8 August 2008 External T.I. 2008-0277981E5 - private health services plans

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: Whether a particular plan qualifies as a private health services plan

Position: Question of fact. General comments given.

Reasons: The law.

XXXXXXXXXX 								2008-027798

August 8, 2008

Dear XXXXXXXXXX :

Re: Private Health Services Plan ("PHSP")

This is in response to your letter of March 31, 2008, inquiring about PHSPs.

Further to the telephone conversation (Moore/XXXXXXXXXX ) of August 7, 2008, your client is the president of a consulting company and his wife is the vice president. He and his wife are the sole shareholders of the corporation and there are no other employees. Currently, the corporation's PHSP is administered by a third party but it is proposing to administer its own PHSP.

As discussed, the situation outlined in your letter appears to relate to a factual one, involving a specific taxpayer. It is not this Directorate's practice to comment on proposed transactions involving specific taxpayers other than in the form of an advanced income tax ruling. For more information about how to obtain a ruling, please refer to Information Circular 70-6R5, "Advanced Income Tax Rulings, dated May 17, 2002. This Information Circular and other CRA publications can be accessed on the internet at http://www.cra-arc.gc.ca. Although we cannot comment on your specific situation, we are prepared to provide the following general comments, which may be of assistance.

Our Comments

For purposes of the Income Tax Act (the "Act"), a PHSP is defined as a contract of insurance in respect of hospital expenses, medical expenses, or any combination of such expenses, or a medical care insurance plan or hospital care insurance plan, or any combination of such plans. The CRA's Interpretation Bulletin IT-339R2, Meaning of Private Health Services Plan, which is on the CRA Web site at www.cra.gc.ca/E/pub/tp/it339r2/README.html, sets out the requirements that must be met in order for a plan to be considered a PHSP. Generally, an employer is entitled to a deduction for contributions made to a PHSP in determining its income provided these requirements are met, the contribution is reasonable in amount, and the amount is laid out to earn business or property income. The benefits received by employees in respect of the employer contributions to the PHSP are not subject to tax by virtue of subparagraph 6(1)(a)(i) of the Act.

A key requirement of a PHSP is that the plan must be in the nature of insurance. Paragraph 3 of IT-339R2 explains what is required for a health services arrangement to satisfy this requirement. When the plan represents (i) an undertaking by one person, (ii) to indemnify another person, (iii) for an agreed consideration, (iv) from a loss or liability in respect of an event, (v) the happening of which is uncertain, it will be considered to be in the nature of insurance. Plans involving contracts of insurance in an arm's length situation normally contain these basic elements.

Paragraph 6 of IT-339R2 discusses "cost plus" health services arrangements. In cost plus plans, the employer contracts with a trusteed plan or insurance company, otherwise known as an administrator, for the provision of indemnification of employees' claims on defined risks under the plan. The employer promises to reimburse the cost of the claims plus an administration fee to the administrator. If the employee's contract of employment requires the employer to reimburse the administrator for these claims, the basic elements of insurance discussed above may be satisfied.

These elements relate to the relationship between the individual insured and the insurer. In a cost plus arrangement, it is the employer (not the administrator) who insures the employees. As discussed in paragraph 6 of IT-339R2, it remains our long-standing position that a cost plus plan could contain the basic elements of insurance and qualify as a PHSP. With regard to element (e) above, in a cost plus PHSP, the employer is uncertain as to the amount of claims the employees will submit.

In order for a particular plan or arrangement to qualify as a PHSP, it must involve a reasonable element of risk that is assumed by the insurer, whether that insurer is the employer or a third party. If the plan or arrangement is such that there is little risk that the employee will not eventually receive a known and capped amount of benefits, then the arrangement is not a plan of insurance and therefore, not a PHSP. While a cap on benefits undoubtedly reduces the risk to the insurer, it is our view that an otherwise qualifying plan would not automatically be disqualified as a PHSP solely by reason of the inclusion of such a feature. Where the employer is uncertain as to the amount of claims an employee will submit, the employer is at risk for the amount up to the cap. If the plan or arrangement is such that it can be terminated at any time by the employer, without notice, at his sole discretion, there may be some doubt as to the level of risk undertaken and whether this would be in fact a plan of insurance.

Your client and his wife are the sole shareholders of the corporation as well as its only employees. Unless a shareholder is actively engaged as an employee of a company, any benefit derived by the shareholder as a result of PHSP coverage is not exempt under subparagraph 6(1)(a)(i) of the Act, but rather is taxable under subsection 15(1) of the Act. However, if a shareholder is actively engaged as an employee of the company, and the benefits received by the shareholder under the PHSP (including the applicable limits) are reasonable having regard to all of the circumstances, it is our general view that the benefits would be derived by virtue of the individual's employment and exempt under subparagraph 6(1)(a)(i). It is our view that medical expenses paid by a PHSP must normally qualify for the medical expense tax credit. In general terms, we look to the definition of a "private health services plan" in subsection 248 (1) of the Act as the legal basis to support our position, that coverage can only be for hospital expenses, medical expenses or any combination thereof. It is our view that such expenses must normally qualify as medical expenses under the provisions of subsection 118.2(2) of the Act in the determination of the medical expense tax credit. This position has been published in paragraph 4 of IT-339R2. If a particular plan provides coverage for expenses other than those described in subsection 118.2(2) of the Act, it is our view that the entire plan will not qualify as a PHSP. In such cases, the rules for "employee benefit plans" could apply. Employees are taxable on amounts paid out of an employee benefit plan. As well, an employer ordinarily may not deduct contributions for employees until they actually receive a corresponding benefit out of the plan.

It is a question of fact whether a particular plan would qualify as a PHSP, as defined in the Act. We are unable to comment on whether the plan contemplated by your client would qualify as a PHSP as we do not have sufficient information.

I trust these comments will be of assistance.

Yours truly,

G. Moore
For Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch