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: Taxation of U.S. Annuity Contract proceeds received by Canadian resident from U.S. estate
Position: Gave some general guidelines on taxation of annuity contracts on death.
Reasons: Unable to give definitive reply since we do not have all the necessary details
July 12, 2004
XXXXXXXXXX TSO HEADQUARTERS
Appeals Income Tax Rulings
Directorate
Attn: XXXXXXXXXX S.E. Thomson
Appeals Officer (613) 957-2122
2003-000189
U. S. Annuity contract received on death
This is in reply to your January 31, 2003 request for information regarding the taxation of U.S. annuity contract proceeds received by a Canadian resident on the death of a U.S. resident. We apologize for the delay in responding to your request. Your request is as a result of an appeals file you were working on.
The facts of the situation as provided to us are as follows:
? The deceased was a U.S. resident, U.S. citizen, who held XXXXXXXXXX U.S. annuity contracts at the date of her death in XXXXXXXXXX. She reported her income on the cash basis in the U.S. Income accrued, but unpaid, on the annuity contracts to the date of death was not reported in income by the deceased in the U.S.
? The value of the XXXXXXXXXX annuity contracts (US$XXXXXXXXXX) was included in the deceased's Form 706 United States Estate (And Generation Skipping Transfer) Tax Return. Estate tax in respect of the annuity contracts was paid by the estate. The value of the annuity contracts was not included in her final U.S. income tax return.
? The named beneficiary of XXXXXXXXXX of the annuity contracts upon her death was her estate. (There is conflicting evidence over whether one of these annuities, XXXXXXXXXX, was left to her estate or not, but for purposes of this letter, we will assume that the estate was the named beneficiary of this annuity as well.) The value of these XXXXXXXXXX annuity contracts was paid to the estate, including interest accrued, but unpaid, prior to the death, and income earned after death.
? Under the deceased's will, the residue of her estate was left to her nieces and grandnieces. One of the nieces (the "Taxpayer"), a U.S. citizen resident in Canada, was entitled to XXXXXXXXXX% of the estate. The estate testamentary trust is a resident of the U.S.
? In XXXXXXXXXX, the Taxpayer received a Schedule K-1 (Form 1041) Beneficiary's Share of Income, Deductions, Credits, etc. for her share of the annuity income that was flowed out of the deceased's estate with regard to the XXXXXXXXXX annuities. She reported this amount as "Income in Respect of a Decedent" on her 1040 U.S. Individual Income Tax Return, representing both interest accrued, but unpaid, prior to death, and post-death interest.
? The Taxpayer maintains that the amount paid out of the estate (other than the post-death interest on the annuities) was capital of a trust, and was therefore not taxable to her in Canada.
? It appears that the XXXXXXXXXX remaining annuities were left to the Taxpayer (and possibly other named beneficiaries) and not the estate. XXXXXXXXXX Form 1099-INT slips were issued to the Taxpayer in XXXXXXXXXX reporting interest income from these XXXXXXXXXX annuities.
You would like to know if the distributions from the estate to the Taxpayer in respect of the XXXXXXXXXX annuity contracts are taxable to her in Canada.
For purposes of our response, we have made the following assumptions. However, if any of these assumptions is not borne out by the facts, our comments may not be applicable.
? We assume the deceased was never resident in Canada.
? Even though you have referred to the annuity contracts as "tax-deferred", we assume that the annuity contracts were not in respect of a superannuation or pension fund or plan, nor were they "foreign retirement arrangements" as that term is defined in subsection 248(1) of the Income Tax Act (the "Act") or section 6803 of the Income Tax Regulations (the "Regulations").
? We assume the deceased was the sole policyholder of the XXXXXXXXXX annuities prior to her death, and the estate was the sole policyholder of the XXXXXXXXXX annuities after her death.
? We assume that the lump-sum payments to the estate in respect of the XXXXXXXXXX annuities represent the commuted value of the remaining guaranteed payments under the annuity contracts, and that the estate received them in XXXXXXXXXX.
? We have assumed that the annuity contracts are not "prescribed annuity contracts", as defined in section 304 of the Regulations
? We assume that the annuity contracts are not "life annuity contracts", as defined in section 301 of the Regulations, entered into before November 13, 1981.
Pursuant to paragraph 148(2)(b) of the Act, the holder of an annuity contract is deemed to have disposed of his interest in the contract immediately before death, unless the annuity contract is a life annuity contract entered into before November 13, 1981, or is a prescribed annuity contract. The annuity contract is deemed to have been disposed of for "proceeds of the disposition" (defined in subparagraph (d)(ii) of the definition of that term in subsection 148(9) of the Act) equal to the accumulating fund (as determined in section 307 of the Regulations) of the annuity contract immediately after the time of death. However, since the deceased is not resident in Canada, she is not subject to tax in Canada.
Note that if paragraph 148(2)(b) applies to the annuity contract, subsection 70(1) of the Act will not apply. Note also that by virtue of subsection 70(3.1) of the Act, a life insurance policy is not a "right or thing" (except in certain circumstances not present in this case). By virtue of subsections 138(12) and 248(1) of the Act, a life insurance policy includes an annuity contract. Finally, subsection 70(5) of the Act does not apply to an annuity contract, because the disposition of a life insurance policy (other than certain policies which this is not) does not give rise to a capital gain or loss, by virtue of subsection 39(1) of the Act.
The policyholder of the annuity contract immediately after the death (i.e. the estate) is deemed by paragraph 148(2)(c) of the Act to have acquired the interest at a cost equal to the accumulating fund of the annuity contract immediately after the death. Upon commutation of the annuity contracts, the estate includes in income, by virtue of subsection 148(1) of the Act, the excess of the "proceeds of the disposition" over the "adjusted cost basis", as those terms are defined in subsection 148(9) of the Act. As noted above, the estate is not resident in Canada, and is not subject to tax in Canada.
However, the income of the estate that is paid out to the Canadian resident Taxpayer in the year must be included in the income of the Taxpayer by virtue of subsections 12(1)(m) and 104(13) of the Act. For this purpose, the "income" of the estate is computed in accordance with Part I of the Act. We would expect that if the annuity contracts were commuted soon after they were acquired by the estate, the gain realized by the estate on the commutation would be minimal.
Subsection 108(5) of the Act deems the payment to be income of the beneficiary from a property that is an interest in a trust and not from any other source. The Canadian resident Taxpayer will be entitled to a foreign tax credit for income tax that she paid to the U.S. on the income from the trust, subject to the limitations in section 126 of the Act and paragraph 2 of Article XXII of the Canada-U.S. Income Tax Convention.
Note that we have not commented on the taxation of the remaining XXXXXXXXXX annuity contracts. If you would like our comments on these payments, please let us know.
We trust that our comments have been helpful.
Olli Laurikainen, Manager
for Director
International and Trusts Division
Income Tax Rulings Directorate
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