Income Tax Severed Letters - 2024-02-14

Principales Questions: (1) Whether subsection 106(3) takes precedence over subsection 148(7) where a discretionary trust transfers an interest in a life insurance policy to its corporate beneficiary as payment of a dividend in kind received by the trust? (2) Whether a corporate beneficiary receiving an interest in a life insurance policy from a trust as payment of a dividend in kind received by the trust should be considered as having given a consideration for the interest in the life insurance policy? (3) Whether subsection 107(2) would be applicable if the dividend is paid by the trust by the issuance of a promissory note, which would be settled in kind the following year by the transfer of the life insurance policy to the corporate beneficiary?

Position Adoptée: (1) None. General comments provided. (2) Yes. (3) No.

Raisons: (1) and (2) There will be a disposition of all or part of the beneficiary’s income interest in favor of the trust when the trust distributes the life insurance policy to its beneficiary in satisfaction of all or part of the beneficiary’s income interest. Determining the FMV of an income interest in a trust at any given time is a question of fact. To the extent that it is determined that at the time of disposition of the life insurance policy, the beneficiary’s income interest under the trust would include the right to enforce payment of an amount by the trust equal to the FMV of the life insurance policy, it could be argued that the consideration given by the beneficiary to the trust for the interest is equal to the FMV of that life insurance policy. In this context, the tax consequences that would arise from the disposition of the policy would be the same whether subsection 106(3) or 148(7) applies. Since it is not clear that such a result is consistent with tax policy, we will bring this issue to the attention of the Department of Finance. (3) A payment in kind to settle a promissory note is not a situation where a distribution of property from a trust is resulting in a disposition of all or part of the beneficiary’s interest in the capital of the trust. This is rather a situation where a debtor repays its debt to its creditor. The transfer of the life insurance policy by the trust in favor of its beneficiary in repayment of the promissory note gives rise to the application of subsection 148(7). The consideration given by the beneficiary to the trust for purposes of clause 148(7)(a)(ii)(B) corresponds to the amount of the debt being settled.

Principales Questions: Whether rights held by an employee under a DSU plan can be transferred to a corporation pursuant to section 85?

Position Adoptée: No.

Raisons: Income from DSUs is employment income therefore, DSUs do not qualify as “eligible property” for the purpose of subsection 85(1.1).
Moreover, the transfer of DSUs to a person other than the employee during the employee's lifetime would result in the plan not meeting the conditions of paragraph 6801(d) of the Regulations with respect to the employee, such that the plan would be an SDA. This would also result in an immediate income inclusion by virtue of subsection 6(11) and paragraph 6(1)(a) of the Act to the employee for the FMV of his/her units. Subsequent increases of the FMV of the rights would also be subject to tax on a yearly basis as per paragraph 6(1)(a) and subsection 6(11).
Furthermore, such a transfer can indicate that the plan had never met the conditions of paragraph 6801(d) of the Regulations such that the SDA rule would apply retroactively.

Principales Questions: 1. Whether the gross amount of a registered pension plan (RPP) survivor benefit paid to a graduated rate estate (GRE) (that is, the net amount paid to the GRE plus an amount equivalent to the amount of tax withheld at source in respect of the survivor benefit) in a year may be designated under subsection 104(27) as an eligible amount for the purposes of paragraph 60(j) where, in addition to paying the net amount to the deceased’s surviving spouse in the year, the GRE:
(a) uses other assets to pay to the deceased’s surviving spouse an amount equal to the tax withheld?
(b) issues, in the year, a promissory note in an amount equal to the tax withheld, payable on demand, to the deceased’s surviving spouse?
2. Could the surviving spouse claim a deduction under paragraph 60(j) if he/she transferred up to $40,000 of the eligible amount to a first home savings account (FHSA)?

Position Adoptée: 1. (a) Yes, provided that the deceased’s surviving spouse is legally entitled to receive the gross survivor benefit out of the deceased’s GRE.
(b) Yes, provided that the deceased’s surviving spouse is legally entitled to receive the gross survivor benefit out of the deceased’s GRE and further provided that nothing prevents the note from being enforceable in the year.
2. No.

Raisons: 1. As long as the gross amount is first payable to the surviving spouse under the general applicable law and it is either paid in the year to the surviving spouse, or the surviving spouse has a legal right to enforce payment of the amount, the amount will be payable within the meaning of subsection 104(6) and 104(13). As a result, a designation under subsection 104(27) would generally be available.
2. Paragraph 60(j) does not apply in respect of amounts paid as a contribution to a FHSA. Moreover, any amount in excess of $8,000 contributed to a FHSA in 2023 would result in an excess FHSA amount.