10 June 1991 Internal T.I. 903597 F - Flexible Benefit 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.

Dear Sirs:

Re: Flexible Benefit Plans

This is in reply to your letter dated December 12, 1990 and our meeting of May 2, 1991 wherein you requested our views on a number of issues relating to the taxation of flexible benefit plans.  We apologize for the delay in forwarding our written response to your enquiry.

We will respond to your questions in the order in which they were raised.

1.     You have outlined various arrangements involving balances of unused flexible benefit plan credits at the end of the calendar year in a plan which would otherwise qualify as a private health services plan ("PHSP") and have requested our opinion with respect to which of these arrangements would be acceptable so as not to upset its status as a PHSP.

     Typically, HCEAs are intended to qualify as a PHSP as this term is defined in subsection 248(1) of the Income Tax Act (the "Act").  A PHSP is a contract or plan of insurance in respect of hospital and/or medical expenses, and as such, each plan or arrangement under a flexible benefit plan that purports to be a PHSP is tested to ensure that the plan involves a reasonable degree of risk which is being transferred to the insurer (generally, the employer).

     In our view, an employee who has unused credits in a PHSP, established under a flexible benefit plan, may roll over these credits to future years.  However, as mentioned above,in order to qualify as a PHSP, the plan must involve a reasonable element of risk which is assured by the employer.  Plans which permit the choice of a rollover or cash-out of unused credits or the rollover of unclaimed medical expenses as well as unused credits would not qualify as a PHSP.  Furthermore, plans which permit the rollover of unused credits to be applied to other plans under the flexible benefit plan are not considered to be a PHSP.

2.     You have requested that we confirm whether or not monies allocated to a HCEA that has a cash option, would be taxed upon allocation, under paragraph 6(1)(a) of the Act.

     If the plan permits the employee to receive all or part of the credits under the plan in cash, subsection 5(1) of the Act would apply to tax all credits under the plan in the year they are available to be cashed out.

3.     With respect to the funding of the HCEA, you have asked whether the following funding methods are acceptable:

-     formal trust fund,

-      other holding account, or

-      unfunded contingency reserve.

     Provided that the employer is obligated to reimburse expenses under the HCEA or obligated to pay the premiums pursuant to a contract with a trusteed plan or insurance company, the above funding methods would be acceptable.

4.     You are concerned that the use of pay to purchase vacation might constitute a "salary deferral arrangement" (SDA) as this term is defined in subsection 248(1) of the Act.

          In our view, vacation buying through the use of an employee's payroll is permitted provided that the vacations are taken in the year of purchase. However, if the plan permits the rollover or cash-out of purchased vacations, this may be viewed as a SDA.

5.     You have stated in your letter that vacation selling does not create any untoward income tax consequences.  Using your example, an employee earning $52,000 who sells three days of holidays (value of say $600), will still pay taxes on $52,000 while obtaining $600 of flexible benefits credits.

In our view, the selling of vacations constitutes income from employment, and as such, any amount credited to the plan is taxable in the year of sale pursuant to subsection 5(1) of the Act.

We trust our comments will be of assistance to you.

Yours truly,

for DirectorBusiness and General DivisionRulings DirectorateLegislative and Intergovernmental Affairs Branch