7 October 2016 APFF Financial Strategies and Instruments Roundtable Q. 1, 2016-0651771C6 F - Critical Illness Insurance -- translation

Principal Issues: Whether subsection 15(1) could apply to the transfer (without consideration) by a corporation of its critical illness insurance policy to its sole shareholder?

Position: Yes in the situation described.

Reasons: No consideration paid by the shareholder.

7 October 2016 APFF Financial Strategies and Financial Instruments Roundtable - 2016 Conference

Question 1

Transfer of a critical illness insurance policy from a corporation to a shareholder

An operating corporation ("Opco") subscribed several years ago to a critical illness insurance policy with respect to its sole shareholder, who is very actively involved in the day-to-day operations of the corporation. The policyholder and beneficiary is the corporation, and the corporation also pays all policy premiums.

The shareholder is in the process of selling shares in the capital of Opco to third parties. Despite the sale of Opco, the shareholder still wishes to retain the critical Illness policy in some way. The shareholder therefore plans to transfer such policy to a personal holding company ("Holdco"). In this case, the policy would have a fair market value ("FMV") greater than the total premiums paid by Opco over the years.

As part of the 2015 APFF Taxation Roundtable on Financial Strategies and Instruments (question 1) (footnote 1), the Canada Revenue Agency (CRA) made the following comments regarding the consequences of Opco's transfer of such policy to Holdco in the situation described above:

“The determination of the tax consequences to Opco of the above-mentioned transactions can be made only after an examination of all the relevant facts (including the contractual provisions). However, we can provide the following general comments respecting Opco.

We are of the view that the gain or loss realized on the disposition of a critical illness insurance policy is generally of a capital nature. However, by reason of the exception stipulated in subparagraph 39(1)(a)(iii) and (ii), this gain or loss will not be taxable as a capital gain or deducted as a capital loss for purposes of the Income Tax Act. Furthermore, the provisions of section 148 would not apply to a critical illness insurance policy which is not a life insurance policy and the Income Tax Act does not contain any other provision providing specifically for the tax treatment of the disposition of such property. In other words, the gain realized on the transfer of a critical illness insurance policy will generally not be taxable and the loss will generally not be deductible. …”

Opco's transfer of the critical illness policy could be made to its shareholder for no consideration because of the taxpayer’s status as a shareholder. The shareholder would then become the holder and beneficiary of the policy. In addition, the transfer would not be made in the form of a dividend in kind.

The critical illness policy does not include a provision or rider concerning a reimbursement of premiums to a beneficiary. Subsection 15(1) of the Income Tax Act ("ITA") would not apply to the shareholder. It is not absolutely certain that the shareholder will receive the benefit amount one day. If the shareholder does not contract one of the illnesses covered in the policy before its expiry date, or if he dies, for example, accidentally, or if he does not survive for 30 days after contracting an illness covered by the policy, he will continue to pay premiums without receiving benefits.

Question to CRA

In the event that the critical illness insurance policy is transferred directly to the shareholder, can the CRA confirm that the tax consequences to Opco would be the same and that subsection 15(1) would not apply to the shareholder?

CRA response

The CRA comments included above (from the CRA response to question 1 of the 2015 APFF Financial Strategies and Instruments Roundtable) concerning the tax treatment for Opco would be also be relevant respecting a transfer of critical illness insurance policy by Opco to the shareholder.

However, in a situation such as described above, the shareholder who received the critical illness insurance policy from Opco for no consideration would generally be required to include the value of the benefit in computing income by virtue of subsection 15(1). Determining the value of a benefit is a question of fact that cannot be resolved until after a thorough analysis of the facts of a particular situation. In the situation described above, the value of the benefit could correspond to the FMV of the policy.

Robert Gagnon
(613) 670-9018
October 7, 2016
2016-065177

FOOTNOTES

Due to our system requirements, the footnotes contained in the original document are reproduced below:

1 CANADA REVENUE AGENCY, Technical Interpretation, 2015-0588941C6, 9 October 2015.
2 Id.