2021-0882391E5 Acquisition of life insurance policy for ss248(35)

Principal Issues: Where a life insurance policy is converted from a term policy to a permanent policy under the terms and conditions of the term policy, when is the permanent policy considered to have been acquired for purposes of paragraph 248(35)(b)?

Position: Whether the conversion of a term life insurance policy to a permanent life insurance policy results in a new policy acquired by the policyholder at the time of the conversion for purposes of paragraph 248(35)(b) of the Act is a mixed question of fact and law and can only be determined on a case-by-case basis.

Reasons: All the terms of an insurance policy should be reviewed to determine whether the changes are so fundamental as to go to the root of the policy. Paragraph 148(10)(d) which may deem a life insurance policy not to have been disposed of or acquired in certain limited situations does not apply for purposes of subsection 248(35).

Author: Campbell, Alison
Section: 248(31), 248(35), 148(7), 148(10)(d), 148(11), 148(9)

XXXXXXXXXX                                                                 2021-088239
                                                                                           A.M. Campbell

November 8, 2021

Dear XXXXXXXXXX:

Re: Subsection 248(35) and Donation of a Converted Life Insurance Policy

We are writing in response to your enquiry of February 24, 2021, wherein you requested our comments on whether subsection 248(35) of the Income Tax Act (the “Act”) will apply in respect of the gift of a policyholder’s interest in a permanent life insurance policy. The permanent life insurance policy arose from the conversion of a term life insurance policy pursuant to the provisions of the term life insurance policy.

You have asked whether, for purposes of paragraph 248(35)(b) of the Act, the gifted life insurance policy was acquired when it was initially issued as a term life insurance policy or at the time the policy was converted from a term policy to a permanent policy.

Our Comments

This technical interpretation provides general comments about the provisions of Act, the Income Tax Regulations (the “Regulations”), and related legislation (where referenced). It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination. The income tax treatment of particular transactions proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R11, Advance Income Tax Rulings and Technical Interpretations.

Subsection 248(35) of the Act provides a special rule that establishes the fair market value (FMV) of a property that is the subject of a gift to a qualified donee. If certain conditions are met, subsection 248(35) of the Act provides that the FMV of the gifted property is deemed to be the lesser of its FMV otherwise determined and, in the case of a life insurance policy in respect of which the taxpayer is a policyholder, the adjusted cost basis (ACB) of the policy (as defined in subsection 148(9) of the Act) to the taxpayer immediately before the gift is made. Under paragraph 248(35)(b) of the Act, this deeming rule applies in respect of a gifted property (including a life insurance policy) if the individual acquired the property:

(i) less than three years before the day the gift is made; or

(ii) less than 10 years before the day the gift is made and it is reasonable to conclude that one of the main reasons the individual acquired the policy was to gift the policy to a qualified donee.

Whether either of the conditions in paragraph 248(35)(b) of the Act applies in respect of a gift of a life insurance policy, it is necessary to determine the time that the policyholder acquired the policy. In this regard, absent a specific deeming rule in the Act that provides otherwise, whether the conversion of a term life insurance policy to a permanent life insurance policy results in a new policy acquired by the policyholder at the time of the conversion for purposes of paragraph 248(35)(b) of the Act is a mixed question of fact and law and can only be determined on a case-by-case basis. All the provisions of an insurance policy should be reviewed to determine whether the changes are so fundamental as to go to the root of the policy.

In your submission, you refer to paragraph 148(10)(d) and subsection 148(11) of the Act. It is our view, that neither paragraph 148(10)(d) nor subsection 148(11) of the Act have any bearing in determining the time that a gifted life insurance policy was acquired for purposes of paragraph 248(35)(b) of the Act.

Paragraph 148(10)(d) of the Act provides that a policyholder will not be deemed to have disposed of or acquired an interest in a life insurance policy (other than an annuity contract) as a result only of the exercise of any provision (other than a conversion into an annuity contract) of the policy. However, paragraph 148(10)(d) of the Act only applies in determining whether a policy has been disposed of or acquired for purposes of section 148 of the Act and therefore is not relevant to the determination of when the policy was acquired for purposes of paragraph 248(35)(b) of the Act.

Subsection 148(11) of the Act is relevant to determining when a life insurance policy (other than an annuity contract) that was issued before 2017 is to be treated as though it were issued after 2016 for the purpose of certain provisions of the Act and the Regulations. Subsection 248(35) of the Act is not one of the provisions referred to in subsection 148(11) of the Act and therefore subsection 148(11) of the Act is not relevant to determining when a policy is considered to have been acquired for the purpose of subsection 248(35) of the Act.

Although subsection 148(11) and paragraph 148(10)(d) of the Act do not apply to determine the time a policy is considered acquired for the purpose of subsection 248(35) of the Act, they may be relevant in computing the adjusted cost basis of the policy (as defined in subsection 148(9) of the Act) for purposes of determining the deemed fair market value of the policy under subsection 248(35) of the Act. Each of subsection 148(11) and paragraph 148(10)(d) of the Act apply for purposes of subsection 148(9) of the Act.

In addition, subsection 148(7) of the Act will apply when computing the policyholder gain that may arise on the gift of the policy to a qualified donee. In this regard, subsection 148(7) of the Act applies when a policyholder’s interest in a life insurance policy is disposed of (other than a disposition under paragraph 148(2)(b) of the Act) by way of gift, by distribution from a corporation or by operation of law only to any person, or in any manner whatever to any person with whom the policyholder was not dealing at arm’s length. Paragraph 148(7)(a) of the Act provides that the proceeds of the disposition to the policyholder is the amount that is the greatest of (i) the fair market value of any consideration given for the interest; (ii) the interest's value (as defined in subsection 148(9) of the Act); and (iii) the adjusted cost basis of the interest to the policyholder.

We trust that our comments will be of assistance.

Yours truly,

Bob Naufal
Manager
Financial Institutions Section
Financial Industries and Trusts Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without the prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5.

© Her Majesty the Queen in Right of Canada, 2021

Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistribuer de l'information, sous quelque forme ou par quelque moyen que ce soit, de façon électronique, mécanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.

© Sa Majesté la Reine du Chef du Canada, 2021