered into, by an insurer, and

(c) a bid, performance, maintenance or payment bond issued in respect of a construction contract;

"insurer" means a person who is licensed or otherwise authorized under the laws of Canada or a province to carry on in Canada an insurance business or under the laws of another jurisdiction to carry on in that other jurisdiction an insurance business;

Financial Services (GST) Regulations

Prescribed Services

4(1) In this section,

"instrument" means money, an account, a credit card voucher, a charge card voucher or a financial instrument;

"person at risk" in respect of an instrument in relation to which a service referred to in subsection (2) is provided, means a person who is financially at risk by virtue of the acquisition, ownership or issuance by that person of the instrument or of a guarantee, an acceptance or an indemnity in respect of that instrument.

4(2) Subject to subsection (3) the following services, other than a service described in section 3, are prescribed for the purposes of paragraph (t) of the definition "financial service" in subsection 123(1) of the Act:

(a) ...

(b) any administrative service, including an administrative service in relation to the payment or receipt of dividends, interest, principal, claims, benefits or other amounts, other than solely the making of the payment or the taking of the receipt.

4(3) A service referred to in subsection (2) is not a prescribed service for the purposes of paragraph (t) of the definition "financial service" in subsection 123(1) of the Act where the service is supplied with respect to an instrument by

(a) a person at risk,

(b) a person that is closely related to a person at risk, where the recipient of the service is not the person at risk or another person closely related to the person at risk, or

(c) an agent, salesperson or broker who transfers ownership of the instrument for a person at risk or a person closely related to the person at risk.

Appellant's position

[5] The Appellant says it is a "person" distinct from its Subscribers, within the meaning of "person" in subsection 123(1) of the Act, was capable of being registered (and in fact was registered) for GST purposes, charging GST on its taxable supplies, and claiming input tax credits (ITCs). I should observe that the Respondent takes no exception to the foregoing proposition.

[6] The Appellant contends that the services provided by it were not exempt "financial services". This position is premised on its view that paragraphs (d), (f.1) and (l) of the definition of "financial services" do not apply to it because there is no "financial instrument", i.e. no "insurance policy" within the meaning of that term in subsection 123(1) of the Act. The Appellant argues that the definitions of "insurance policy" and "insurer" require two things: the existence of a policy or contract of insurance and that the said policy or contract of insurance be "issued by an insurer". The Appellant does not dispute that the Master Policy[1] is a policy or contract of insurance but submits: (a) that it was not issued by the Appellant; and (b) nor was it issued by an "insurer" within the meaning of the insurance laws in those jurisdictions in which the Appellant held a license.

[7] As to the first point, the Appellant contends that it did not issue the Master Policy and says this fact is evident from the language of the Master Policy and the certificates of insurance which describe the "Insurer" to be the subscribers to Healthcare Insurance Reciprocal of Canada through the Attorney. Counsel submitted that the relevant GST provisions are to be enforced in a manner that respects the intentions and written arrangements of the Appellant's subscribers which was to provide for self-insurance through a reciprocal arrangement as a way to achieve long-term savings and insurance costs and stability of coverage. Thus, the Appellant was not an insurer in that "it is and holds its licenses as merely the medium through which its subscribers contractually exchange risks with each other".

[8] With respect to the second point, the Appellant says that the "true issuers" of the Master Policy were the subscribers. However, counsel argues, section 123 of the Act defines an "insurer" as a person who is licensed or otherwise authorized under the laws of Canada or a province to carry on an insurance business. Section 379 of the Insurance Act (Ontario) (Insurance Act (ON)), (R.S.O. 1990, ch. I.8, as amended) specifically provides that members of a reciprocal, such as the subscribers, are not to be considered insurers.

[9] Thus, it is argued, the Master Policy cannot be an "insurance policy" for the purposes of Part IX of the Act because it is not issued by an "insurer" within the meaning of that term in the relevant insurance laws. It follows, according to counsel, that the Appellant cannot be considered to be making supplies of exempt financial services within the meaning of paragraph (l) of the definition since it refers to agreeing to provide services such as those described in paragraphs (d) and (f.1) which necessarily require the existence of an insurance policy within the meaning of that term in the Act.

Respondent's position

[10] The Respondent does not dispute that the Appellant is a person within the meaning of subsection 123(1) of the Act, was registered for GST purposes and was entitled to charge GST on its taxable supplies and to claim ITCs. However, the Respondent takes the position that the Appellant is an "insurer" for the purposes of subsection 123(1) of the Act because, inter alia, it is licensed under the Insurance Act (ON). The individual subscribers to the Appellant are not insurers for the purposes of either the Insurance Act (ON) or the Excise Tax Act. The Respondent argues that it is the Appellant who issues and processes insurance policies ("financial instruments") and pays amounts in satisfaction of claims arising under insurance policies. The individual subscribers do not. The essential aspect for each subscriber is that it is insured. The vehicle of the reciprocal is designed to provide greater availability and lower premiums than using a standard source of insurance. The insurance issued to a subscriber is from the Appellant; it may not and does not come directly from the other subscribers, which are not insurers. It is the reciprocal as a whole which self-insures; individual subscribers do not self-insure. The result does not change because the individual subscribers pay premiums to and fund shortfalls of the Reciprocal. The Appellant therefore supplied exempt financial services.

Analysis

[11] A reciprocal insurance exchange is a form of mutual insurance by a group of organizations having in common certain activities. The type of insurance the reciprocal can offer encompasses all classes of insurance for which an insurance company may be licensed under the Insurance Act (ON) except life, accident, sickness and surety.[2] Subsection 42(1) of the Insurance Act (ON) specifically includes reciprocal exchanges[3] as one of the classes of insurers which may be licensed. Furthermore, section 379 of that Act stipulates that no person shall be deemed to be an insurer within the meaning of this Act by reason of exchanging with other persons reciprocal contracts of indemnity or inter-insurance. As is the case with all insurance companies that offer insurance to the public, the reciprocal is licensed and monitored on a continuous basis by the Ontario Superintendent of Insurance. Subsection 390(1) of the Insurance Act (ON) authorizes the suspension or revocation of a license where an exchange contravenes any provision of that Act.

[12] The Insurance Act (ON) contemplates that a reciprocal exchange is an organization separate from its Subscribers who can only "exchange" insurance through the reciprocal exchange and not directly. The insurance coverage issued to a subscriber is from the Appellant, it does not come directly from the other subscribers and indeed, it cannot, given the language of the Insurance Act (ON). It is the reciprocal as a whole which self-insures, individual subscribers do not. It is only through the reciprocal arrangement that such self-insurance is achieved. It is fair to say that this legislation requires the reciprocal, the Appellant in this case, to assume a capacity in doing business by inter alia issuing policies (since the subscribers are forbidden to do so by law), collecting premiums, and investing funds. It is also subject to regulation and is responsible for attending to claims and responding to suits on behalf of subscribers. Put another way, it carries out an important functional responsibility, i.e. the insurance responsibility. It is for these reasons that reciprocals soliciting or undertaking risks situate in Ontario must apply for and secure a license from the Ontario Insurance Commission.

[13] The legal status of a reciprocal exchange was considered in Ontario School Boards' Insurance Exchange v. Peel Board of Education et al.[4] The Plaintiff was an insurance reciprocal duly created and licensed under Part XIII of the Insurance Act (ON). Peel Board of Education moved for an Order striking out the statement of claim on the ground that as an unincorporated association, the Plaintiff had no legal capacity to sue in its own name. In rejecting Plaintiff's motion, Molloy J. made the following comments:

6. OSBIE is deemed to be an insurer under the provisions of the Insurance Act. A reciprocal insurer is described by John Weir in the Annotated Insurance Act of Ontario, [Toronto: Carswell], 1986 as follows:

A reciprocal insurance exchange is a voluntary arrangement whereby a group of entities (individual or incorporated) contract with each other to share their individual losses (self – or third-party generated) in a collective predetermined manner: s.1 – definitions.

Liabilities/losses are generally funded from an initial contributions pool with any deficiencies made up via open-ended assessments against each individual subscriber/member pursuant to the formulae set out in the subscriber's agreement.

A 'reciprocal' is a sophisticated form of not-for-profit self/mutual insurance requiring a structure and professional expertise not unlike an insurance company. A reciprocal (but not an individual subscriber/member) is an 'insurer' for the purposes of the Insurance Act and related legislation.

[my emphasis added]

7. The issue before me is whether the Insurance Act expressly or by implication bestows upon reciprocals the power to sue or be sued in their own name. S. 380 of the Insurance Act provides:

(1) Reciprocal contracts of indemnity or inter-insurance may be executed on behalf of subscribers by any other person acting as attorney under a power of attorney, a copy of which has been duly filed as hereinafter provided.

(2) Despite any condition or stipulation of any such power of attorney or of any such contract of indemnity or inter-insurance, any action or proceeding in respect of any such contract may be maintained in any court of competent jurisdiction in Ontario.

8. It seems to me that s. 380(2) confers upon a reciprocal such as OSBIE the right to sue and be sued in its own name in respect of its reciprocal contract of insurance. ...

13. I agree with that distinction. The cases in which the capacity to sue have been found not to arise have been situations involving entities such as political parties, trade unions or administrative bodies: see Westlake, supra, Hollinger Bus Lines v. Ontario Labour Relations Board, (1952) 3 D.L.R. 162 (Ont. C.A.); McKinney v. Liberal Party of Canada et al (1987), 61 O.R. (2d) 680 (S.C.O.); Wheeler v. Darcey, (1995), 25 O.R. (3d) 412 (Gen. Div.). By contrast, the reciprocal insurer is not an administrative body but rather is engaged in a commercial enterprise akin to that of an insurance company. Section 42(1) of the Insurance Act empowers the licensed insurer (which OBSIE is) to "undertake contracts of insurance" and "carry on business in Ontario". Section 42(2) of the Insurance Act provides:

   [my emphasis added]

A licenseissued under this Act authorizes the insurer named therein to exercise in Ontario all rights and powers reasonably incidental to the carrying on of the business of insurance named therein that are not inconsistent with this Act or with its Act or instrument of incorporation or organization (emphasis added).

14. In my opinion an entity which is carrying on business as an insurer and which is specifically empowered to exercise all rights incidental to carrying on that business of insurance must necessarily have the right to take legal action to enforce those rights. A legal action to enforce the contract of reciprocal insurance, or to obtain damages for its breach, or for inducing its breach is, in my opinion, incidental to OBSIE's business. As such, OBSIE must, by implication have the power to sue and be sued at least insofar as that business is concerned.

The rationale applied by Molloy J. in my view confirms that all of the necessary insurance functions and requirements of the Insurance Act (ON) are fulfilled by the reciprocal, in this case the Appellant and not the subscribers. This conclusion can be supported by reference to other subsections of the Insurance Act (ON) such as subsection 48(2) which fixes a minimum standard of financial stability specifically applicable to a reciprocal; subsection 387(1) which requires that surplus insurance funds and the reserve fund of the exchange shall be invested by the reciprocal in the class of securities authorized for a joint stock insurance company; section 391 requires the attorney for an exchange to pay to the Treasurer of Ontario an annual tax in respect of premiums or deposits "collected by the exchange" in the same manner as if they had been received by a licensed insurer; section 388 gives statutory recognition to the fact that liability on a contract of indemnity, inter-insurance or insurance is taken by the exchange on behalf of the subscribers; and subsection 381(g) provides that the exchange through the attorney must provide evidence satisfactory to the Superintendent that it requires its subscribers to maintain "a premium deposit reasonably sufficient for the risk assumed by the exchange". This is explicit recognition that the risk is undertaken by the reciprocal even though it is the subscribers who ultimately underwrite the risk. In this context, I note that the Reinsurance Agreements entered into by the Appellant operate to indemnify it for any loss or losses sustained on any Certificates of Insurance issued to its insured under the Master Policy. As well, the Notes to the Appellant's financial statements state that:

Reinsurance

During the year, the Reciprocal ceded insurance on an "excess-of-loss" basis to reinsurers for premiums of ... Such reinsurance arrangements limit the Reciprocal's liability in the event of large losses. Notwithstanding the reinsurance arrangements, the Reciprocal maintains the liability to the Subscribers. The Reciprocal expects to fully collect all amounts recoverable from reinsurers.[5]

[14] I am unable to accept the Appellant's position that a reciprocal arrangement is nothing more than an exchange of private contracts managed by an entity which has no responsibility beyond the administration of the arrangement. Aside from the fact that the language used in the enabling legislation clearly indicates that a reciprocal exchange such as the Appellant is declared to be within the purview of the statute regulating the conduct of the business of insurance it is indisputable that the subscribers can only function as an insurance organization through the Appellant. The subscribers do not have legal title to or responsibility for the Appellant's investments consisting of cash, treasury bills, short-term commercial paper, bond and common and preferred shares. The Appellant as a licensed and audited entity has liabilities, being claim reserves, accounts payable, premium taxes, etc. and has underwriting revenue and underwriting profit.[6] The Appellant has a Board of Directors which is required "to manage or supervise the management and the business and affairs of the Reciprocal", as distinct from the business and affairs of the individual members. The subscribers' pay "premiums" to the Appellant which comprise such elements as the Board determines, including but not limited to, claims, adjusting and defence costs, reinsurance, premium taxes, reserves and operating expenses. As is the case with insurance companies, reciprocals must base premiums on a proper assessment, usually by an actuary, of the experience of losses and the likelihood of future claims by policy holders or members of the reciprocal exchange. In the Appellant's case, its board must in each year, on the advice of the Actuary and the Attorney, determine the premium required to be paid by each subscriber and the deductible available to each for the purposes of the reciprocal.[7]

