The Principle of Indemnity in Insurance states that in the event of loss or damage due to the occurrence of a risk, the claim paid by the insurance company is supposed to put the insured back in a financial position before the risk occurs. This means the insured should neither make a profit nor a loss when the claim is settled
The figure to be paid out by the insurance is usually agreed upon at the beginning of the policy. This means if the sum assured is worth Kshs 8 million before the risk occurs, then the insurance company will pay Kshs 8 million to the insured.
The Government of Kenya has proposed adding 16.0% VAT to the insurance compensation. This means that the claim paid will be 16.0% less than the sum assured, contradicting the principle of indemnity.
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As much as the move is aimed at enabling the government to raise more revenue, it may deter the insurance industry’s growth. First, Kenya has a low insurance penetration rate of 2.3%, which is below the global average of 7.0%, as insurance is viewed as a luxury and is mostly taken when it is a regulatory requirement. Taxing insurance payouts will give people more reason to be ignorant of the need for insurance
Secondly, taxing the payout means the insured will get a loss, which beats the purpose of insurance. Insurance should protect you from losses in the event that the risk occurs. Already in insurance, there is a term called “excess” which is the amount the insured has to pay before making a claim. Therefore, the insurance company pays the insured the sum assured less the excess.
Thirdly, the common Mwananchi is already complaining about the tough economic environment due to inflation, which is currently at 8.0%, above the targeted range of 2.5% -7.5%. The payment for NSSF has been increased from Kshs 200 to Kshs 1,080. Therefore, taxing insurance payouts is adding a burden on the Mwananchi.
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Fourth, an insurance payout is neither an income nor a capital gain for the insured. Therefore, taxing the insured treats the insurance payout as an income, which is not the case. The cover only brings the insured back to the financial position he or she was in before the loss.
In conclusion, taxing insurance will negatively affect the insurance industry. Already, we have 56 insurance companies, but insurance penetration is still low at 2.3%. Instead, let the government work on creating an enabling environment for the insurance industry. The government should improve the insurance uptake, thereby improving the revenue generated by the insurance companies. This will lead to an improvement in the tax earned by the government. The strategy of taxing insurance payouts is like canning an emancipated donkey to carry more loads instead of feeding it so that it has the energy to carry the load.
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