13 September 1995 External T.I. 9506565 - COMPENSATION PAYMENTS

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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues:

Whether or not payments made to an employee pursuant to an employer's obligation under newly enacted Canada Labour Code provisions for work-related illness and injury would be considered compensation received under an employees' or workers' compensation law of Canada and thus taxable pursuant to paragraph 56(1)(v) of the Act.

Position TAKEN:

Would be considered compensation pursuant to 56(1)(v) and deductible under 110(1)(f)(ii) subject to certain conditions.

Reasons FOR POSITION TAKEN:

Review of the CLC legislation, ITA, and previous correspondence positions on similar payments.

		950656

XXXXXXXXXX D. Zion

Attention: XXXXXXXXXX

September 13, 1995

Dear Sirs:

Re: Paragraph 56(1)(v) of the Income Tax Act (the "Act")

We are writing in response to your letters of March 8 and May 18, 1995 in which you request a technical interpretation regarding amounts paid to employees pursuant to the recently enacted work-related illness and injury provisions of the Canada Labour Code (CLC). We apologize for the delay in our reply.

Confirmation of the tax implications resulting from proposed transactions is provided by this Directorate only by way of an advance income tax ruling as described in Information Circular 70-6R2 "Advance Income Tax Rulings" dated September 28, 1990 and Special Release thereto dated September 30, 1992. However, we offer the following general comments with respect to the income tax treatment of these benefit payments which may be of assistance to you.

Our Comments

Compensation for the purposes of paragraph 56(1)(v) and subparagraph 110(1)(f)(ii) of the Act includes amounts which a worker or his or her dependents receive as a result of the worker having suffered illness, injury or death in the performance of his or her duties of employment pursuant to an entitlement provided by an employees' or workers' compensation law of Canada. You have enquired whether or not payments made to an employee pursuant to an employer's CLC obligation for work-related illness and injury would be considered compensation received under an employees' or workers' compensation law of Canada and thus taxable pursuant to paragraph 56(1)(v) of the Act.

In order to determine the nature of the amounts to be paid pursuant to this employer obligation, we have reviewed the recently enacted provisions relating to work-related injury and illness contained in the CLC. In addition, we discussed the history and purpose of the injured workers' protection provisions under Part III of the CLC with Mr. Fred Chilton, Acting Director of Labour Standards Legislation at Human Resources Development Canada. Based on our review and discussions, we are of the opinion that, that portion of the payment received by an employee pursuant to the employer's obligation to provide such compensation, would be considered to be "compensation received under an employee's ... compensation law of Canada ... in respect of an injury ..." for purposes of the application of paragraph 56(1)(v) and subparagraph 110(1)(f)(ii) of the Act. The amount of the payment to an employee who is absent from work due to work-related illness or injury which would qualify as compensation pursuant to paragraph 56(1)(v) and subparagraph 110(1)(f)(ii) of the Act is the amount the employer would be obligated to pay as stipulated in paragraph 239.1(2) of the CLC. The CLC provides for payment of wage replacement payable at an equivalent rate to that provided for under the applicable workers' compensation legislation in the employees' province of permanent residence.

The taxability of the payments to the employee depends largely on the arrangements and structure of the plan. Generally, where an employee is employed by an employer who is self-insured, the amount of compensation that an injured employee receives directly from such an employer or an insurance company on behalf of the employer that is equal to the award which would be payable under the relevant provincial workers' compensation legislation, is included in income pursuant to paragraph 56(1)(v) of the Act and deductible in computing taxable income pursuant to subparagraph 110(1)(f)(ii) of the Act. Any excess is included in the employee's income pursuant to subsection 5(1) of the Act.

You have outlined four methods by which an employer, who is subject to the work-related sickness and injury provisions contained in the CLC, might arrange to have payments made to an employee. Such an employer, which in our view is comparable to an employer who is self-insured for the purposes of the relevant provincial worker's compensation, may make these payments through the use of an "administrative services only" arrangement, an insured arrangement, on a direct pay basis or through the establishment of a trust. You have requested our interpretation of the resulting tax consequences to the employee and employer of each method.

In the event that the employer chooses to pay the employee directly the amount to which the employee would be entitled under the applicable provincial worker's compensation, then that amount would be taxed and reported in the same manner as a direct payment by a self-insured employer to the employee as described above. The total amount of compensation received in the year by the employee should be reported on form T5007 by the employer. Any excess amount ("top up") is taxable as salary and wages.

In our view, payments received from third parties pursuant to the employer's obligation under the CLC would not be excluded from the meaning of the word compensation. Accordingly, where such an employer makes an arrangement with an insurance company, whether by the use of an administrative services only or an insured arrangement, the amount paid to the employee by the insurance company which is equivalent to the applicable workers' compensation benefit should be reported as compensation on form T5007 by the insurance company. In the event that the insurance company pays the employee a top-up amount, the insurance company should issue a T4A Supplementary slip to the employee for the amount of the top-up amount. In the case where it is the employer who pays a top-up amount to the employee directly, the top-up amount should be reported as salary and wages on the employee's T4 slip by the employer.

