Personal Tax Measures

March 29, 2012

IN THIS SECTION:

Registered Disability Savings Plans

The Budget proposes a number of changes to the rules governing Registered Disability Savings Plans (“RDSPs”). Many of the proposals address issues raised during the consultation process that the Government held in the fall.

Plan Holders

The current rules provide that the plan holder of a RDSP established for a beneficiary who has attained the age of majority must be either the beneficiary or, if the beneficiary is incapable of entering into a contract, the guardian, tutor, curator or other person or entity “legally authorized to act” on behalf of the beneficiary.

Family members may not always need, or wish, to obtain a legal guardianship order for a child or other relative, and this requirement can be a stumbling block for families. The process can be expensive and lengthy – and can have other consequences for the individual who has been declared “incapable” as part of the process. The Budget proposes to allow, for the next 4-1/2 years, certain family members to become plan holders of RDSPs for adults who are not capable of entering into a contract.  This measure is intended to make RDSPs more accessible to individuals across Canada, who might not otherwise be capable or have a legal representative. The Government is encouraging the provinces to work towards streamlining and simplifying the process of becoming “legally authorized to act” in respect of a RDSP in the intervening period.

Specifically, where, in the opinion of a RDSP issuer, an individual’s ability to enter into a contract is in doubt, the parent, spouse or common-law partner of the individual will be considered a “qualifying family member” and, until the end of 2016, will be eligible to establish a RDSP for the individual and be the plan holder.  If a qualifying family member opens a RDSP for a disabled beneficiary prior to the end of 2016, he or she can remain as the plan holder after 2016.

The Budget proposes to provide that no action will lie against a RDSP issuer that allows a qualifying family member to establish and become the holder of a RDSP for the beneficiary where the issuer is in doubt of the beneficiary’s ability to enter into a contract. This measure may provide financial institutions that have permitted family members to open RDSPs for a child or spouse without documentation of the guardianship with some comfort, however, it is our view that issuers should consider what documentation they require with respect to determining capacity or incapacity. Query, however, whether federal income tax legislation can protect a financial institution with respect to what is otherwise a provincial matter.

RDSP issuers will be required to notify an individual when a qualifying family member establishes an RDSP for which the individual is the beneficiary. Presumably, this will facilitate the ability of the beneficiary to replace the qualifying family member as plan holder if the individual is subsequently determined to be capable, whether by the issuer or by “a public agency or tribunal authorized to make such determination” pursuant to provincial legislation governing incapable persons.  Moreover, if a guardian, tutor, curator or other person who is legally authorized to act on behalf of the individual is appointed, that person would replace the qualifying family member as the plan holder.

Proportional Repayment Rule

As it stands today, any Canada Disability Saving Grants (“CDSGs”) and Canada Disability Savings Bonds (“CDSBs”) paid into a RDSP in the preceding 10 year period generally must be repaid to the Government on any of the following events (the “10-year repayment rule”):

  • an amount is withdrawn from the RDSP;
  • the RDSP is terminated or deregistered; or
  • the RDSP beneficiary ceases to be eligible for the Disability Tax Credit (“DTC”) or dies.

To ensure funding to meet potential obligations under this rule, RDSP issuers must set aside an “assistance holdback amount” equal to the total CDSGs and CDSBs paid into the RDSP in the preceding 10 years less any CDSGs and CDSBs already repaid in respect of that 10-year period. If one of the triggering events occurs, the required repayment is equal to the amount of the assistance holdback amount immediately preceding the event.

While the purpose of the 10-year rule is to encourage long-term savings and prevent the “recycling” of CDSGs and CDSBs, the rule has been criticized for being overly-complex and harsh. To provide greater access to RDSP savings for small withdrawals, while still supporting the long-term savings objective of these plans, the Budget proposes to introduce a proportional repayment rule that will apply when a withdrawal is made from a RDSP.  This rule will replace the 10-year repayment rule only in respect of RDSP withdrawals.  The existing 10-year repayment rule will continue to apply where the RDSP is terminated or deregistered, or the RDSP beneficiary ceases to be eligible for the DTC or dies.

The proportional repayment rule will require that for each $1 withdrawn from a RDSP, $3 of any CDSGs or CDSBs paid into the plan in the 10 years preceding the withdrawal be repaid, up to a maximum of the assistance holdback amount. Repayments will be attributed to CDSGs or CDSBs that make up the assistance holdback amount based on the order in which they were paid into the RDSP, beginning with the oldest amounts.

