Warranty and guarantee extensions as insurance business

Companies should carefully assess whether their extended warranties or guarantee offers may qualify as insurance business under German insurance supervisory law, because operating an insurance business without the required licence may constitute a criminal offence. Even non-cash benefits, such as repair services, may trigger a licence requirement, making a thorough product review essential to avoid penal risks. This is accompanied by VAT and insurance tax law issues.

1. Insurance supervision

More and more companies offer their customers extended warranties and other guarantee products (such as a guaranteed replacement in case of destruction or theft). Despite the understandable interest in offering such products to customers, caution is advised in this regard. Such products may qualify as insurance business subject to insurance supervision in Germany. Companies conducting insurance business (Betrieb von Versicherungsgeschäft) are subject to supervision by the German Federal Financial Supervisory Authority (Bundesanstalt für Finanzdienstleistungsaufsicht, “BaFin”) under the German Insurance Supervisory Act (Versicherungsaufsichtsgesetz, “VAG”). Operating insurance business without a licence constitutes a criminal offence (§ 331 VAG).

Despite the importance of the term “insurance business”, the VAG itself does not explicitly define “insurance business”. A gap that was not even filled by the very detailed Solvency II Directive (Directive 2009/138/EC, “Solvency II”). Thus, BaFin continues to apply its pre-Solvency II-understanding. Historically, German courts, in particular the Federal Administrative Court (Bundesverwaltungsgericht, “BVerwG”), have set out criteria for what constitutes an insurance business. Although the BVerwG has not issued any new case law since Solvency II came into effect on 25 November 2009, recent rulings by the Federal High Court (Bundesgerichtshof, “BGH”) in criminal proceedings suggest that the earlier BVerwG principles remain applicable. Therefore, until the European Court of Justice, the European Insurance Supervisor (EIOPA) or the European standard-setter provides more clarity, companies operating in the German market should assess their products against the backdrop of the BVerwG’s established prerequisites for insurance business. If these conditions are met, an extended warranty or guarantee may qualify as insurance business, which is subject to the licensing and compliance requirements under the VAG.

• The company offers its customers some form of benefit (monetary or otherwise) in certain events (even non-cash benefits such as repair services are sufficient).
• The benefit must be granted in return for a payment of a fee or premium. If the customer receives the coverage automatically (e.g., a basic warranty included at no extra charge), it is less likely to be considered an insurance business. However, if additional coverage (an “Extended Warranty” or “Accident Warranty”) is purchased separately, this indicates the required remuneration element.
• The benefit must be triggered by an uncertain event regarding whether, when, or how it occurs (e.g., a defect, theft or accident).
• The provider’s risk must be spread across a sufficiently large group rather than being fully self-financed on a per-contract basis. An intensive actual actuarial calculation is not necessary, however. 
• The contract must not merely be an ancillary element tied inseparably to a main contract (for instance, by narrowly extending a seller’s statutory warranty obligations). A full analysis of the contractual guarantees / warranties is required. 

2. Insurance tax and VAT

In addition to insurance supervisory law, tax treatment is also significant. The tax authorities addressed this issue in the Federal Ministry of Finance (“BMF”) letter dated 11 May 2021 – III C 3 – S 7163/19/10001 :001, DOK2021/0533686. In summary, either insurance tax or VAT is applicable, whereby the assessment must be made independently of insurance supervisory law. This results from Art. 135 para. 1a of the VAT System Directive and Sec. 4 no. 10 lit. a) of the German Value Added Tax Act (“UStG”). According to these provisions, so-called insurance transactions are exempt from VAT (and vice versa, subject to insurance tax). The insurance tax liability initially leads to an increased burden on business customers, as there is no input VAT deduction mechanism for insurance tax, unlike VAT. However, there are also negative consequences for the offering entrepreneur, as they generally lose the attributable input VAT deduction. As a result, they cannot claim the input VAT on the repairs carried out under the agreement (specifically attributable input services) from the tax office. The same applies to the proportionate input VAT incurred on input services that cannot be specifically allocated, which must be calculated according to an input VAT key (Sec. 15 para. 4 UStG). In addition, there may be input VAT adjustments pursuant to Sec. 15a UStG.

When distinguishing between the two, it must first be determined according to VAT criteria whether the guarantee or extended warranty constitutes an independent main service or merely a subordinate ancillary service to a service subject to VAT. This depends on the specific structure. The product offered must have an independent purpose that goes beyond the basic transaction. In the case of a full maintenance contract, for example, there is a uniform service subject to VAT.

Only if the product constitutes an independent service can it be exempt from VAT. Like the insurance transactions mentioned above, insurance transactions are not defined in the VAT Directive. Section 4 No. 10a) UStG does refer to the German Insurance Tax Act (“VersStG”) in order to avoid double taxation. However, this must be interpreted in accordance with EU law. In this regard, the ECJ has established in its case law that a characteristic feature of an insurance transaction is that an insurer undertakes to provide the client with the service agreed upon at the time of conclusion of the contract in the event of the occurrence of the covered risk, in return for the prior payment of a premium (see ECJ ruling of 17 March 2016 – C-40/15). Here, too, it ultimately depends on the contractual arrangement. In particular, the insured risk and the promised benefit must be clearly stated in the contract. The Federal Finance Court (“BFH”) has affirmed the VAT exemption in a specific case for the guarantee promise of a car dealer (BFH of 14 November 2018 – XI R 16/17). It is not relevant whether an insurer holds the necessary licence under national law (see ECJ of 25 February 1999 – C-349/96).

Conclusions

In Germany, offering extended warranty and guarantee products can inadvertently cross into the realm of insurance law. While statutory warranties or minor warranty extensions closely tied to a main sales contract may remain outside insurance regulation, broader coverage such as accident warranties may trigger a licence requirement. Given the penal risks associated with operating without authorisation, companies should closely review their products. 

Furthermore, the tax implications need to be considered. Many such products are subject to insurance tax rather than VAT. This results in a final burden for the entrepreneur due to the exclusion of input VAT and for his business customers due to the non-deductibility of insurance tax.