CRA discusses the implications of TFSAs, RESPs and RDSPs or their controlling individuals receiving damages

It is CRA’s policy to consider that a settlement payment made to an RRSP or RRIF respecting an actionable loss suffered by it will not be treated as a contribution to the plan, nor as such a contribution or a taxable benefit to the annuitant if the damages are paid to the annuitant but are paid over to the plan by the later of the year end and six months after receipt.

When so asked, CRA confirmed that this position applied with modification to TFSAs, RESPs and RDSPs. First, there will be no adverse tax consequences where a settlement payment is made to a TFSA, RESP or RDSP either directly, or indirectly by the holder, subscriber or beneficiary returning the payment to the plan within the timeframe applicable to the RRSP policy. As for the treatment if the settlement payment was instead retained by the holder etc.:

• In the case of a TFSA, the settlement payment would not be taxable as TFSA distributions are not taxable.
• If the payment is received by a holder of an RDSP who is not the beneficiary, the payment would not be a disability assistance payment (DAP) and therefore would not be included in income under s. 146.4(6), but would give rise to an advantage (as discussed below) – whereas if the payment is received by the beneficiary of the plan, the payment would be a DAP and would be included in the beneficiary’s income under s. 146.4(6).
• If the settlement payment was made to the subscriber of an RESP, the payment would be an accumulated income payment (AIP) and would be included in the subscriber’s income under s. 146.1(7.1). As an AIP, it might also be subject to additional tax under Part X.5.

Regarding the advantage rules under ss. 207.01(1) and 207.05:

• Provided that the settlement payment is made on arm’s length terms to compensate for the actual damages suffered by the registered plan, the payment would not give rise to an advantage.
• There would be no advantage where a settlement payment is made to the controlling individual of a registered plan and not returned to the plan – except that if the settlement payment is made to an RDSP holder who is not the beneficiary, the payment would be a registered plan strip (as defined in s. 207.01(1)) and therefore an advantage under para. (d) of the advantage definition (because the exclusion from the registered plan strip definition for TFSAs and for amounts included in income would be inapplicable).

Neal Armstrong. Summaries of 25 February 2021 Internal T.I. 2020-0865641I7 under s. 146(8), s. 207.01(1) – unused TFSA contribution room – (b) – D, s. 207.01(1) – registered plan strip, and s. 146.1(7.1).