3 December 1996 Internal T.I. 9637406 - SURPLUS USED TO ENHANCE PENSION BENEFITS

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.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues:

Whether there can be an "employer contribution" or employee entitlement under 8503(15) where there is a surplus-sharing agreement subject to Ontario regulatory or court approval.

Position:

Usually in Ontario there will be no "employer contribution" or an amount to which the employee is entitled so 8503(15) will not apply.

Reasons:

Because neither the employer nor the employee are absolutely entitled to receive the surplus prior to approval and the election to use the surplus to enhance past service benefits will not give rise to an immediate income inclusion or offend 8503(15).

			December 3, 1996
	HEADQUARTERS	HEADQUARTERS
	Registered Plans Division	P. Spice
	Stella Black	(613) 957-8953
	Director
	Attention:  Andrew Donelle
			963740

Subsection 8503(15) of the Income Tax Regulations (the "Regulations")

This is in reply to your facsimile transmission of October 31, 1996, enclosing a copy of an article entitled "Constructive Receipt and Pension Surplus: Absolute Entitlements" (PTR 1996; 7: 51-52). The article discusses our interpretations of June 12, 1996 (document no. E9613595) and October 24, 1994 (document no. E9414786).

Questions

Further to several recent telephone conversations (Duff/Donelle and Duff/Hollinger) you ask us to answer the following questions arising from the article:

1.Where the employer relinquishes ownership of surplus in a registered pension plan ("RPP") and upgrades members' benefits, has the employer made a contribution to the RPP?

2.If the answer to the foregoing question is "no", is the amount used to upgrade benefits required to be included in the applicable member's income pursuant to subparagraph 56(1)(a)(i) of the Income Tax Act (the "Act").

3.If the employees have ownership of the surplus, why is there an income inclusion at the time the surplus is used to upgrade benefits.

In order to respond to these questions we will first briefly summarize the positions taken in the above-noted interpretations and the conclusions drawn in the article.

E9414786

This interpretation of subsection 8503(15) deals with surplus in a pension plan which, at the employee's option, will be taken in the form of increased pension or as a cash lump sum. There is some confusion in the description by the representative as to whether the surplus belongs to the employee or employer and the interpretation concludes as follows:

(1)If an employee has absolute rights to the surplus in the IPP (individual pension plan), subsection 8503(15) of the Regulations would not be applicable as there would be no employer contribution. The amount would be taxable to the employee under subparagraph 56(1)(a)(i), and subject to the deductibility rules in subsection 147.2(4) of the Act.

(2)If the employer has absolute rights to the surplus but instead leaves it in the plan to provide additional pension benefits to the employee, it is our view that subsection 8503(15) of the Regulations would be applicable....As required by paragraph 8503(15)(c) of the Regulations, the contribution would be in lieu of a payment to the employee, that is, the optional cash lump sum....in the case at hand, the employee had to choose and thereby "consent to" the employer's contribution to the pension instead of or "in lieu of" a cash lump sum which the employee will "otherwise" be entitled to under the terms of the agreement.

E9613595

This interpretation focuses on the timing of the ownership or entitlement to the surplus and concludes that if an individual's right to an amount (whether the issue is the fact of ownership or the quantum of the amount) is subject to regulatory or judicial approval, the individual does not have constructive receipt of the amount until that regulatory or judicial approval is given. In other words, there is no ownership or entitlement of a specific amount and, thus, there can be no income inclusion prior to the approval. We also indicate that if an individual can make an election to defer receipt prior to the time the judicial or regulatory approval is given, there will be no amount included in the individual's income until actual receipt. Reference is made to paragraph 11 of Interpretation Bulletin IT-502 for this position as it relates to employee benefit plans.

PTR article

The author explains that in Ontario the right to surplus on a wind-up of an RPP is always subject to approval whether from the Pension Commission of Ontario, the courts of the province or both. Therefore, employees who are provided the option to enhance pension benefits or take cash and who choose to take the enhanced benefits prior to a required court or regulatory approval, will not be subject to an income inclusion on the basis of constructive receipt nor will subsection 8503(15) of the Regulations apply.

Answers

1.Where the employer has an absolute entitlement to the surplus and the employer uses it to upgrade pension benefits, the employer has made a contribution to the RPP. If, as explained in the article, the employer cannot use the surplus to upgrade pension benefits until the court or a regulatory agency has approved, the amount will be an employer contribution only if the employer has the option to receive the surplus immediately in the form of money or money's worth. From what is implied in the article, it does not appear that this is the normal situation in Ontario but rather the employer forestalls its right to the surplus and the court or agency approves its use to enhance pension benefits.

2.Where the employer does not have an immediate right to the surplus as described in 1 above, and the amount is used to enhance pension benefits, the amount is not required to be included in the employees' incomes. This is because the employer forestalls the right to immediate receipt of the surplus by choosing to enhance benefits, and the employee has no immediate right to the surplus, but rather has either only the right to the enhanced benefits or elects to have benefits enhanced prior to the court or agency approval.

3.Where the employee has an immediate right to the surplus on wind-up, there is an income inclusion pursuant to subparagraph 56(1)(a)(i) of the Act. However, if the employee must obtain court or regulatory agency approval prior to receipt and has the option to defer receipt (i.e. upgrade pension benefits) prior to the approval, then there is no income inclusion if the amount is used to upgrade pension benefits.

Conclusion

If the description of the Ontario system in the PTR article is correct and surplus cannot be used to enhance benefits without regulatory or court approval, we agree with the conclusion in the article that it is unlikely that either constructive receipt or subsection 8503(15) will apply. Constructive receipt is inapplicable because neither the employer nor the employee have a right to the surplus at the time of the wind-up of the RPP and if the election is made to enhance the pension benefits before the right enures to the employer or employee, there can be no income inclusion to any party until actual receipt. And subsection 8503(15) of the Regulations will not apply because the employee does not receive the enhanced pension benefits "in lieu of a payment or other benefit to which the (employee) is otherwise entitled". Only where the employee elects the enhanced benefits in lieu of the cash after the court or regulatory agency approval, will an income inclusion to the employee arise.

for Director
Financial Industries Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch

c.c.John O'Meara