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: What is the tax treatment of amounts received under a settlement agreement where the amounts were paid in respect of losses incurred in registered and non-registered investment accounts.
Position: Question of Fact.
Reasons: The tax treatment of an amount received under a settlement agreement will depend on the nature of the payment and the recipient of the payment.
2005-011279
XXXXXXXXXX Luisa A. Majerus, CA
(613) 957-2138
April 7, 2005
Dear XXXXXXXXXX:
Re: Receipts - Loss in Investment Accounts
This is in reply to your letter dated January 24, 2005, regarding the proper tax treatment of amounts received under a settlement agreement paid in respect of losses incurred in registered and non-registered investment accounts.
Overview
A number of clients realized substantial losses in their Registered Retirement Savings Plan ("RRSP") and non-registered investment accounts. The investments in question were exposed to significantly more risk that the clients had expected. The advisor to these clients directed them into the investments held in the particular accounts. The clients initiated legal action against the advisor and a settlement agreement was reached providing lump sum payments to the clients. The clients are inquiring about the proper tax treatment of the lump sum amounts received by them in 2004.
Written confirmation of the tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling request submitted in the manner set out in Information Circular 70-6R5, Advance Income Tax Rulings, dated May 17, 2002. Where the particular transactions are completed, the inquiry should be addressed to the relevant Tax Services Office. However, we offer the following general comments.
Generally, the tax treatment and nature of amounts received under a settlement agreement can only be determined after an examination of the relevant agreements on a case-by-case basis. Interpretation Bulletin IT-365R2, Damages, settlements, and similar receipts ("IT-365R2"), discusses generally the income tax treatment of compensation payments from the point of view of the recipient. IT-365R2 can be found on our website at www.cra-arc.gc.ca.
In general terms, where an amount is paid under a settlement agreement to compensate for losses incurred in a non-registered investment account, it is our view that the amount will likely constitute proceeds of disposition as defined in section 54 of the Income Tax Act (the "Act") thereby resulting in a taxable capital gain to the recipient. Where the taxpayer carries on a business of investing and amounts are paid under a settlement agreement to compensate for the loss of income or property in a non-registered investment account, it is our view that such payments will constitute business income for income tax purposes. Furthermore, an amount paid under a settlement agreement that represents interest will have to be included in income under paragraph 12(1)(c) of the Act.
Where an amount is paid under a settlement agreement directly to annuitants in respect of losses incurred in their RRSP accounts, it is our view that the amounts will be taxable to the annuitants under subsection 146(8) of the Act as benefits out of or under registered retirement savings plans. However, where amounts are paid under a settlement agreement directly to an RRSP in respect of losses incurred in that RRSP account, there would be no tax consequence to the annuitant until such time as amounts are withdrawn from the RRSP.
We trust this information is helpful.
Yours truly,
John Oulton, CA
For Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Planning Branch
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