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:
Do promissory notes and letters of credit form contributions to an RCA?
Position:
See response - question of fact.
Reasons:
See response
March 12, 1996
Winnipeg Taxation Center Headquarters
Employer Services Michael Cooke
(613) 957-3498
Attention: Pearl Fedick
953128
Contributions to an Retirement Compensation Arrangement ("RCA")
This is in reply to your facsimile of November 28, 1995, wherein you requested our views on the taxation of capital gains and dividends earned by an RCA trust, restrictions on the types of property an RCA trust can own and the use of a bank letter of credit or a promissory note issued by an employer to a RCA trust to fund their contributions. We apologize for the delay in our response.
An RCA is defined in subsection 248(1) of the Income Tax Act (the "Act") as generally being an arrangement under which payments are made by an employer to a custodian in connection with benefits that are to be received by an employee on or after retirement. For the purpose of this definition where an employer sets aside and holds property for an employee the arrangement can be considered an RCA. When this occurs subsection 207.6(1) of the Act deems the property so held to be property of an inter vivos trust and the custodian (employer) the trustee for the purpose of Parts I and XI.3 of the Act.
Although an RCA trust within the meaning assigned by subsection 207.5(1) of the Act is not subject to Part I tax by virtue of paragraph 149(1)(q.1) of the Act, it is subject to the 50% refundable tax calculated under Part XI.3 of the Act. For this purpose, the trust's income from dividends is computed without reference to the 1/4 gross-up otherwise required by paragraph 82(1)(b) of the Act and includes the full amount of capital gains and losses. Generally, there are no restrictions on the types of property that may be held by an RCA trust or held in connection with an RCA.
Bank Letter of Credit ("LOC")
A LOC is a written negotiable instrument whereby a person requests another person to advance money or give credit to a third party and promises to repay the person making the advance. Generally, there are two ways a LOC can be used to fund an RCA.
First, an employer may directly acquire an LOC from a Bank (or other financial institution) for the benefit of its employees. When this occurs, it will have established an RCA and contributed the LOC to it. The amount of the contribution is the fair market value of the LOC at that time which is a question of fact. However, many persons in the financial industry have stated that the fair market value of an LOC at the time of its acquisition is its cost to the employer (generally the fee charged by the bank). The Department has not expressed any opinion on this conclusion.
The second way of funding an RCA with a LOC is for the employer to create an RCA trust and contribute money sufficient to cover the cost of acquiring the LOC (generally 2 times the fee charged by the bank). The trustee of the RCA then will use the funds to purchase the LOC without any concern as to its fair market value at that time. In this situation the amount of money paid by the employer to the RCA is the amount of the contribution.
However, in either case the bank will usually require the employer to provide some form of security to back up the LOC. Often this simply takes the form of a charge against the employer's line of credit with the bank or a general charge on the assets of the employer. However, in some cases, a charge might be placed on specific assets of the employer such as general deposit funds.
The Department's concern has been whether or not these security arrangements could also be considered as funding for the RCA and this issue would have to be decided on a case by case basis given full knowledge of all the facts. At the 1992 Canadian Tax Foundation's round table session at Question 48 we stated, "The pledging of property as security for an RCA could be a contribution to the RCA. Consequently, where the employer's line of credit is similarly secured, offering security in the form of a charge against the line of credit could be a separate contribution to the RCA." However, we have also generally stated that if the assets are not specifically set aside for the RCA and can be used for other purposes or to satisfy other creditors, providing such security would not likely be considered as contributions to the RCA.
Promissory Notes Issued by an Employer
Where an employer issues a promissory note to an RCA to "fund" the employer's obligation to make a contribution to the RCA the income tax implications of this action are unclear. We are not aware of any funding arrangements involving employer issued notes and are not certain why an employer would issue such a note to an RCA. Consequently, we would like the opportunity to examine a specific arrangement taking into account all the facts and circumstances before taking any position on this matter.
F. Lee Workman
Section Chief
Financial Institutions Section
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
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