The current versions of the Income Tax Guide to the T5007 Return of Benefits and the Employers Guide to Payroll Deductions both contain detailed comments pertaining to the tax consequences of amounts equivalent to workers compensation benefits, as well as top-up amounts, paid by self-insured employers to qualifying employees as well as the reporting requirements. These comments should be of assistance to you given our discussion pertaining to the first three possible payment arrangements.

The fourth possible payment method which you have discussed in your enquiry is the establishment of a trust by the employer. You comment that the employer may wish to have a custodian hold funds set aside to cover current claims, as well as the actuarial liability for on-going payments. You have requested confirmation that such an arrangement could be structured as a Health and Welfare Trust, or whether the arrangement should be considered an Employee Benefit Plan or Employee Trust. Furthermore, you request confirmation that benefits paid under a trust arrangement would be included in the employee's income pursuant to paragraph 56(1)(v) of the Act.

The term, health and welfare trust, is not defined in the Income Tax Act but is used in IT-85R2 to describe a trust which is used to administer certain employer-provided benefits described in paragraph 1 of the bulletin. Accordingly, in order to determine whether a particular trust qualifies as a health and welfare trust, reference must be made to the plan documentation which outlines an employee's rights under the plan as well as to the trust agreement or other relevant documentation. It should be noted that the tax consequences described in IT-85R2 are only applicable where the benefits under the plan are restricted to the benefits described in paragraph 1 of that bulletin. As you have not provided specific details in this regard our comments are, of necessity, general in nature. Where the employer presently has a group sickness or accident insurance plan which is administered through a health and welfare trust and the employer already provides the coverage that is now legislated by the CLC, we would have no objection to the payment of the compensation out of the plan and the trust would continue to be considered a health and welfare trust for the purpose of IT-85R2. Whether or not an employer may establish a trust in order to pay qualifying employees the required benefit amounts pursuant to paragraph 239.1(2) of the CLC which would meet the criteria described in the bulletin and thus qualify as a health and welfare trust is questionable. Should the employer wish to establish a health and welfare trust to administer a group sickness or accident insurance plan out of which the compensation will be paid, or amend an existing plan which does not currently provide the work-related compensation coverage, in our view, the basic criteria outlined in the bulletin would not be met.

A trust established by an employer in order to pay qualifying employees the required amounts pursuant to paragraph 239.1(2) of the CLC which does not meet the criteria described in IT-85R2 would not in our opinion qualify as a health and welfare trust. As stated in paragraph 3 of the bulletin, health and welfare arrangements which include benefits other than those described in paragraph 1 of that same bulletin will be treated as either an employee benefit plan or employee trust. However, in this regard, we would bring to your attention proposed Income Tax Regulation 6800(b) of the Act which for the purpose of paragraph (e) of the definition of "employee benefit plan" in subsection 248(1) of the Act prescribes "an arrangement under which all contributions are made pursuant to a law of Canada or a province, where one of the main purposes of the law is to enforce minimum standards with respect to wages, vacation entitlement or severance pay". We are of the view that a trust established for the sole purpose of providing compensation payments to employees pursuant to the employer's obligation to do so under paragraph 239.1(2) of the CLC would not be considered an employee benefit plan pursuant to this proposed legislation. We are also of the view that the trust arrangement would not generally be considered an "employee trust" as defined in subsection 248(1) of the Act given that the payment would not appear to meet the criteria contained in paragraph (a) of the definition.

With respect to your enquiry regarding the deductibility of payments by the employer, we agree that payments paid to employees pursuant to the employer's obligation under the CLC would be deductible for the purposes of subsection 9(1) of the Act. Where the employer makes contributions to a health and welfare trust or pays premiums with respect to an insurance plan, the payments would generally be deductible in the year that they are made, pursuant to subsection 9(1) of the Act, as limited by subsection 18(9) of the Act if applicable.

While we trust that our comments will be of assistance to you, we would caution that they do not constitute an advance income tax ruling and are, accordingly, not binding on the Department with respect to any particular employer arrangement, plan or trust. The issues raised in your letter regarding Canada Pension Plan contributions and Unemployment Insurance premiums on the payment of the benefits described above have been forwarded to Mr. Pierre Paquette of CPP/UI Eligibility Systems Division for their consideration and reply. Mr. Paquette may be reached by telephone at (613) 952-5422 should you have any further questions in this regard.

Yours truly,

P.D. Fuoco
for Director
Business and General Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch

c.c. Lynne Webb, Assessment of Returns Directorate
Pierre Paquette, CPP/UI Eligibility Systems Division
Trust Accounts Division, Source Deductions