2017-0692361C6 CLHIA 2017 Q4 - Gift of a life insurance policy

Principal Issues: Where subsection 248(35) applies to a gift of a life insurance policy, could subsection 248(36) apply to determine the “cost” of the policy for the purpose of applying the deemed fair market value rule in subsection 248(35)?

Position: Yes.

Reasons: Even though subsection 248(36) does not specifically refer to the adjusted cost basis (ACB) of an interest in a life insurance policy, it is our view that the ACB of an interest in a life insurance policy is generally a reasonable proxy for the "cost" of an interest in a life insurance policy for this purpose.

Author: Johnstone, Alexander
Section: ITA 248(35), (36)

CLHIA CRA Roundtable – May 2017

Question 4 – Gift of a life insurance policy

Scenario

Mr. A is the sole shareholder of ACo. In April 2016, Mr. A acquired a life insurance policy on his life with a $1 million death benefit. In May 2016, Mr. A transferred the life insurance policy to ACo for no proceeds. The policy at that time had an adjusted cost basis (ACB) and cash surrender value (CSV) of nil.

In January 2019, ACo continues to own the policy, which has a fair market value (FMV) of $100,000, with an ACB of $50,000 and CSV of nil. ACo now wishes to donate this policy to a registered charity.

Discussion of Tax Consequences

On the original transfer from Mr. A to ACo, subsection 148(7) deems Mr. A to have disposed of the policy for proceeds equal to the greatest of the FMV of the consideration given, the ACB of the policy and the CSV of the policy at the time of transfer. Since all these values are nil, Mr. A will be deemed to have nil proceeds (no taxable gain) and ACo will be deemed to have acquired the policy at a cost of nil at the time of transfer.

The subsequent gift of the policy from ACo to the registered charity is also a disposition to which subsection 148(7) applies. Under that subsection, the greatest of the three amounts referred to above is the ACB of the policy ($50,000) which will result in no taxable gain.

Since ACo acquired the policy within three years of making the gift, subparagraph 248(35)(b)(i) provides that the FMV of the policy for gift receipting purposes is deemed to be the lesser of the FMV of the policy otherwise determined ($100,000) and the ACB of the policy immediately before the gift ($50,000). However, subsection 248(36) also applies where there is a gift of property to which subparagraph 248(35)(b)(i) applies, and that property was acquired by a person or partnership who is not at arm’s length with the taxpayer, during the relevant three-year period that ends when the gift was made. In this case, for purposes of subsection 248(35), the cost or in the case of capital property, the adjusted cost base, of the property to the taxpayer immediately before the gift is made is deemed to be equal to the lowest amount that is the cost, or in the case of capital property, the adjusted cost base to the taxpayer or any of those persons or partnerships immediately before the property was disposed of by that person or partnership.

Question

Can the CRA please comment on whether subsection 248(36) would apply to the gift of the life insurance policy contemplated above (which would reduce the amount that could be receipted to nil), taking note that subsection 248(35) makes specific reference to the ACB of a life insurance policy under which the taxpayer is a policyholder, whereas subsection 248(36) contains no similar reference?

CRA Response

Subsection 248(35) provides a special rule for determining the FMV of a property that is the subject of a gift to a qualified donee. If certain conditions are met, subsection 248(35) provides that the FMV of the gifted property is deemed to be the lesser of its FMV otherwise determined and the cost or, in the case of capital property, the adjusted cost base, or in the case of a life insurance policy in respect of which the taxpayer is a policyholder, the ACB, of the property to the taxpayer immediately before the gift is made.

The Department of Finance Explanatory Notes for subsection 248(36) describe the subsection as applying in conjunction with subsection 248(35), to "look-back" to discern whether a gifted property to which subsection 248(35) applies was previously acquired by a person (or partnership) not dealing at arm's length with the taxpayer within a three-year (or a ten-year) period of the gift. Where applicable, subsection 248(36) generally provides that in applying subsection 248(35), the cost, or in the case of capital property, the adjusted cost base, of the property to the taxpayer is deemed to be equal to the lowest amount of the cost or the adjusted cost base, as the case may be, to the taxpayer or any such person or partnership.

Unlike subsection 248(35), subsection 248(36) does not specifically refer to the ACB of a life insurance policy. In fact, as originally proposed, neither subsections 248(35) nor (36) included a specific reference to the ACB of a life insurance policy. However, proposed subsection 248(35) was later amended to include such a reference before it was enacted.

Notwithstanding that proposed subsection 248(36) was not similarly amended, it remains our view that the ACB of an interest in a life insurance policy, as defined in subsection 148(9), is generally a reasonable proxy for the "cost" of an interest in a life insurance policy for purposes of subsection 248(36). (This position was stated by the CRA at the 2010 STEP CRA Roundtable in document 2010-036309 in relation to proposed subsections 248(35) and (36)).

In the above scenario, since ACo acquired the life insurance policy less than three years before it intends to donate the policy, the proposed gift would meet the condition in subparagraph 248(35)(b)(i) and be subject to the deemed FMV rule in subsection 248(35). In applying subsection 248(35), subsection 248(36) would need to be taken into account as ACo acquired the life insurance policy from a non-arm’s length person within a three-year period of the gift. In our view, the cost of the gifted property to ACo under subsection 248(36) would be nil (the lowest amount that is the ACB of the policy to ACo or Mr. A). Then, in applying subsection 248(35), the deemed FMV of the policy would also be nil (the lesser of the FMV of the policy at the time of the gift and the deemed ACB as determined under subsection 248(36)).

Alex Johnstone
2017-069236
May 18, 2017

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