18 July 2008 Internal T.I. 2007-0250111I7 - Attributed Surplus of a Non-resident Insurer

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:

1) What line on the OSFI reports represents the "margin of assets in Canada over liabilities in Canada required to be maintained by the insurer" referred to in the definition of "attributed surplus"?

2) Is the calculation of an insurer's "attributed surplus" in a particular year impacted by changes made by OSFI on the regulatory reports in subsequent years?

Position:

1) For 2004, the amount described as the "Required Margin" on Line #035 of the OSFI TAAM Schedule and on Line #120 of the OSFI TAAC Schedule.

2) No.

Reasons:

Words of the legislation.

								July 18, 2008

	TORONTO EAST TSO					HEADQUARTERS
	Industry Specialist Services  		Income Tax Rulings
		   						Directorate
	Attention:  John Luck				Helen Zelobowski
(519) 571-6987

								2007-025011

The "Attributed Surplus" of a Non-resident Insurer

We are writing in response to your memorandum dated August 23, 2007, where you requested our comments relating to the determination of a non-resident insurer's "attributed surplus" for purposes of the calculation of the insurer's Canadian Investment Fund for its 2004 taxation year. Specifically, you have asked what line on the regulatory reports prepared for the Superintendent of Financial Institutions ("OSFI") represents the "margin of assets in Canada over liabilities in Canada required to be maintained by the insurer" referred to in the definition of "attributed surplus" in subsection 2400(1) of the Regulations to the Income Tax Act (the "Regulations"). You have also enquired whether the calculation of the insurer's "attributed surplus" in a particular year is impacted by changes in descriptions and format made by OSFI on the regulatory reports in subsequent years.

Definition of "Attributed Surplus

The "attributed surplus" of a non-resident insurer for a taxation year is defined in subsection 2400(1) of the Regulations. The components of this calculation include the following amount described in subparagraph (b)(ii) of the definition:

(ii) if the insurer does not elect under subparagraph (i) for the year, 120% of the total of all amounts each of which is 50% of the amount determined in accordance with regulations or guidelines made under Part XIII of the Insurance Companies Act to be the margin of assets in Canada over liabilities in Canada required to be maintained by the insurer as at the end of the year or as at the end of the preceding taxation year in respect of an insurance business carried on in Canada (other than a property and casualty insurance business).

The issue is what represents the "...amount determined in accordance with regulations or guidelines made under Part X111 of the Insurance Companies Act to be the margin of assets in Canada over liabilities in Canada required to be maintained by the insurer ..."

Insurance Companies Act

Part X111 of the Insurance Companies Act (the "ICA") deals with foreign companies. Subsection 608(1) of this Part requires a foreign company to maintain an adequate margin of assets in Canada over liabilities in Canada in relation to its insurance risks in Canada. Section 3 of the "Assets (Foreign Companies) Regulations" to the ICA deals with the value of assets required to be maintained in Canada and states the following:

3. Subject to sections 6 and 7, every foreign life company shall, in relation to its insurance risks in Canada that fall within the classes of life insurance, accident and sickness insurance and loss of employment insurance, maintain assets in Canada the total value of which, when determined in accordance with the accounting principles referred to in subsection 331(4) of the Act, is at least equal to the aggregate of

(a) the amount of the reserve for actuarial and other policy liabilities of the foreign life company in respect of those classes, determined on the same basis as the reserve included in the annual return of the foreign life company, minus the amount of all advances made by the foreign life company on the security or against the cash surrender value of its life policies in Canada,

(b) the amount of the provision for claims incurred by the foreign life company in respect of those classes that are unpaid,

(c) the total amount of the other liabilities of the foreign life company in respect of those classes, and

(d) the margin of assets in Canada over liabilities in Canada that the foreign life company is required, pursuant to section 608 of the Act, to maintain in respect of the insuring of those risks.

In our view, the above description in paragraph (d) is the required margin that is referred to in the definition of "attributed surplus" in the Regulations to the Income Tax Act. Pursuant to subsection 608(3) of the ICA, the Superintendent may make guidelines in respect of this requirement.

OSFI Guidelines

Guidelines Pertaining to 2004 Fiscal Periods

OSFI has published guidelines outlining the Minimum Continuing Capital and Surplus Requirements (MCCSR) for Life Insurance Companies. Page 7-1-1 of the 2004 version of this guideline states that the test of Adequacy of Assets in Canada and Margin Requirements (TAAM) that are set out in the guideline provide the framework within which the Superintendent assesses whether a company operating in Canada on a branch basis maintains an adequate margin pursuant to subsection 608(1) of the ICA. The guideline indicates that the minimum TAAM ratio, defined as the "available margin" divided by the "required margin" for life insurers is 120%. This percentage is consistent with the percentage of the required margin of assets over liabilities that is included under subparagraph (b)(ii) of the calculation of "attributed surplus" under subsection 2400(1) of the Regulations.

