15 November 2012 External T.I. 2012-0460091E5 - U.K. Mortgage Endowment Policy

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: The taxpayer requests confirmation of the tax implications of a U.K. mortgage endowment policy which will be transferred to her by her former spouse.

Position: General comments provided. To the extent that the rollover rule in subsection 148(8.1) applies, there are no tax implications to the former spouse as a result of the transfer. On maturity of the policy, any gain from the disposition is required to be included in the taxpayer's income.

Reasons: The former spouse's interest in the policy may be transferred to the taxpayer at its adjusted cost basis under subsection 148(8.1). When the policy matures, the taxpayer will be required to report the proceeds of disposition in excess of the adjusted cost basis of the policy in income pursuant to paragraph 56(1)(j) and subsection 148(1) of the Act.

XXXXXXXXXX
2012-046009
K. Podor
November 15, 2012

Dear XXXXXXXXXX:

Re: U.K. Mortgage Endowment Policy

This is in response to your correspondence of August 24, 2012 regarding the income tax treatment of a joint U.K. mortgage endowment policy. The endowment policy was acquired in XXXXXXXXXX while you and your former spouse were non-residents. Currently, both of you are residents of Canada. Under the terms of your divorce settlement, your former spouse agrees to transfer his interest in the endowment policy to you. You are requesting written confirmation regarding whether your former spouse will be liable to tax in Canada when the policy matures.

Our Comments

The tax treatment of a U.K. endowment policy for Canadian tax purposes is a question of fact and law. Subsection 138(12) of the Income Tax Act (the "Act") provides a broad definition of the term "life insurance policy". Where a product provides for a death benefit or constitutes an annuity arrangement, it could be considered a life insurance product for purposes of the Act. Based on the limited information provided in your letter, it appears that the U.K. endowment policy would constitute a life insurance policy within the meaning of the term "life insurance policy" in subsection 138(12).

Where an individual immigrates to Canada and becomes a Canadian resident after 1992, subsection 128.1(1) of the Act generally deems that individual to have disposed of each property owned by him or her immediately before that time for proceeds of disposition equal to the fair market value of the particular property at that time and have reacquired each such property so disposed of for cost equal to the amount of the deemed proceeds. The intended effect of these rules is not to tax gains which accrued prior to immigration. At the time of your immigration into Canada, there will be a deemed disposition and reacquisition of the endowment policy immediately before or immediately after that time, as the case may be, for the purposes of section 128.1 of the Act.

In general, tax implications arise to policyholders at the time there is a disposition or deemed disposition of a life insurance policy or annuity contract. Given your fact situation, we will comment on the tax implications to your former spouse at the time your former spouse transfers his interest in the policy to you and at the time the policy matures.

Transfer of Policy to Taxpayer

The transfer of an interest in a life insurance policy between individuals is generally considered a "disposition" and therefore a taxable event. However, among other things, subsection 148(8.1) of the Act provides for a tax-free transfer between former spouses in settlement of rights arising out of the marriage, provided that the policyholder and spouse are residents of Canada at the time of the transfer. This provision applies automatically unless an election is made in the policyholder's tax return for the taxation year in which an interest in a policy is transferred not to have this provision apply. Assuming no election is made, the transfer of an interest in a policy in settlement of rights arising out of a marriage occurs on a tax-free basis.

Additional guidance on the tax implications of a policy transferred in settlement of rights arising out of the marriage is provided in Income Tax Interpretation Bulletin No.: IT 87-R2, "Policyholders – Income from Life Insurance Policies", paragraph 18. This bulletin and other Canada Revenue Agency (CRA) publications are available on our website at www.cra-arc.gc.ca under "Forms and Publications".

Maturity of the Policy

You indicate that, at the time the policy matures, you will be the sole policyholder of this policy. The maturity of the policy results in a "disposition" of the policy by virtue of subsection 148(9) the Act. On the maturity of the policy, the policyholder is required to report income under paragraph 56(1)(j) of the Act equal to the amount by which the proceeds of disposition exceed the adjusted cost basis of the policy pursuant to subsection 148(1) of the Act. There will be no tax consequences to your former spouse on maturity of the policy as he is not a policy holder. Additional information regarding the calculation of the adjusted cost basis of a policy as well as the requirement to report income accrued on the policy on an annual, or possibly triennial, basis by virtue of section 12.2 of the Act, is contained in IT-87R2. Also note that, effective for tax years after 1997, Form T1135 must be filed with your income tax return if at any time in a year, the adjusted cost basis of the policy (or any other specified foreign property) exceeds $100,000.

We trust these comments are helpful.

Lita Krantz, CA
Assistant Director
Deferred Income Plans Section
Financial Industries and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch