15 August 2019 External T.I. 2018-0749261E5 - Stabilization Reserves

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 stabilization reserve within a health and dental program may disqualify the plan as a private health services plan (“PHSP”).

Position: See response.

Reasons: See response.

XXXXXXXXXX						2018-074926
T. Baltkois
August 15, 2019

Dear XXXXXXXXXX:

Re: Stabilization reserves

We are writing in response to your correspondence of February 28, 2018, in which you requested clarification as to whether a stabilization reserve within a health and dental program may disqualify the plan as a private health services plan (“PHSP”).

In the situation you describe, an employer and its employees jointly fund several benefit programs, one of which is a self-insured group health and dental program (“Program”). The employer also maintains a separate contract of insurance to indemnify against major Program claims made by any one employee in the year that exceed a predetermined amount.

The Program is overseen by a committee comprised of employer and employee representatives (Committee), which determines the level of annual contributions required to fund benefits. Where contributions (employer and employee) in any year exceed Program claims for that year, the excess is transferred to a stabilization reserve to mitigate the need for immediate or substantial contribution increases to fund the Program.

The Committee also has authority to require that separate contributions (employer and employee) be made in any year to increase the stabilization reserve and, in limited circumstances, require that funds in the stabilization reserve be refunded (to the employer and employees), used to fund additional benefits under the Program, or used to provide a contribution holiday.

Our comments

This technical interpretation provides general comments about the provisions of the Income Tax Act (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 70-6R9, Advance Income Tax Rulings and Technical Interpretations.

A PHSP is defined in subsection 248(1) of the Income Tax Act (“Act”) as a contract of insurance in respect of hospital expenses, medical expenses, or any combination of such expenses or a medical care insurance plan, a hospital care insurance plan, or any combination of such plans. That is, a PHSP must be a “contract of insurance” or an “insurance plan”.

While it is a question of fact whether a particular arrangement may satisfy the definition of a PHSP, under the Canada Revenue Agency’s (“CRA’s”) revised PHSP position, a plan qualifies as a PHSP where:

• all of the expenses covered under the plan are medical or hospital expenses, or expenses incurred in connection with and within a reasonable time period following a medical expense;
• all or substantially all (generally 90% or more) of:
  • the premiums paid under the plan (where the plan is insured) relate to medical expenses that are eligible for the medical expense tax credit; or
  • the benefits paid to all employees in the calendar year (where the plan is self-insured) relate to medical expenses that are eligible for the medical expense tax credit; and
• the plan meets all other conditions outlined in paragraph 3 of Interpretation Bulletin IT-339R2, Meaning of private health services plan [1988 and subsequent taxation years].

Paragraph 3 of Interpretation Bulletin IT-339R2 provides that a plan in the nature of insurance (whether a contract of insurance or an insurance plan) must contain the following basic elements:

(a) an undertaking by one person,
(b) to indemnify another person,
(c) for an agreed consideration,
(d) from a loss or liability in respect of an event,
(e) the happening of which is uncertain.

Absent one or more of these elements, a particular plan will not generally be considered a plan in the nature of insurance, and thus will not qualify as a PHSP.

In the situation described, the employer contracts with a third-party insurer to process the claims made by employees under the Program on a cost-plus basis. Such arrangements are generally referred to as administrative services only (“ASO”) contracts. As an ASO contract is not a contract of insurance, the insurer does not actually bear any risk. Rather, the employer assumes the risk with respect to employees’ health and dental claims, within the limits set out in the plan, and the insurer provides administration services for a fee.

Under an ASO arrangement, an employer generally deposits a pre-determined amount into a bank account that the plan administrator can draw upon to pay out claims. However, in the situation described, it is our understanding that the employer pools all contributions (employer and employee) made to the Program (and to the other benefit programs offered to employees) into a single investment account. The investment account also includes amounts transferred and contributed to the stabilization reserve, and the employer’s own non-program funds. You advise that separate fund accounting is maintained for each component of the employer’s investment account, and that the employer tracks each component’s interest in the pooled investment account.

The existence of a stabilization reserve within a health and dental program would not, in and of itself, disqualify a plan as a PHSP in situations where the conditions outlined in the CRA’s revised PHSP position are otherwise met, there is a separate accounting of the claims, premiums and administrative charges for each particular plan that is funded through the employer’s investment account, and there is no cross-subsidization between these various benefit programs.

Further, it appears unlikely that any of the potential uses of stabilization reserve funds identified (i.e., the refund of amounts to the employer/employees, the provision of additional benefits under the Program, or a contribution holiday) would taint the status of the Program as a PHSP, provided that:

• the amounts so refunded or used to provide a contribution holiday to each respective party (i.e., the employer or employees) are limited to the contributions made by that party. That is, no portion of the amount refunded or contribution holiday extended to an employee may be in respect of employer contributions, and vice versa; and
• the plan continues to qualify as a PHSP under the CRA’s revised PHSP position after the addition of new benefits or benefit enhancements.

We trust these comments will be helpful.

Yours truly,

Sandro D’Angelo, CPA, CMA
Acting Manager
Business and Employment Income Section
Business and Employment Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch