In a recent Interpretation (CRA Views No. 2015-0573841C6) (the “Interpretation”), the Canada Revenue Agency (“CRA”) discussed its position on a distribution of an interest in a life insurance policy from a corporation to a shareholder upon the corporation’s wind-up. The CRA had been asked to revisit its position taken at the 2005 Conference for Advanced Life Underwriting (“CALU”), where it had indicated that certain provisions of the Income Tax Act (Canada) (“ITA”) would apply such that in circumstances involving the wind-up of a corporation, a distributed interest in a life insurance policy would be disposed of at the policy’s fair market value (“FMV”) rather than at its cash surrender value (a generally unhelpful position for the taxpayer).
The Relevant Statutory Provisions
The CRA was asked to comment on a wind-up under subsection 88(2) of the ITA. In general, this provision applies to wind-ups or dissolutions in which Canadian corporations that are not subsidiaries distribute all or substantially all of their property to their shareholders. For corporations which own permanent life insurance policies at the time they are wound-up, such corporations’ interest in the policies would generally be included as part of the property to be distributed to their shareholders at the time of their wind-up or dissolution.
If the requirements of subsection 88(2) are met, either one of two deeming provisions could then operate to determine the value of the acquired policy interest to a shareholder at the time of a corporation’s wind-up. First, subsection 69(5) of the ITA provides that where a shareholder appropriates property of a corporation in any manner whatever upon that corporation’s winding-up, the corporation will be deemed to have disposed of the property for its FMV, and the shareholder will be deemed to have acquired the property for its FMV.
On the other hand, subsection 148(7) of the ITA provides, in general, that when an interest in a life insurance policy is gifted, distributed from a corporation or by operation of law, or distributed in any manner to any person not dealing at arm’s length with the policyholder, the policyholder will be deemed to have distributed that policy for its cash surrender value (and not at its FMV). The recipient will be similarly deemed to have acquired the policy for its cash surrender value. This is generally a more beneficial result to the taxpayer.
The CRA was asked to comment on which provision (whether subsection 69(5) or 148(7)) applies to a life insurance policy in the context of a corporate wind-up under subsection 88(2) of the ITA, and to reconcile the substantial difference in tax treatment which the two provisions present, particularly given that the FMV of a life insurance policy may, in many typical cases and/or at certain times, far exceed the policy’s cash surrender value.
The CRA’s Position
In the Interpretation, the CRA notes that the general rule which applies when two provisions of the ITA conflict with one another is that the more specific provision takes precedence over the more general. Of the two provisions in question (subsection 69(5) and subsection 148(7)), the CRA acknowledged that there was no clear indication as to which was the more specific and which was the more general. Nevertheless, the CRA reiterated the position which it had previously taken during the 2005 CALU conference, as well as in an earlier Interpretation (CRA Views 2005-0116631C6), that subsection 69(5) of the ITA appeared, in its view, to be more specific, and that it should therefore be generally expected to take precedence over subsection 148(7) in cases involving the wind-up of corporations which hold interests in life insurance policies. It follows that an interest in an insurance policy would, for the CRA’s purposes, be deemed to have been distributed by a corporation on its wind-up, and acquired by the corporation’s shareholder, for proceeds equal to the policy’s FMV and not its cash surrender value. The CRA qualified its position in the Interpretation by adding that: “[its] approach is subject to a review of the particular facts and circumstances of an actual case to ensure that it provides for a reasonable result.”
The “Specificity” of Duelling Provisions of the ITA
On a review of the provisions in question, the CRA’s position that subsection 69(5) is more “specific” than subsection 148(7) appears to be somewhat difficult to justify. The CRA does not appear to have applied any known or reasonable legal measure or test in concluding that subsection 69(5) is the more specific of the two provisions and the matter would, in any event, be open to some degree of subjectivity.
It could be argued that subsection 69(5) of the ITA is more “specific” than subsection 148(7) because it deals with a particular situation: the appropriation by a shareholder of a corporation’s property upon its winding-up. In this regard, subsection 148(7) of the ITA could be reasoned to be less “specific” than subsection 69(5) because it applies to a variety of instances in which an interest in a life insurance policy is transferred, and not just to situations involving the winding-up of a corporation.
On the other hand, it may be just as easy to argue that subsection 148(7) of the ITA is the more “specific” provision in the circumstances because it addresses and deals only with the particular property in question: interests in a life insurance policy. It follows that subsection 69(5) of the ITA is the more general of the two provisions because it has a broad application to all of the “property of [a] corporation” at the time of its wind-up and dissolution.
In the circumstances, it is truly difficult to conclude that, as between subsections 69(5) and 148(7) of the ITA, one provision is truly more “specific” than the other. While the CRA could, no doubt, argue in support of its position that subsection 69(5) should apply, taxpayers would have a ready rebuttal regarding the application of subsection 148(7). Additional clarity and guidance from the CRA would have been appreciated on this point. Instead, while acknowledging that it is not clear which of the two provisions in question is more specific, the CRA stated in the Interpretation that it is waiting for a case (presumably one which could proceed and be decided upon by the courts) in order to ensure that its position leads to a reasonable result.
In the absence of a response from the courts, and while the CRA waits for a determinative case (which may never be forthcoming) to support the application of subsection 69(5), taxpayers should, in cases, consult with professional advisors if they are looking to wind-up a corporation which owns interests in one or more life insurance policies. Many private Canadian corporations own interests in life insurance policies, whether key-person policies or otherwise, and tax and other planning involving these policies is possible, including alternative planning to the winding-up of a corporation which owns interests in a life insurance policy. Professional advice and guidance should be sought in this regard.
The authors wish to thank Miller Thomson LLP Toronto Student-at-Law, Benjamin Mann, for his significant assistance with this article.