Maximum and Minimum Withdrawals

The Budget proposes greater flexibility with respect to the rules governing maximum and minimum withdrawals from RDSPs to ensure that RDSP assets are used to support the RDSP beneficiary during his or her lifetime.

There are two types of withdrawals that may be made from a RDSP: (i) a “disability assistance payment,” which may be made at any time; and (ii) a lifetime disability assistance payment (“LDAP”), which provides an ongoing stream of payments from the RDSP to the beneficiary (similar to an annuity). The maximum LDAP that can be withdrawn from the RDSP each year is determined by a formula (the LDAP formula) that is based on the age of the beneficiary and the fair market value of the assets held in the RDSP.

Specific rules limit the maximum amount that may be withdrawn annually from RDSPs where CDSGs and CDSBs paid into the plan exceed the non-government, or private, contributions made to the plan. Such RDSPs are known as primarily government-assisted plans (“PGAPs”). Total withdrawals from a PGAP in a calendar year may not exceed the amount determined by the LDAP formula for the year. No such maximum withdrawal limits apply to non-PGAPs.

The Budget proposes to increase the maximum annual limit for withdrawals from PGAPs to the greater of the amount determined by the LDAP formula and 10% of the fair market value of plan assets at the beginning of the calendar year. A PGAP beneficiary will continue to be eligible for an exemption from the maximum annual limit for withdrawals if a medical doctor certifies that the beneficiary has a life expectancy of 5 years or less.

PGAPs are also subject to a minimum annual withdrawal requirement commencing with the calendar year in which the beneficiary attains 60 years of age. For that calendar year and subsequent years, the total withdrawals from a PGAP must be at least equal to the amount determined by the LDAP formula for the year. For other RDSPs, there is currently no specified minimum withdrawal amount.

The Budget proposes to extend to all RDSPs the minimum annual withdrawal requirement that currently applies only to PGAPs. Accordingly, once a RDSP beneficiary attains 60 years of age, the total withdrawals from the RDSP in a calendar year must be at least equal to the amount determined by the LDAP formula for the year. It is unclear why the age of 60 years was chosen, as the RDSP beneficiary will likely continue to be eligible for provincial benefits (e.g., the ODSP in Ontario) until age 65 when Old Age Security commences. While most of the provinces do not penalize a beneficiary of a RDSP when RDSP withdrawals are made, if withdrawals are required while the individual is in receipt of provincial benefits and accumulates the funds (as they are not required while on provincial benefits), it may be that provincial benefits will be affected the following year.

These measures will apply after 2013.

Rollover of RESP Investment Income

The Budget proposes to allow investment income earned in a Registered Education Savings Plan (“RESP”) for a child with a severe disability to be transferred on a tax-free (or “rollover”) basis to a RDSP for a common beneficiary. This measure will allow parents to maintain that income for the benefit of a child who perhaps became disabled after the parents established a RESP for him or her, rather than having the funds transferred into the Registered Retirement Savings Plan (“RRSP”) of the parent/subscriber.

To qualify for the rollover, the beneficiary must meet the current age and residency requirements for RDSP contributions, as well as one of the following conditions:

  • the beneficiary has a severe and prolonged mental impairment that can reasonably be expected to prevent the beneficiary from pursuing post-secondary education;
  • the RESP has been in existence for at least 10 years and each beneficiary is at least 21 years of age and is not pursuing post-secondary education; or
  • the RESP has been in existence for more than 35 years.

These are the existing conditions for receiving an accumulated income payment (“AIP”) from a RESP.

Under this proposal, when RESP investment income is rolled over to an RDSP, contributions in the RESP will be returned to the RESP subscriber on a tax-free basis. The subscriber can contribute these amounts to the RDSP (immediately or over time), potentially attracting CDSGs.  However, Canada Education Savings Grants and Canada Learning Bonds in the RESP will have to be repaid to the Government and the RESP terminated by the end of February of the year after the year during which the rollover is made.  Similar to contributions of an AIP to a RRSP, the rollover amount will not be subject to regular income tax or the additional 20% tax.

The amount rolled over from a RESP to a RDSP may not exceed, and will reduce, the beneficiary’s available RDSP “contribution” room.  The rollover amount will be considered a private contribution for the purpose of determining whether the RDSP is a PGAP, but will not attract CDSGs. The rollover amount will be included in the taxable portion of RDSP withdrawals.

This measure will apply to rollovers of RESP investment income made after 2013.

Termination of a RDSP following Cessation of Eligibility for the DTC

Currently, if a beneficiary becomes ineligible for the DTC for a taxation year, the RDSP must be terminated by the end of the following year and no contributions may be made to, and no CDSGs or CDSBs may be paid into, the RDSP. Further, the 10-year repayment rule applies and any assets remaining in the RDSP must be paid to the beneficiary.

However, a beneficiary who becomes DTC-ineligible might, due to the nature of their condition, be eligible for the DTC in a subsequent year and would be able to establish a new RDSP. Contribution room and repaid CDSGs and CDSBs are not restored in these circumstances.

To reduce the administrative burden on these beneficiaries and ensure greater continuity in their long-term saving, the Budget proposes to extend, in certain circumstances, the period in which a RDSP may remain open when a beneficiary becomes DTC-ineligible. A medical practitioner must certify in writing that the nature of the beneficiary’s condition makes it likely that the beneficiary will, because of the condition, become eligible for the DTC in the foreseeable future.

If a RDSP plan holder decides to take advantage of this measure, the plan holder will be required to elect in a prescribed form and submit the election, along with the written certification, to the RDSP issuer.  The RDSP issuer will then be required to notify Human Resources and Skills Development Canada (“HRSDC”) that the election has been made. The election must be made on or before December 31st of the year following the first full calendar year in which the beneficiary is DTC-ineligible.

Where an election is made, the following rules will apply commencing with the first full calendar year in which the beneficiary is DTC-ineligible:

  • No contributions to the RDSP will be permitted, including under the proposed rule for the rollover of RESP investment income. However, a rollover of proceeds from a deceased individual’s RRSP or Registered Retirement Income Fund to the RDSP of a financially dependent infirm child or grandchild will still be permitted.
  • No new CDSGs or CDSBs will be paid into the RDSP. If a beneficiary dies after an election has been made, the existing 10-year repayment rule will apply.
  • No new entitlements will be generated for the purpose of the carryforward of CDSGs and CDSBs for years in which the beneficiary is DTC-ineligible.
  • Withdrawals from the RDSP will be permitted, and will be subject to the proposed proportional repayment rule and the proposed maximum and minimum withdrawal rules as applicable. For years in which the beneficiary is DTC-ineligible, the assistance holdback amount will be equal to the amount of the assistance holdback amount immediately preceding the beneficiary becoming DTC-ineligible less any repayments made during or after the first full calendar year in which the beneficiary is DTC-ineligible.

Neither the certification required for an election, nor the election itself, will have any bearing on any determination of an individual’s eligibility for the DTC. The sole purpose of the certification and election is to allow a RDSP to remain open for the years under election.

An election will generally be valid until the end of the 4th calendar year following the first full calendar year in which a beneficiary is DTC-ineligible.   The RDSP must be terminated by the end of the first year in which there is no longer a valid election.

If a beneficiary becomes eligible for the DTC while an election is valid, the usual RDSP rules will apply commencing with the year in which the beneficiary becomes eligible.  Should the beneficiary become DTC-ineligible at some later time, a new election could be made.

This measure will apply to elections made after 2013. RDSPs that under current rules would have to be terminated before 2014 because the beneficiary has become DTC-ineligible and that have not yet been terminated, will not be required to be terminated until the end of 2014. Plan holders of such RDSPs may take advantage of this measure if they obtain the required medical certification and make an election on or before December 31, 2014.

Administrative Changes

The Budget proposes to replace the existing deadlines for notifying HRSDC of the establishment of a RDSP (within 60 days by the issuer) and completing a transfer from one RDSP issuer to another (within 120 days) with a “without delay” requirement. The elimination of these deadlines is intended to give issuers greater flexibility in complying with their obligations.

Further, the Budget proposes to shift the responsibility of providing information to the new issuer when a RDSP is transferred from the issuer of the original plan to HRSDC.

These measures will apply on Royal Assent.

In addition, the Budget proposes that the Canada Disability Savings Regulations be amended to eliminate the 180-day deadline for a RDSP issuer to submit an application for a CDSG or a CDSB.

This measure will apply on and after the day that the regulation amending the Canada Disability Savings Regulations is registered.

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Retirement Compensation Arrangements

Background

Retirement Compensation Arrangements (“RCAs”) are special arrangements that are commonly made for the benefit of executives or senior employees to provide funding for their retirement. The RCA itself is a fund that may be established as a trust and managed by a custodian and is exempt from tax liability under Part I of the Tax Act. Contributions made by an employer to a RCA, funded for the benefit of an employee upon his or her retirement, are deductible to the employer in respect of the taxation year in which they are made. However, these contributions are taxed to the RCA at a rate of 50%, pursuant to the regime under Part XI.3 of the Tax Act. Further, any income and gains that are earned or realized by a RCA are also subject to the 50% refundable tax rate. Generally, when distributions are made from a RCA to the employee for whose benefit the arrangement was made (i.e., upon his or her retirement), the RCA receives a refund of the refundable tax paid under Part XI.3 of the Tax Act. Accordingly, for each $2 that are distributed from a RCA to the employee, the RCA receives $1 in refundable tax.

Recently, the CRA has been actively engaged in RCA audits. In many cases, the CRA’s auditing position has been that many RCAs are, in fact, salary deferral arrangements (“SDAs”), as that term is defined under subsection 248(1) of the Tax Act. There is considerable overlap between the definitions of RCAs and SDAs in the Act, such that the only question in most cases is whether it is reasonable to conclude that, by means of a RCA, wages or remuneration that would have been otherwise paid to an employee in one taxation year were otherwise deferred to a future taxation year.

Further to the CRA’s recent reviews of RCAs, the Budget proposes new prohibited investment and advantage rules to directly prevent RCAs from engaging in non-arm’s length transactions. These rules are modeled on similar rules that currently apply to Tax-Free Savings Accounts (“TFSAs”) and Registered Retirement Savings Plans (“RRSPs”). The Budget also proposes a new restriction on RCA tax refunds in circumstances where RCA property has lost value over time, as previously, refundable tax could still have been available in such circumstances.

Prohibited Investment

The Budget proposes adding several definitions to the Act in respect of RCAs. These include the term “specified beneficiary,” defined as an employee that does not deal at arm’s length with the RCA or, more specifically, an employee entitled to benefits under a RCA who has a significant interest in the employer that is making contributions on his or her behalf. In most instances, owners/managers would likely qualify as “specified beneficiaries” under the proposed rules.

In situations where the beneficiary of a RCA is a “specified beneficiary,” the new prohibited investment rules will apply. If the beneficiary of a RCA is a “specified beneficiary,” the RCA’s custodian will be liable to pay a 50% tax on the fair market value of any prohibited investment acquired or held by the RCA. In accordance with similar rules that presently apply to RRSPs, “prohibited investments” include certain debts of and investments in entities in which the RCA beneficiary has an interest in excess of 10% or with which the beneficiary/employee does not deal at arm’s length.  Pursuant to the proposed rules in the Budget, if a specified beneficiary participates in the acquisition or holding of a prohibited investment by a RCA, he or she will be jointly and severally, or solidarily, liable (to the extent of his or her participation) for the payment of the 50% tax, meaning that this tax may not only be levied against the RCA custodian.

If the RCA disposes of the prohibited investment by the end of the year that follows the year in which the prohibited investment was first acquired, the 50% tax will be refundable to the RCA. The tax may also be refundable if the RCA disposes of the investment at such later time as the Minister of National Revenue (the “Minister”) considers reasonable, so long as all of the persons liable for the payment of the 50% knew or ought to have known that the investment was a prohibited investment. The Minister will also have the power to waive or cancel the tax in situations where the Minister is satisfied that it is just and equitable to do so, having regard to all the circumstances. This provision mirrors similar provisions in respect of TFSAs and RRSPs.  However, it is not evident when and under what circumstances, the Minister will actually exercise his or her discretion to waive or cancel the tax.

The new rules applicable to specified beneficiaries and prohibited investments will apply to investments acquired, or that become prohibited investments, on or after Budget Day.

Advantages

The Budget also proposes that the Tax Act’s current definition of “advantage” be revised and narrowed in order to better address the forms of aggressive tax planning that the CRA has encountered in its review of some RCAs. The Budget release cites the example of a RCA that buys a high-value property, whose value is intentionally eroded later on or transferred out of the RCA for little-to-no consideration. In these cases, a “RCA strip” transaction will be said to have occurred. The Budget proposes defining a “RCA strip” in the Tax Act in a similar manner to the existing definition of an “RRSP strip.” If a RCA holds a promissory note that was issued by a non-arm’s length debtor in respect of a loan made by the RCA to him or her, a “RCA strip” will be deemed to have occurred if the debtor does not make commercially reasonable payments of principal and interest in respect of the promissory note. It is not clear what repayment terms would be considered “commercially reasonable.”

Advantages received by a taxpayer in respect of a RCA will, similar to the current advantage rules in the Tax Act, be subject to a special tax equal to the fair market value of the advantage. Similar to the proposed rules in respect of the acquisition of a prohibited investment, the custodian of the RCA will be liable for the special tax and, to the extent that a “specified beneficiary” of a RCA participated in extending the advantage, he or she will be liable to the payment of the special tax.  Also, similar to the proposed rules in respect of prohibited investments, in certain circumstances, the Minister will have the power to waive or cancel the special tax where he or she is satisfied that it is just and equitable to do so.

Transitional Rules

Since the new rules in respect of prohibited investments and advantages are effective as of Budget Day, special transitional rules have been provided. For transactions that occurred before Budget Day that resulted in an advantage being obtained by a specified beneficiary of a RCA on or after Budget Day, the amount of theadvantage will not be subject to the special tax provided, so long as the amount is included in computing the income of the specified beneficiary. Further, if transactions that occurred before Budget Day will result in a RCA receiving an advantage on or after Budget Day, the amount of the advantage will not be subject to the special tax so long as the amount is distributed from the RCA and included in the income of the RCA beneficiary for the year in which the distribution was made, or in the employer’s income for that year, with the distributions to be provided with the same tax treatment as any regular taxable distributions from RCAs.

RCA Tax Refunds

Finally, if RCA property has declined in value, the Budget proposes that the RCA tax be refunded only if the decline in value of the property held by the RCA cannot be reasonably attributable to prohibited investments or advantages. This is an objective test and it is not clear what will be “reasonable” in certain circumstances. Further, the Budget proposes that the Minister be given discretion to allow the RCA tax to be refunded in situations where RCA property has declined in value where is just and equitable to do so.  Once again, the proposed restriction on RCA tax refunds will apply to all contributions made to RCAs on or after Budget Day.

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Employees Profit Sharing Plans

Employees Profit Sharing Plans (“EPSPs”) are arrangements under which an employer is required to make payments computed by reference to profits to a trust for the benefit of employees of an employer or of a non-arm’s length corporation. The beneficiaries of the trust can be all of the employees of the employer or just a designated group of employees. Generally the employer may deduct any amounts contributed to the plan, and amounts received by the trust from the employer or earned from property held by the trust are taxable in the hands of the employees as though such amounts had been earned directly by those employees. Amounts allocated to employees are included in such employees’ income regardless of whether or not they are distributed to the employees, and any such amounts are generally not taxable on their eventual distribution.  Although EPSPs do not achieve deferral of income tax (other than perhaps in the first year the EPSP is established), they do present income splitting opportunities with family members and also have the advantage that contributions to EPSPs are not subject to source deductions in the same manner as wages paid directly to employees.

According to the Government, EPSPs have been used increasingly as a means for some business owners to direct profits to members of their families in order to reduce or defer the payment of income tax on these profits. In the 2011 Budget, the Government announced that it would review the existing EPSP regime, but would ensure that any future changes to the rules designed to limit the potential for abuse would continue to accommodate appropriate uses of EPSPs. The Government consulted with stakeholders from August to October 2011, and participants in the consultations generally recognized the Government’s concern in placing reasonable limitations on EPSP contributions to combat perceived abuses of EPSPs in the context of non-arm’s length employees.

To address potential abuse of EPSPs and discourage excessive employer contributions, the Budget proposes a special tax payable by a specified employee on an “excess EPSP amount”.  A specified employee is generally an employee who has a significant equity interest (generally at least 10% of any class of shares) in his or her employer or who does not deal at arm’s length with his or her employer. Generally, an “excess EPSP amount” will be the portion of an employer’s EPSP contribution, allocated by the trustee to a specified employee, that exceeds 20% of the specified employee’s salary received in the year by the specified employee from the employer.

The special tax includes a federal component and a provincial component, which will be equivalent to the top federal marginal tax rate of 29% and the top marginal tax rate of the province of residence of the specified employee, respectively.  The special tax will be shared with provinces and territories participating in a Tax Collection Agreement, which include all provinces and territories except Québec. The Government will introduce a new deduction to ensure that an excess EPSP amount is not subject to double taxation both under the special tax and as regular income.  However, a specified employee will not be able to claim any other deductions or credits in respect of an excess EPSP amount.

The Minister of National Revenue will be able to waive or cancel the special tax if the Minister considers that it is just and equitable to do so, having regard to all the circumstances. In such cases, the normal rules governing EPSPs will apply.

This measure will apply in respect of EPSP contributions made by an employer on or after Budget Day, other than contributions made before 2013 pursuant to a legally binding obligation arising under a written agreement or arrangement entered into before Budget Day.

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Group Sickness or Accident Insurance Plans

Currently, wage-loss replacement benefits payable on a periodic basis under a group sickness or accident insurance plan to which an employer has contributed are included in an employee’s income for tax purposes when those benefits are received. However, no amount is included in an employee’s income, either when the employer contributions are made or the benefits are received, to the extent that:

  • benefits are not payable on a periodic basis; or
  • benefits are payable in respect of a sickness or
    accident when there is no loss of employment income.

To provide for more neutral and fair tax treatment of beneficiaries under a group sickness or accident insurance plan, the Budget proposes to include the amount of an employer’s contributions to a group sickness or accident insurance plan in an employee’s income for the year in which the contributions are made to the extent that the contributions are not in respect of a wage-loss replacement benefit payable on a periodic basis.

This measure will not affect the tax treatment of private health services plans or other plans described in paragraph 6(1)(a) of the Tax Act.

This measure will apply in respect of employer contributions made on or after Budget Day to the extent that the contributions relate to coverage after 2012, except that such contributions made on or after Budget Day and before 2013 will be included in the employee’s income for 2013.

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Life Insurance Policy Exemption Test

Holders of permanent life insurance policies are not subject to annual income taxation in respect of the policies’ annual growth or accretion in value, so long as the policy in question is an “exempt” policy, pursuant to the Tax Act and the Income Tax Regulations (the “Regulations”).  Upon death, the beneficiaries of an exempt life insurance policy receive death benefits on a tax-free basis, since the insurer, and not the insured, bore the tax burden in respect of the policy over its lifetime.

The Regulations provide a test that is used to determine whether a particular permanent or “cash value” life insurance policy is an exempt policy and therefore not subject to income taxation in a particular taxation year.  This exemption test was implemented in the early 1980s and is now almost 30 years old. In the intervening years, while life insurance products have changed and developed (in particular with the widespread use of universal life insurance products), the exempt test has remained static. The test’s purpose was to differentiate between protection-oriented life insurance policies and investment-oriented products.  To date, life insurance policies have been measured against a standard benchmark policy in order to determine whether they meet the exemption test in respect of any given taxation year.

Thirty years after its implementation, and submissions to the Department of Finance from industry groups in 1998 and 2009, the Government is reviewing and revisiting the exemption test in order to determine whether it continues to serve its purpose and how it may be improved and modernized to better suit today’s realities.  In this regard, the Budget proposes the following revisions to the exemption test:

  • Using the Canadian Institute of Actuaries’ 1986-1992 mortality tables in order to measure the savings in an actual policy and the benchmark policy and applying an interest rate of 3.5% (these measures are more consistent with and better reflect today’s mortality rates and standard investment; they are also more consistent in terms of measuring the savings in a particular permanent life insurance policy against the savings in the benchmark policy).
  • Increasing the benchmark policy’s endowment time (this is the time when death benefits are payable, on the earlier of death or a specified age) from age 85 years to age 90 years, in order to reflect increased life expectancy in today’s population.
  • Using the greater of:
    • a life insurance policy’s cash surrender value, prior to the application of any surrender charges (the cash surrender value is the amount that the holder of a life insurance policy may collect in respect of the surrender of a policy of life insurance at any given time); and
    • the net premium reserve (which is equal to the present value of future death benefits paid under the policy, less the present value of all future net premiums payable in respect of the policy of life insurance)

to measure the savings in an actual policy. This is expected to capture all savings in an actual policy of life insurance and to improve the measurement of the savings in a given permanent life insurance policy and in the benchmark policy.

  • Reducing the benchmark’s policy pay period from a period of 8 to 20 years, to be more consistent with current industry practices, market realities and the practices and methods used in other countries.

The Budget also proposes a recalibration of the Investment Income Tax (“IIT”) that is levied on life insurers, where appropriate, in order to neutralize the impacts that the proposed technical changes described above may have on the IIT base.

The revisions to the exemption test and the recalibration of the IIT have not been finalized.  The Government will enter into a period of consultations over the next few months with key stakeholders regarding the Budget’s proposed amendments.  As such, the Budget’s proposed amendments will apply to life insurance policies that are issued after 2013.

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Eligible Dividends – Split-Dividend Designation and Late Designation

The Budget proposes to simplify the way a resident Canadian corporation pays and designates eligible dividends by allowing the corporation to designate, at the time it pays a taxable dividend, any portion of the dividend to be an eligible dividend. The portion of a taxable dividend that is designated to be an eligible dividend will qualify for the enhanced Dividend Tax Credit, and the remaining portion will qualify for the regular Dividend Tax Credit.

The Budget also proposes to allow the Minister of National Revenue to accept a corporation’s late eligible dividend designation provided the corporation makes the late designation within the three-year period following the day on which the designation was first required to be made.  In addition, the Minister must be of the opinion that accepting the late eligible dividend designation would be just and equitable in the circumstances, including to affected shareholders.

These welcome measures will apply to taxable dividends paid on or after Budget Day.

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Mineral Exploration Tax Credit for Flow-Through Share Investors

Under flow-through share agreements, corporations that incur legitimate tax expenses in connection with mineral exploration work undertaken in Canada may renounce or “flow” such expenses through to their investors/shareholders. Pursuant to subsection 127(9) of the Tax Act, the investors may then claim a deduction from their income in respect of a given taxation year equal to 15% of specified mineral exploration expenses incurred in Canada in that year and flowed through to them by the corporation pursuant to the flow-through share agreement.  Tax credits for flow-through share agreements are advantageous for corporations engaged in mineral exploration work in Canada, as they make the corporations more attractive to investors and consequently permit the corporations to sell their shares at a premium.

The Budget proposes to extend the mineral exploration tax credit available for flow-through share investors for one additional year, pursuant to proposed amendments to subsection 127(9) of the Tax Act.  Similar provisions were contained in the Government’s 2011 Budget.

The Tax Act presently contains a “look-back” rule, which enables funds that are raised in one calendar year and that receive the benefit of the mineral exploration tax credit  to be spent on eligible exploration up to the end of the following calendar year. Thus, the Budget proposals will permit funds raised with the credit during the first three months of 2013 to support eligible exploration until the end of 2014.  Based on the proposed amendments to subsection 127(9), taxpayers will be eligible for the Mineral Exploration Tax Credit in respect of flow-through share agreements entered into on or before March 31, 2013.

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Medical Expense Tax Credit

Subsection 118.2(1) of the Tax Act provides medical expense tax credits to taxpayers who are faced with high medical or associated expenses in a taxation year as result of, inter alia, illness or disability. Tax relief under subsection 118.2(1) is equivalent to 15% of the medical or disability-related expenses incurred by a taxpayer in a taxation year that are in excess of the threshold of the lesser of 3% of that taxpayer’s annual income in that year and $2,109 (which is the applicable indexed dollar amount in 2012).

Subsection 118.2(2) of the Tax Act provides a lengthy list of medical expenses that will qualify for the tax credit under subsection 118.2(1). The Government regularly revisits this list in order to determine whether there are any new technologies or devices in respect of which a medical expense tax credit should be available under subsection 118.2(1) of the Tax Act.

The Budget proposes to add blood coagulation monitors, for use by individuals who require anti-coagulation therapy, as well as associated disposable peripherals such as pricking devices, lancets and test strips, to the list of eligible medical expenses under subsection 118.2(1). Taxpayers will be entitled to claim a medical expense tax credit with respect to such medical supplies and devices, so long as they are prescribed by a medical practitioner, and so long as the cost in respect of the devices and accessories was incurred after 2011.

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