11 March 2011 External T.I. 2010-0377331E5 - Indians - Taxation of RDSP 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.

Principal Issues: (1) Whether payments received from a RDSP are taxed when received by an Indian beneficiary. (2) Whether investment income earned in a RDSP is taxable when paid to an Indian beneficiary.

Position: (1) Yes, other than contributions. (2) Yes, in most cases.

Reasons: (1) Contributions made to an RDSP are not deductible and are not included in the income of a beneficiary when paid out. However, government grants and bonds are included in income when paid out to a beneficiary. Government grants and bonds are not considered to be connected to a reserve. (2) Depends on whether the income-generating activities of the issuer occur on a reserve; likely they do not.

XXXXXXXXXX 		2010-037733
			Lori Merrigan
			(613) 957-8979
March 11, 2011

Dear XXXXXXXXXX :

Re: Taxation of Registered Disability Savings Plan Payments to Aboriginals

This is in response to your correspondence of August 4, 2010, inquiring about the taxation of payments made from a registered disability savings plan (a "RDSP") to an Indian, as that term is defined in subsection 2(1) of the Indian Act. In this letter, unless otherwise expressly stated, all statutory references are to the provisions of the Income Tax Act (the "Act").

The situation outlined in your letter appears to relate to a factual one, involving a specific group of taxpayers. Written confirmation of the tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling request submitted in the manner set out in Information Circular 70-6R5, "Advance Income Tax Rulings". This Information Circular and other Canada Revenue Agency ("CRA") publications can be accessed on the internet at http://www.cra-arc.gc.ca. Should your situation involve a specific taxpayer and a completed transaction, you should submit all relevant facts and documentation to the appropriate Tax Services Office ("TSO") for their views. Although we cannot comment on your specific situation, we are able to provide the following general comments, which may be of assistance.

In general terms, a RDSP is a trust arrangement established under subsection 146.4(2), between a plan holder and an issuer (a trust company in Canada), in order to provide for the long-term financial security of a beneficiary who has a prolonged and severe physical or mental impairment and who qualifies for the disability tax credit. Contributions to a RDSP are not deductible and can be made by anyone with the written permission of the plan holder. In addition, a RDSP may receive payments from the government of Canada in the form of Canada disability savings grants ("grants") or Canada disability savings bonds ("bonds"), depending on the beneficiary's family income and amounts otherwise contributed to the RDSP.

When a payment is made from a RDSP to a beneficiary, different rules apply to different portions of the payment. The portion of the payment that relates to contributions into the RDSP is not included in the beneficiary's income. The portion of the payment that relates to the grants and bonds paid into the plan, as well as all investment income earned in the RDSP (i.e., the investment income on contributions, grants and bonds), is included in the beneficiary's income and is taxable.

Paragraph 81(1)(a) provides that an amount that is declared to be exempt from income tax by another act of Parliament is not included in computing the income of a taxpayer. Section 87 of the Indian Act exempts from taxation the personal property of an Indian situated on a reserve. The courts have concluded that the term "personal property" includes income.

The Supreme Court of Canada, in Williams v. The Queen, 92 D.T.C. 6320, concluded that the determination of whether income is situated on a reserve, and thus exempt from tax, requires identifying the various factors connecting the income to a reserve and weighing the significance of each such factor. The fact that an Indian payee lives on a reserve is not sufficient in and of itself to situate income on a reserve.

In our view, the only factor that might connect grants and bonds paid into a RDSP to a reserve would be the residence of the payee. Consequently, these grants or bonds would not have sufficient connection to a reserve to be considered to be situated on a reserve, and would be included in income and subject to tax when received by an Indian beneficiary from the RDSP.

Whether or not the investment income earned by a RDSP (on contributions, grants and bonds) is exempt from tax when received by an Indian beneficiary is a question of fact. According to the jurisprudence, regard must be had to the location of the income-generating activities of the issuer of the investment instrument, rather than to the location where the investment instrument was purchased. Thus, the fact that a RDSP is set up and managed through a financial institution located on a reserve is not sufficient, in and of itself, to situate the investment income of the RDSP on a reserve. In general, unless the income-generating activities of the issuer with respect to the particular investment instrument take place exclusively on a reserve, the investment income will not be situated on a reserve. Consequently, we would expect that, in most cases, the portion of a payment out of a RDSP that relates to investment income would be taxable to an Indian beneficiary.

We trust that these comments will be of assistance.

Yours truly,

Eliza Erskine
Manager
Non-Profit Organizations and Aboriginal Issues Section
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch