27 February 1985 Income Tax Severed Letter

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.

February 27, 1985

Provincial and International Relations Division P. Pinkus, Director

K. Harding

Non-Corporate Rulings Division C.J. Muirhead

Article XVIII - Canada-U.S. Convention (1980)

We would appreciate your views on the following matters.

Paragraph 1 of Article XVIII of the Convention provides that the amount of a pension arising in a Contracting State and paid to a resident of the other Contracting State shall be exempt from taxation in that other State to the extent that it would be excluded from taxable income in the first mentioned State if the recipient were a resident thereof. From the related comments in the Technical Explanation issued by the Treasury Department on April 26, 1984, it is apparent that this exemption was intended to apply to amounts recognized as a return of capital out of the pension plan in the State in which the payments arise and was not intended to be extended to personal allowances provided in that State.

We have been asked to consider whether, in the case of a resident of Canada who receives a lump sum payment out of a U.S. pension fund (in respect of prior employment in the U.S.), a payment into an Individual Retirement Account (I.R.A.) which would be deductible for U.S. tax purposes would, by virtue of Article XVIII, exempt from tax in Canada an equivalent amount of the pension receipt. For example, where the pension payment is $200,000 and for U.S. purposes $40,000 is considered to be a return of capital, if the recipient makes a payment into an IRA of $160,000 would Article XVIII exempt in full the $200,000 receipt? In the reverse scenario, where a U.S. resident receives a lump sum payment out of a Canadian pension fund (in respect of prior employment in Canada), if he transfers the payment into an RRSP (under 60(j)) will the lump sum payment be exempt from tax In the U.S.?

Our initial reaction is that the exemption referred to above is not applicable in the above-mentioned circumstances, since the only issue to be resolved in applying paragraph 1 of Article XVIII is what amount would be exempt from tax if the recipient were resident in the State in which the payment arose. If the Article were to be interpreted so that a contribution into an IRA could exempt an amount of pension income from tax in Canada, it would appear that the amount in question would not subsequently be taxable in Canada, since it would form part of the taxpayer's cost of his capital interest in a trust or his annuity.

In connection with the IRA, we have said that, by virtue of subsection 75(2), the income of the trust would be taxable in the hands of the beneficiary. In this context, we note that pursuant to the provisions of paragraph 5 of Article XXIX of the Convention, the timing of the U.S. taxation of the growth in an RRSP may be deferred until receipt if the taxpayer so elects. There appears to be no similar provision in respect of the Canadian taxation of the growth in an IRA (as described above pursuant to subsection 75(2)).

for Director Non-Corporate Rulings Division