Principal Issues: Whether the CRA will continue to consider ruling requests on whether employee incentive plans with units the value of which are determined using a formula are SDAs?
Position: No, except for ATR-45 SAR plans and plans covered by one of the enumerated SDA exceptions.
Reasons: It is not possible to be reasonably certain, at the time of a ruling request, that a formula-based appreciation plan would never become a SDA at some point in the future due to changes in the relevant facts and circumstances specific to the employee, the employer or the business environment in which it operates.
2020 CTF Annual Conference
CRA Roundtable
Question 8: Salary Deferral Arrangements (SDA) and Formula-Based Appreciation Plans
It is not uncommon for a private corporation to have an equity-based incentive plan under which participating employees are granted units, the value of which is determined using formulas (“formula-based appreciation plans”). These formulas often involve various future oriented financial metrics of the corporation such as earnings before interest, taxes, depreciation, and amortization (“EBITDA”). Units granted under such plans generally do not have any intrinsic value at the date of grant, but may increase in value over the duration of the plan, depending on the measured results.
The CRA has previously provided favourable rulings that certain formula-based appreciation plans were not salary deferral arrangements (“SDAs”) as defined in subsection 248(1). However, we understand that the CRA will no longer consider such ruling requests. Can the CRA comment on why it has changed its practice?
CRA Response
While examining a recent ruling request on whether a proposed formula-based appreciation plan is a SDA, we encountered issues that caused us to revisit our willingness to consider such rulings requests.
One of these issues relates to the fact that the determination of whether any given incentive plan is a SDA must be made on an annual basis from the date of grant, and from the perspective of each employee participating in the plan in the context of the specific awards granted to that employee, taking into account all known facts and circumstances up to that point. It has become clear to us that it is simply not possible to be reasonably certain, at the time of a ruling request, that a formula-based appreciation plan would never become a SDA at some point in the future due to changes in the relevant facts and circumstances specific to the employee, the employer or the business environment in which it operates.
Another issue is that such plans are vulnerable to manipulation. As we cannot reasonably account for such risk in the context of a ruling request, we believe that such a determination would be more appropriately addressed at a later stage of the compliance continuum.
As a result, the CRA will no longer consider any ruling requests relating to the determination of whether any given formula-based appreciation plan is a SDA, unless the plan is a share appreciation rights plan as described in ATR-45, or the ruling request pertains to whether one of the enumerated exceptions listed in the SDA definition applies.
This change in administrative policy does not mean that the CRA considers all formula-based appreciation plans to be SDAs. On the contrary, we accept that it is quite possible that many such plans will not be a SDA where the underlying formula closely approximates the fair market value of the relevant shares of the corporate employer over the duration of the plan. However, the CRA will no longer make such a determination in the context of a ruling request.
See technical interpretation 2020-0850281I7 for more details.
Kah Foo Koh
October 27, 2020
2020-086106