[15] The Appellant has argued that the language used in certain of the contracts of insurance establishes that the issuers of the policies are the subscribers. The Insurance Act (ON) imposes a number of conditions which the Appellant and its subscribers must observe before the Appellant can engage in the business of insurance. Thus, the subscribers can only engage in the insurance business by designating an attorney and a reciprocal exchange to do so on their behalf. In these circumstances, the subscribers have voluntarily availed themselves of the benefits and privileges of exchanging insurance and have agreed by implication to do so through a reciprocal exchange which in turn must meet the requirements laid down in the provincial insurance statutes. It follows that all aspects of the carrying on of an insurance business including the issuing of policies falls within the purview of the authority granted to the Attorney. The fact that the Master Policy may describe the subscribers as the insurers does not make them so since the insurance statutes specifically state that they cannot be and are not the insurers. Indeed, if they were this would be a contravention of the Insurance Act (ON) which would likely lead to a suspension or revocation of the Appellant's license.

[16] While not proof of the fact, it is interesting to note how the Appellant itself characterized its services. In the 1997 report of the Attorney and Chief Executive Officer,[8] the following comments are found:

The Healthcare Insurance Reciprocal of Canada (HIROC) is the largest health care liability insurer in Canada. Established as the Hospital Insurance Reciprocal of Ontario in 1987, HIROC provides Subscribers in Ontario, Manitoba, Newfoundland and Labrador, and Saskatchewan with comprehensive insurance coverage, risk management, advisory services and exceptional claims management expertise.

And

... As Canada's health care liability insurance specialist, we provide our Subscribers with a comprehensive range of exceptional client services, including risk management programs, innovative insurance products and claims management expertise, that deliver solid protection and long-term financial stability in the rapidly changing health care environment.

The Attorney also made reference to the Appellant's innovative underwriting services stating:

... By leveraging our relationships within the insurance and reinsurance industries world-wide and by maximizing economies of scale, out underwriting managers have delivered a progressively broad range of innovative, cost-effective insurance products that consistently meet our clients' needs. These include coverage for Environmental Impairment Liability and Crime Insurance (employee dishonesty) and liability coverage up to $20 million that includes Directors and Officers liability.

Furthermore, HIROC's privileged access to the marketplace allows us to offer unique liability products not currently offered by commercial underwriters. Among them, coverage that includes injunctive relief from lawsuits that do not include claims for damages and, more recently, HIV/AIDS supplementary payments.

I note as well that in selling its product, the Appellant often described itself as the insurer.[9]

[17] Did the reciprocal supply financial services? Subsection 123(1) defines "financial service" to include in paragraph (d) the issue, granting, allotment, ... renewal, processing ... of a financial instrument the definition of which includes an insurance policy. Subsection (f.1) relates to the payment ... of a claim arising under an insurance policy while subsection (l) includes the agreeing to provide, or arranging for, a service referred to in paragraphs (a) to (i). I am satisfied that the Appellant was a licensed insurer and fulfilled the criteria set out above including the issuing of the insurance policy. It therefore supplied financial services. I have concluded that the Appellant was, during the relevant time, a licensed insurer that provided a financial service to its Subscribers by inter alia the underwriting of a financial instrument, in this case, an insurance policy, as those terms are defined in subsection 123(1) of the Act.

[18] In the alternative, the Appellant submitted that if it did provide financial services, such services are specifically excluded from exempt status because they are administrative services. Counsel argued that paragraph (t) of the definition of "financial service" in subsection 123(1) of the Act read together with paragraph 4(2)(b) of the financial service (GST) regulations excludes "any administrative service" from the definition of "financial service". It is the Appellant's position that the fees it receives from subscribers are paid in consideration for its provision of administrative services.

[19] I am of the view that at the exclusion provided in paragraph 123(1)(t) does not apply in the present circumstances. This is not a case where the Appellant merely provided data processing or administrative services in isolation since as I have found, the Appellant did provide the underlying financial instrument, i.e. an insurance policy. The services described by the Appellant's counsel as not excluded by subsection 4(3) of the Regulation cannot in my view be separated from the financial service of providing insurance itself. As well, on the evidence, it would be reasonable to conclude that any administrative services provided by the Appellant were supplied by a person at risk. Accordingly, the Appellant's activities fall within the scope of paragraphs (d), (f.1), (h) and (l) of the definition of financial services and are exempt.

[20] Counsel for the Respondent advised the Court that the Minister of National Revenue was not contesting the appeal with respect to the penalty issue. To that extent the appeal is allowed. In all other respects, the appeal is dismissed.

Signed at Ottawa, Canada, this 30th day of June, 2000.

"A.A. Sarchuk"

J.T.C.C.

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