The guideline states that this "required margin" covers various risk components and is calculated by applying factors to the assets under the control of the Minister, to specific Chief Agent assets and to the liabilities in Canada. These risk components include asset default risk, mortality risk, interest margin pricing risk, changes in interest rate risk, environment risk, off balance sheet activities, and segregated fund guarantee risk.

In our view, the "amount determined in accordance with regulations or guidelines made under Part X111 of the Insurance Companies Act to be the margin or assets in Canada over liabilities in Canada required to be maintained by the insurer" for purposes of the calculation of the insurers "attributed surplus" is the sum of the amounts determined for these risks. For 2004, this sum is reported on Line #035 of OSFI Schedule 24.010 "Required Margin"(TAAM) and on Line #120 of OSFI Schedule 13.00 "Test of Adequacy of Assets in Canada"(TAAC) and is described on these reports as the "Required Margin".

Guidelines Pertaining to 2003 Fiscal Periods

As noted above, the calculation of an insurer's "attributed surplus" takes into account the margin required to be maintained at the end of the taxation year as well as that required to be maintained at the end of the preceding year. Accordingly, it is also necessary to review the OSFI guidelines and reports in respect of the 2003 year. The TAAM and TAAC reports as well as the corresponding guidelines for 2003 differ from those that apply to the 2004 year as OSFI had changed the format of these reports, including both line numbers and terminology in 2004. The 2003 reports and guidelines refer to a "Gross Required Margin" and a "Net Required Margin" and it was less clear in that year which of these amounts represented the margin referred to in the definition of "attributed surplus" in the Regulations. However, consistent with the 2004 guidelines, it was the gross required margin that was used in the TAAM ratio in 2003. While the OSFI changes in 2004 included a reformatting of the TAAM test and a change in some of the terminology, we understand that these changes were made only to clarify the existing requirements. Accordingly, in our view, consistent with the 2004 year, the insurer's required margin as at the end of the preceding taxation year is the gross required margin and not the net required margin.

Impact of OSFI Guideline Changes on Prior Year Calculations of Attributed Surplus

You have also enquired whether the insurer's required margin in 2003, for purposes of the 2004 calculation of the insurer's "attributed surplus" should be changed to reflect OSFI changes pertaining to the 2004 year. Our position is that even if the margin requirements had actually changed in 2004, there is no basis to require the 2003 amount that is used for purposes of the 2004 calculation of "attributed surplus" to be restated to reflect the changes. The definition of "attributed surplus" refers to the margin required to be maintained by the insurer "as at the end of the preceding taxation year". Future changes in requirements do not impact amounts required to be maintained in preceding years.

However, where the gross required margin was not used, in error, in the calculation of the insurer's attributed surplus in the preceding taxation year, the 2003 amount that is used for purposes of the 2004 calculation must not necessarily equal the amount reflected in the assessment or reassessment of the 2003 year. An adjustment to the prior year amount for purposes of the current year calculation, to reflect the margin that was actually required to be maintained by the insurer in the prior year, is supportable even if the prior year is statute-barred. The legislation refers to the amount required to be maintained in the prior year and makes no reference to the amount reflected in the assessment or reassessment. This position is supported in the case of New St. James Limited v. MNR, 1966 DTC 5241, where the court concluded that the loss for a statute-barred year could be redetermined for purposes of determining the appropriate amount of the loss that can be carried forward to a subsequent year. Accordingly, in our view, it is acceptable to use the gross required margin in 2003 for purposes of the 2004 calculation of the "attributed surplus", even where such amount was not reflected in the reassessment for 2003, not because of any changes in the rules for 2004, but because such amount should actually have been reflected in the "attributed surplus" of the prior year.

Conclusion

In conclusion, in our view, the "margin of assets in Canada over liabilities in Canada required to be maintained by the insurer" that is referred to in subparagraph (b)(ii) of the definition of "attributed surplus" in subsection 2400(1) of the Regulations appears to be the amount that is calculated by applying factors to the various risk components arising from assets under control of the Minister, liabilities in Canada, and certain assets under the control of the Chief Agent. For 2004, this amount is described as the "Required Margin" on Line #035 of the OSFI TAAM Schedule and on Line #120 of the OSFI TAAC Schedule. In earlier years, this amount was described on the OSFI reports as the "Gross Required Margin".

In addition, in our view, the calculation of an insurer's "attributed surplus" in a particular year is not impacted by any changes made by OSFI to the formatting of its reports or to its margin requirements in subsequent years.

We trust that these comments will be of assistance.

Yours truly,

F. Lee Workman
Manager
Charitable and Financial Institution Sectors
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch