8 July 2013 Internal T.I. 2012-0470021I7 - Settlement of Future Benefits – ASO Plan

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. Whether the Supreme Court decision in Tsiaprailis would apply to characterize a payment made by an arm's length plan administrator on an administrative services only ("ASO") basis, to an employee in settlement of future periodic benefits under a group disability plan, as a capital receipt from the disposition of a right. 2. If yes, whether the amount of the settlement is excluded from the calculation of the employee's capital gain by 39(1)(a)(iii).

Position: It is a question of fact which depends on whether the self-funded plan is in the nature of insurance and therefore an insurance plan ("IP").

Reasons: Where there is a valid IP and therefore a wage loss replacement plan for the purpose of 6(1)(f): 1. Tsiaprailis would apply; and 2. 39(1)(a)(iii) is broad enough to include the disposition of a right under an insurance policy or an IP.

July 8, 2013

Trust Accounts Programs Division Income Tax Rulings Directorate
Taxpayer Services and Debt Business and Employment Division
Management Branch Kathryn McCarthy

Attention: Marlene Sylvest 2012-047002

Settlement of Future Benefits – Administrative Services Only Plan

We are writing in response to your e-mail of November 13, 2012, concerning an employer's group disability plan which is administered by an arm's length plan administrator ("administrator") on an administrative services only ("ASO") basis. You enquired whether the Supreme Court of Canada ("SCC") decision in Tsiaprailis, 2005 DTC 5119, would apply to characterize a payment made by the administrator to an employee in settlement of future periodic benefits under the disability plan as a capital receipt from the disposition of a right. If yes, you also enquired whether the amount of the settlement is excluded from the calculation of the employee's capital gain by virtue of subparagraph 39(1)(a)(iii) of the Income Tax Act ("Act").

Our Comments

An ASO contract can generally be described as a contract where an employer (or plan sponsor) engages an administrator (which is often an insurance corporation) to administer a plan for a fee. It is the well-established position of the CRA that where a plan is administered by an insurance corporation using an ASO contract, the contract is not generally considered to be an insurance policy, since the contract with the insurance corporation does not typically contemplate a transfer of any risk to the insurance corporation.

Nevertheless, such a plan may constitute an insurance plan ("IP") and a wage loss replacement plan ("WLRP") for the purpose of paragraph 6(1)(f) of the Act, if certain conditions are satisfied. For a plan to be considered an IP, it must contain an undertaking by one person to indemnify another person, for an agreed consideration, from a loss or liability in respect of an event, the happening of which is uncertain.

Is the settlement received for future periodic payments under an IP a capital receipt?

The Federal Court of Appeal decision in Tsiaprailis, 2003 DTC 5246, took the position that "…[t]he settlement replaces whatever legal rights the parties had under the insurance contract." The federal court further opined that "…the insured has a right to receive benefits…." The SCC in the Tsiaprailis case opined that the portion of the settlement attributed to future benefits was in the nature of a capital payment.

The definition of "property" in subsection 248(1) of the Act includes a right of any kind whatever. Further and in our view, a right includes a right under an IP.

"Capital property" of a taxpayer is defined in section 54 of the Act as follows:

"…any depreciable property of the taxpayer, and…any property (other than depreciable property), any gain or loss from the disposition of which would, if the property were disposed of, be a capital gain or a capital loss, as the case may be, of the taxpayer…"

In order to determine whether property which is a right would be considered capital property by virtue of section 54, it is necessary to determine whether the disposition of the right is on account of capital or on account of income. The determination of whether the disposition of a particular right is on account of capital or income is a question of fact.

It is our view that where it is established that the ASO plan is an IP and therefore a WLRP, the decision of the SCC in Tsiaprailis would apply to characterize the amount of a settlement for future WLRP benefits as a capital receipt from the disposition of a right. Whether a particular employer's ASO plan is considered an IP, would require a finding of fact that can only be made on a case-by-case basis.

Does subparagraph 39(1)(a)(iii) apply?

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It is our interpretation that the term "insurance policy" in subparagraph 39(1)(a)(iii) of the Act is broad enough to include a right under an insurance policy or an IP. Subparagraph 39(1)(a)(iii) of the Act, therefore, would exclude the capital receipt from the disposition of an employee's right under an ASO plan, if the plan was an IP, from the employee's income.

However where an employee receives such a settlement amount under an employer's ASO plan that is not an IP, the amount would be included in the employee's income under subsection 5(1) or section 6 of the Act as income from an office or employment since there has been no disposition of a right.

We trust our comments will be of assistance to you.

Yours truly,

Nerill Thomas-Wilkinson, CPA, CA
Manager
for Director
Business and Employment Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch