3 March 2004 External T.I. 2003-0047151E5 - Canadian Taxation of US Pension/IRA Distributions

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Principal Issues: Whether US estate taxes are deductible or creditable in respect of a lump-sum pension payment received by a Canadian beneficiary as a consequence of the death of another person.

Position: No

Reasons: Neither clause 56(1)(a)(i)(C.1) of the Act nor paragraph 1 of Article XVIII of the Canada-US Tax Convention applies. No provisions in the Act to allow for the deduction.

XXXXXXXXXX 								2003-004715
									Éric Allard-Pouliot
March 3, 2004

Dear XXXXXXXXXX:

Re: Technical Interpretation Request: Canadian Taxation of US Pension Plan and IRA Distributions

This is in reply to your letter of November 4, 2003, regarding the above-noted subject. More particularly, you have requested our opinion as to the tax treatment for the purposes of the Income Tax Act (the "Act") of the amounts received by a Canadian resident in the following situations:

? Mr. A, a US citizen and resident, died in 2001;

? During Mr. A's lifetime he had accrued benefits in a US pension plan qualified under subsection 403(b) of the US Internal Revenue Code (the "IRC");

? Upon Mr. A's death a US Estate tax return (form 706) was filed and estate taxes of $40,000 were paid on the value of the US pension plan;

? During Mr. A's lifetime, he had specified that Mr. C, a Canadian citizen and resident who is Mr. A's nephew, was the beneficiary of the US pension plan;

? In 2003, Mr. C received a lump sum distribution in the amount of $100,000 in settlement of his entire interest under the US pension plan (the "UPP Distribution").

The second situation outlined in your request is similar to the first one except for the fact that it involves an IRA qualified under section 408 of the IRC instead of a US pension plan. Consequently, the lump sum distribution made to Mr. C in the second scenario would have been in settlement of his interest under an IRA (the "IRA Distribution").

In your request, you mention that for US income tax purposes both the UPP Distribution and the IRA Distribution are treated as "income in respect of the decedent" and are taxed in the hands of the beneficiary as received. In particular, you indicate that pursuant to subsection 691(a) of the IRC, if Mr. C were a resident of the US he would be required to include in his gross income the entire amount of the UPP Distribution or IRA Distribution, i.e. $100,000. However, you mention that in accordance with subsection 691(c) of the IRC, Mr. C would be entitled to a deduction corresponding to the amount of US estate taxes attributable to the amount of income included under subsection 691(a) of the IRC, i.e. $40,000. Subsection 691(c)(1)(A) of the IRC reads as follows:

"A person who includes an amount in gross income under subsection (a) shall be allowed, for the same taxable year, as a deduction an amount which bears the same ratio to the estate tax attributable to the net value for estate tax purposes of all items described in subsection (a)(1) as the value for estate tax purposes of the items of gross income or portions thereof in respect of which such person included the amount in gross income (or the amount included in gross income, whichever is lower) bears to the value for estate purposes of all the items described in subsection (a)(1)."

With respect to the first scenario, you are of the view that the total amount of the UPP Distribution would have to be included in computing Mr. C's income for the purposes of the Act pursuant to paragraph 56(1)(a) of the Act. However, you claim that Mr. C would be entitled, under paragraph 110(1)(f) of the Act, to a $40,000 deduction in accordance with the provisions of paragraph 1 of Article XVIII of the Canada-United States Tax Convention (the "Convention"). Paragraph 1 of Article XVIII of the Convention, on which you rely, provides that:

"Pensions and annuities arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State, but the amount of any such pension that would be excluded from taxable income in the first-mentioned State if the recipient were a resident thereof shall be exempt from taxation in that other State"

As for the second scenario, you submit that in accordance with clause 56(1)(a)(i)(C.1) of the Act, the amount of the IRA Distribution to be included in Mr. C's income would be limited to $60,000. Clause 56(1)(a)(i)(C.1) of the Act provides that there shall be included in computing the income of a taxpayer for a taxation year:

"(C.1) the amount of any payment out of or under a foreign retirement arrangement established under the laws of a country, except to the extent that the amount would be not, if the taxpayer were resident in the country, be subject to income taxation in the country,"

In your view, the amount of the UPP Distribution and IRA Distribution which corresponds to the estate tax deduction provided under subsection 691(c) of the IRC should be viewed, with respect to the UPP Distribution, as being "excluded from taxable income" in the US for the purposes of paragraph 1 of Article XVIII of the Convention and, with respect to the IRA Distribution, as not being "subject to income taxation" in the US for the purposes of clause 56(1)(a)(i)(C.1) of the Act. As a result, you submit that in both scenarios the amount of income subject to Canadian tax in Mr. C's hands would be limited to $60,000.

Comments

The particular situation outlined in your letter appears to relate to a factual one, involving a specific taxpayer. As explained in Information Circular 70-6R5, it is not this Directorate's practice to comment on proposed transactions involving specific taxpayers other than in the form of an Advance Income Tax Ruling. Should your situation involve a specific taxpayer and a completed transaction, you should submit all relevant facts and documentation to the appropriate Tax Services Office for their views. However, we are prepared to offer the following general comments which may be of assistance.

In our view, in both scenarios the amount to be included in Mr. C's income for the purposes of the Act would be the gross amount (before US withholding, estate and any applicable penalty taxes) of the UPP Distribution or IRA Distribution, as the case may be. The gross amount of the UPP Distribution would be included in Mr. C's income under subparagraph 56(1)(a)(i) of the Act, whereas that of the IRA Distribution would be so included in accordance with clause 56(1)(a)(i)(C.1) (pursuant to section 6803 of the Income Tax Regulations and subsection 248(1) of the Act, IRAs established pursuant to subsection 408(a), (b) or (h) of the IRC constitute "foreign retirement arrangements" for the purposes of the Act). As for the estate tax deduction provided under the IRC, we are of the view that the fact that a US resident is entitled to claim a deduction for previous estate taxes paid in respect of amounts received out of an IRA or UPP does not result in the UPP payment or any part thereof being "excluded from taxable income" in the US within the meaning of paragraph 1 of Article XVIII of the Convention, or in the IRA payment or any part thereof not being "subject to income taxation" in the US within the meaning of clause 56(1)(a)(i)(C.1) of the Act.

In light of the foregoing, we are therefore of the view that in the scenarios submitted in your request Mr. C would have to include the gross amount, i.e. $100,000, of the UPP Distribution or IRA Distribution, as the case may be, in his income pursuant to paragraph 56(1)(a) of the Act and would not be entitled, either pursuant to paragraph 110(1)(f) of the Act and paragraph 1 of Article XVIII of the Convention or clause 56(1)(a)(i)(C.1) of the Act, to a deduction in respect of the US estate taxes paid on the value of the UPP or IRA.

The above comments are an expression of opinion only and are not binding on the Canada Customs and Revenue Agency, as explained in paragraph 22 of Information Circular 70-6R5. We trust that the foregoing will be of assistance to you.

Alain Godin
Section Manager
for Division Director
International and Trusts Division
Income Tax Rulings Directorate
Policy and Planning Branch