3 February 1999 Internal T.I. 9810656 - U.S. ROTH IRA, EDUCATION IRA (4125-U5-100-21)

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 the following new U.S. tax exempt savings plans qualify for the exemption in paragraph 2(a) of Article XXI of the Canada-U.S. Treaty.

1. Roth IRAs; 2. Education IRAs; 3. Medical Savings Plans.

Position: 1. yes; 2. no; 3. no.

Reasons: 1. The Roth IRA is considered to be a retirement plan or arrangement.

2 & 3. The Education IRAs and MSAs are not operated exclusively to provide retirement benefits.

		February 3, 1999

International Tax Directorate International Section
G. Middleton
Attention: Rick Power 957-2122
A/Manager
Special Projects Section
981065
Qualification of certain new “IRAs” for the
purposes of Article XXI of the Canada-U.S.
Income Tax Convention (the “U.S. Convention”)

This is in reply to your memorandums of April 24th and 30th in which you requested clarification as to whether the provisions of paragraph 2(a) of Article XXI of the U.S. Convention apply to the following U.S. plans or arrangements “Roth IRAs”, “Education IRAs” and “Medical Savings Accounts”.

In general, these plans are new forms of tax exempt savings plans which were enacted into law in the U.S. Internal Revenue Code (the “Code”). The letter dated March 13, 1998 from XXXXXXXXXX describes the plans as follows.

1. Roth IRAs. Section 408A of the Code. An individual taxpayer whose income is below specified limits may be entitled to make a non-deductible contribution of up to $2,000 per annum to a “Roth IRA” (named after the Chairman of the Senate Finance Committee). Income earned by the Roth IRA is not subject to tax except to the extent it constitutes income from an unrelated trade or business. So long as the funds remain in the Roth IRA for at least five years, distributions (whether of principal or income) are excluded from the taxpayer’s gross income if the distribution is

(a) made after the taxpayer attains age 59 1/2;

(b) made to a beneficiary or the taxpayer’s estate following the death of the taxpayer;

(c) attributable to the taxpayer’s being disabled; or

(d) used to pay “qualified first-time home buyer expenses.”

2. Education IRAs. Section 530 of the Code. A taxpayer may contribute (but not deduct) up to $500 per annum to an “Education IRA”; the maximum annual contribution is subject to reduction depending on the adjusted gross income of the taxpayer. Income earned by the Education IRA is not subject to tax except to the extent it constitutes income from an unrelated trade or business. Distributions to a beneficiary are exempt to the extent that they do not exceed the qualified higher education expenses paid by the beneficiary for the year. All other distributions are subject to regular tax plus a 10% additional tax except that the additional tax does not apply to any distribution

(a) made to a beneficiary (or the estate of a deceased beneficiary);

(b) attributable to the beneficiary being disabled;

(c) made on account of a scholarship to the beneficiary; or

(d) that constitutes a return of excess contributions and earnings.

3. Medical Savings Accounts (“MSAs”). Code Section 220. As an alternative to comprehensive health insurance, Congress authorized individuals covered only by “high deductible” health plans to establish a medical savings account; in the case of an employed individual, the account might be established for the employee by the employer. The individual is allowed to deduct contributions to the account, subject to a limit based on the deductible on the high-deductible insurance. Income earned by the MSA is not subject to tax except to the extent it constitutes income from an unrelated trade or business. Distributions are included in income except to the extent they are used to pay qualified medical expenses. Distributions that are included in income are also subject to a 15% additional tax unless made after the taxpayer dies or becomes disabled or becomes eligible for Medicare.

Our Comments

Roth IRAs

The comments contained on pages 36 to 44 of the IRS Publication 590 entitled “Individual Retirement Arrangements (IRAs) (including Roth IRAs and Education IRAs)“ indicate that a Roth IRA is an individual retirement plan to which contributions can be made in any year even after age 70 and an individual can leave the amounts in the Roth IRA as long as he is alive. Contributions in a year to a participant’s Roth IRA are in general based on the participant’s taxable compensation, contributions to other types of IRAs (e.g. traditional IRAs) and gross income being within certain limits for that year.

Based on our understanding of the provisions of section 408A of the Code together with the comments contained in the IRS Publication 590 and in 1 above, a Roth IRA is a trust or other arrangement which is a resident of the U.S. and it is generally exempt from U.S. income tax. Thus, it is our view that, subject to the provisions of paragraph 3 of Article XXI of the U.S. Convention, income referred to in Article X (Dividends) and XI (Interest) of the U.S. Convention derived by a Roth IRA is exempt from tax in Canada pursuant to paragraph 2(a) of Article XXI of the U.S. Convention.

Education IRAs and MSAs

Page 44 of the IRS Publication 590 discusses Education IRAs and it is clearly stated therein that “an Education IRA is not a retirement arrangement”. Based on our understanding of the provisions of section 530 of the Code together with the comments contained in the IRS Publication 590 and in 2 above, an Education IRA is not operated to provide retirement benefits. Thus, income referred to in Article X (Dividends) and XI (Interest) of the U.S. Convention derived by an Education IRA is not entitled to the exemption in paragraph 2(a) of Article XXI of the U.S. Convention.

Based on our understanding of the provisions of section 220 of the Code together with the comments in 3 above, it is our view that a MSA is not operated to provide retirement benefits. Thus, income referred to in Article X (Dividends) and XI (Interest) of the U.S. Convention derived by a MSA is not entitled to the exemption in paragraph 2(a) of Article XXI of the U.S. Convention.

Application of Article XXI for Roth IRAs and Traditional IRAs

As to whether interest and dividend income amounts, derived in Canada and paid to various U.S. financial institutions that are trustees of traditional IRAs and Roth IRAs, are exempt from tax in Canada pursuant to paragraph 2(a) of Article XXI of the U.S. Convention, this would depend on the actual facts surrounding each particular payment. As we discussed in our recent telephone conversation, if an interest or dividend payment was made to a U.S. financial institution and the payment was received by the institution as a trustee in trust for a particular IRA that is a traditional IRA or Roth IRA, such a payment is considered to be exempt from tax in Canada pursuant to paragraph 2(a) of Article XXI of the U.S. Convention. In this type of an arrangement, such a payment represents income derived by the particular IRA; the financial institution is merely receiving the income amount in its fiduciary capacity as trustee on behalf of the particular IRA. The financial institution would be obligated to credit such amount to the account of the particular IRA immediately.

On the other hand, where an interest or dividend payment is made to the U.S. financial institution on its own account or as trustee for a trust or arrangement which does not satisfy the exemption conditions in paragraph 2(a) of Article XXI of the U.S. Convention, such a payment would not be entitled to the exemption thereunder and the payment would be subject to the general provisions of Article X (Dividends) and Article XI (Interest) of the U.S Convention.

If you should have any additional questions in this matter, please call Greg Middleton at 957-2122

for Director
Reorganizations and International Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch