3 June 2014 External T.I. 2014-0524031E5 - Life insurance policy disposition

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: Clarification of the income tax treatment of the disposition of an interest in a grandfathered life insurance policy.

Position: General comments provided

Reasons: The legislation.

XXXXXXXXXX Bob Naufal
2014-052403

June 3, 2014

Dear XXXXXXXXXX:

Re: Life insurance policy

We are writing in response to your letter dated February 21, 2014 requesting our views on the tax treatment of the disposition of an interest in a life insurance policy. You noted that you acquired an interest in a life insurance policy in XXXXXXXXXX. You paid a fixed annual premium of $XXXXXXXXXX for XXXXXXXXXX years under the policy. In XXXXXXXXXX, the policy became a paid-up policy with a death benefit of $XXXXXXXXXX payable to your wife, as the beneficiary of the policy. Over the ensuing years, the policy generated some interest income, which was paid to you and you included such amounts in computing income. In XXXXXXXXXX, the insurer paid you an amount of $XXXXXXXXXX representing the taxable portion of proceeds on the disposition of the policy and issued you a T5 slip reporting this amount in Box 14. You believe that the taxable amount reported on the T5 slip is overstated.

Our Comments

This technical interpretation provides general comments about the provisions of the Income Tax Act (the "Act") and related legislation (where referenced). It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination. The income tax treatment of particular transactions proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R5, Advance Income Tax Rulings.

Disposition and gain

Generally, when a policyholder disposes of an interest in a life insurance policy, the policyholder is required to include in computing income a gain to the extent that the proceeds of the disposition of the interest in the policy exceed the adjusted cost basis ("ACB") of that interest immediately before the disposition. A disposition would generally include the dissolution of the interest in the policy by virtue of the maturity of the policy. The full amount of the gain is included in computing income of the policyholder pursuant to paragraph 56(1)(j) and subsection 148(1) of the Act.

ACB of an interest in a life insurance policy

The ACB of a policyholder's interest in a life insurance policy is determined at any particular time by a formula under subsection 148(9) of the Act. In very general terms, the ACB will be the amount by which the cash premiums paid by the policyholder, and any income in respect of the policy that has previously been reported for tax purposes exceeds the net cost of pure insurance (the "NCPI"), if any, under the policy. The NCPI represents the cost the policyholder paid to be covered by insurance during the time he or she held the policy. The reduction of ACB by NCPI applies to life insurance policies acquired after December 1, 1982.

Life insurance policies acquired before December 2, 1982 receive more favourable treatment. In the case of a pre-December 2, 1982 life insurance policy, the full amount of the premiums paid is included in the calculation of the ACB and there is no reduction in respect of the NCPI. However, certain changes made to a pre-December 2, 1982 policy may cause it to lose this favourable treatment (e.g., where after December 1, 1982, a premium is paid under the policy which was not fixed on or before that date, and either (a) the policy is not an exempt policy, or (b) there has been a prescribed increase in any benefit on death under the policy).

The insurer with whom the policy is held is required to report the amount of a gain on the policy on a T5 information slip issued to the policyholder where there is a disposition for tax purposes. As such, a policyholder can obtain information from the insurer on how it calculated the proceeds of the disposition, the ACB (including any NCPI reductions) and any gain on the disposition.

The CRA's mandate is to administer the Act and does not include resolving disputes between policyholders and their insurers about the terms and conditions of a particular policy. In this regard, you may wish to contact the OmbudService for Life and Health Insurance ("OLHI"), which was created to help resolve disputes between insurers and their policyholders. You can find more information about the OLHI at www.olhi.ca. The Deputy Superintendent (Insurance) in Manitoba can also help with respect to consumer complaints in Manitoba. You can reach them at the Financial Institutions Regulation Branch (Manitoba Finance) at 1-800-282-8069.

We trust the above comments are of assistance.

Yours truly,

Jenie Leigh
for Director
Financial Industries and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch