Gifting in-force insurance
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Valuation of the gifted policy
Until recently, the Canada Revenue Agency (CRA) has taken the position that the “value” of the policy for charitable receipting purposes will be equal to the amount by which the cash surrender value of the policy exceeds any outstanding policy loans. As such, there would be no charitable tax credit (or deduction for a corporate donor) available to the donor where the gifted policy has nominal or no cash surrender value (as would be the case for a T100-type policy).
The CRA’s assessing position did not appear to recognize the significant discrepancy that could
exist between the cash surrender value of an insurance policy and its “fair market value.” In fact,
the CRA had already identified for other purposes of the Income Tax Act (ITA) that the cash
surrender value of a policy was only one factor in determining its fair market value. Other factors
might include the state of health of the insured, the policy’s conversion features and its current
replacement value.
Given these potentially conflicting valuation principles, the CRA was recently asked to confirm its assessing practices where an in-force policy is gifted to a charity. It was also asked to confirm the calculation of the “proceeds of disposition” to the donor, which in turn would determine if there was a taxable gain from the transfer of a policy to a charity.
In responding to the valuation question, the CRA noted that recently enacted legislation (referred to as the “split receipting rules”) contains provisions stating that the eligible amount of a charitable gift (the amount that can be claimed as a charitable credit) is the amount by which the fair market value of the gifted property exceeds the amount of any advantage in respect of the gift. As such, the CRA confirmed that if a qualified valuator (presumably using actuarial principles) determines that the fair market value of the policy exceeds its cash surrender value, that higher amount may be receipted by the recipient charity.
This result should provide additional tax incentives for the gifting of in-force policies. For example, consider the case of a 50-year-old male who purchased a $1 million term to 100 policy when he was 30 years old. This policy currently has no cash surrender value. Under the prior CRA position, the charity would not have been able to provide any charitable gift receipt for the donation of that policy.
Under their new interpretation, however, an actuary could be engaged to determine the fair
market value of the policy. The actuary would consider the fact that the policy has been in force
for 20 years and, as a consequence, could not be replaced without paying significantly higher
premiums. The life insured’s health would also be reviewed as well as special policy terms and
provisions that may make this policy more valuable than currently issued policies. Based on this
review, the actuary would likely determine that the policy has a fair market value significantly in
excess of its stated cash surrender value of nil. As such, the policyholder might be much better
off gifting the policy and receiving a charitable tax credit rather than surrendering the policy.
Tax consequences to donor from disposition
The CRA then considered the tax implications to the donor of gifting an insurance policy to a charity. Such a transfer is a disposition for tax purposes and the difference between the proceeds of disposition and the policy’s adjusted cost basis (ACB) is taxable to the donor.
The CRA indicated that where the transfer of a policy results from a gift, the proceeds of disposition will equal the “value” of the policy at the time of the gift. For these purposes, “value” is defined in the ITA to equal the cash surrender value of the policy (rather than the fair market value, which is used to determine the value of the gift).
As a result, where a policy is gifted to a charity, the donor/transferee will be taxed only to the extent the policy’s cash surrender value exceeds the ACB of the policy. This is the case even where the donor has received a charitable receipt reflecting a much higher fair market value for the policy.
All this is a very welcome development and creates new incentives for the donation of in-force insurance policies. Advisors can play a key role in alerting clients to these advantages and, in turn, help create significant long-term funding support for charitable organizations in Canada.
Glenn Stephens, LLB, is a planning services consultant with PPI Financial. He can be reached at gstephens@ppi.ca. Kevin Wark, LLB, CLU, TEP, is the senior vice-president, business development, at PPI Financial. He can be reached at kwark@ppi.ca.
Kind permission from author Glenn Stephens to re-publish this article was obtained by Susan St. Amand.
