Principal Issues: Concerns about the reasonability of the gain calculated by the insurer on the cancellation of a life insurance policy.
Position: General Comments
XXXXXXXXXX
Dear XXXXXXXXXX:
Thank you for your correspondence about the cancellation of your life insurance policy. I apologize for the delay in responding.
In your letter of March 14, 2013, you express concern about how the gain to be reported from the cancellation of the policy is calculated. You note that the policy is a non-participating policy with premium adjustments at the 10-year anniversary and every five years after that. You are also concerned about the fairness of the income tax legislation regarding life insurance policies. In your letter of April 6, 2013, you question whether your insurer correctly calculated the net cost of pure insurance (NCPI).
Unfortunately, I am unable to confirm the amount of the gain you have to report in your 2013 income or the accuracy of your insurer's NCPI calculation. The calculations generally require information that is available only in the insurer's accounts. However, I can offer the following general comments on the income tax legislation about life insurance policies.
When a policyholder disposes of an interest in a life insurance policy, subsection 148(1) of the Income Tax Act requires the policyholder to include in income the amount by which the proceeds of the disposition of that interest exceed the adjusted cost basis (ACB) right before the disposition. Any gain from the disposition has to be included in the policyholder's income according to paragraph 56(1)(j) of the Act. A disposition of an interest in a life insurance policy includes a surrender of that interest.
Generally, the proceeds of the disposition of an interest in a life insurance policy are the amount of the proceeds that the policyholder is entitled to receive on the disposition. The ACB of an interest in a life insurance policy is generally the amount by which the premiums the policyholder paid (except for premiums for accidental death benefits) plus any income regarding the interest in the policy that the policyholder previously reported for tax purposes is more than the NCPI under the policy.
The NCPI represents the cost the policyholder paid to be covered by insurance during the time he or she held the policy and reduces the amount that can be returned to the policyholder tax-free on the disposition of the interest in the policy. The insurer calculates the NCPI according to section 308 of the Income Tax Regulations. The calculation requires the use of mortality rates set out in the 196975 mortality tables of the Canadian Institute of Actuaries.
For tax purposes, when an interest in a policy is disposed of, the insurer has to calculate and report the gain on a T5 slip. The insurer must issue that slip to the policyholder and file a copy with the Canada Revenue Agency (CRA). Therefore, your insurer should be able to tell you how it calculated the proceeds of the disposition, the ACB, and the gain.
The CRA's mandate is to administer the Act and does not include resolving disputes between policyholders and their insurers about the terms and conditions of a particular policy. The OmbudService for Life and Health Insurance (OLHI), which was created to help resolve disputes between insurers and their policyholders, may be able to help you. You can find more information about the OLHI at www.olhi.ca.
Finally, you asked us to review the legislation relating to the disposition of an interest in a life insurance policy to make sure it is fair to taxpayers. The CRA is responsible for administering the tax legislation enacted by Parliament, while the Department of Finance Canada is responsible for developing and evaluating federal income tax policy and amending the Income Tax Act and the Income Tax Regulations. If you have concerns about the fairness of the provisions of the Act regarding life insurance policies, you can write to the Tax Policy Branch of the Department of Finance Canada at 140 O'Connor Street, Ottawa ON K1A 0G5.
I appreciate the opportunity to respond to your concerns.
Yours sincerely,
Gail Shea, P.C., M.P.
Long Ip
613-948-5273
2013-048307