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The 2016 Federal Budget contained changes that impacted the Capital Dividend Account (CDA) and transfers of life insurance policies in certain circumstances. Certain inequities were identified with these proposals, some of which were addressed in draft legislation in July.

On October 21, 2016, final draft legislation was released and now forms the final measures contained in Bill C-29, which received first reading on October 25, 2016. Bill C-29 will likely be enacted before the end of the year.

Where are we now? The measures are mostly unchanged from the July draft legislation, but there are further tweaks. This article will summarize the current state of things and point out the tweaks.

Current state for transfers

For a life insurance policy transfer after March 21, 2016, when subsection 148(7) applies, the proceeds of the disposition to the transferor and the adjusted cost basis to the transferee is deemed to be the greatest of:

  • value (i.e., CSV or nil if there is no CSV);
  • the fair market value (FMV) of the consideration given on the transfer; or
  • the adjusted cost basis (ACB) immediately before the transfer.

Subsection 148(7) applies where a policy is disposed of:

  • by way of gift (unless another provision allows for a rollover);
  • by distribution from a corporation (e.g., if a policy is transferred as a dividend in kind);
  • by operation of law only to any person (e.g., if a policy is held in joint tenancy and one of the joint tenants dies, unless another provision allows for a rollover); or
  • in any manner whatever to any person with whom the policyholder was not dealing at arm’s length.

This last category catches pretty much any transfer between shareholders and their corporations. Care should be taken to understand the consequences of any potential transfer. This provision only relates to the life insurance policy tax consequences. There may be other provisions of the Income Tax Act that might also apply. A common one that should be considered in this context is subsection 15(1), which relates to shareholder benefits. Just because the life insurance policy tax consequences may be a non-event to the transferor does not mean there are no other consequences.

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The rule does not require that FMV be exchanged. Instead, if it is given, it must factor into the calculation of the life insurance policy tax consequences. And, the provision does not reference the FMV of the policy; rather, it is the FMV of the consideration given on the transfer. However, the FMV of the policy may still be relevant, particularly in relation to subsection 15(1) benefits or to determine the dollar amount of a dividend in kind.


Say a policy with a $1-million face amount has a CSV of $0, an ACB of $50,000 and a FMV of $250,000. A corporation transfers this policy to its shareholder and the shareholder pays $0 for it. Subsection 148(7) would deem the proceeds of the disposition to the corporation and the ACB to the shareholder to be $50,000. The corporation would not pay tax on the transfer because no taxable policy gain arises (proceeds of the disposition [$50,000] – ACB [$50,000] = $0). But, the shareholder would have a shareholder benefit for the FMV of the policy (i.e., $250,000).

Let’s reverse this situation. Let’s say the shareholder transfers the policy to the corporation. The same rule would apply. The deemed proceeds of the disposition would be the greatest of the CSV, ACB and FMV of the consideration given. In this case, the shareholder could receive $50,000 from the corporation for the policy without any tax cost. In general, the shareholder should consider taking back at least the ACB as consideration. The only exception would be if the ACB exceeds the FMV of the policy. If that is the case, then the difference between FMV of the policy and the ACB would be a shareholder benefit under subsection 15 (1), because the shareholder would be getting more cash than the value of the asset he transferred. (FMV is a question of fact in each situation. It is wise to get professional valuation advice where FMV is relevant.)

In general, a private corporation that is the owner and beneficiary of a policy will receive a CDA credit for death benefit proceeds, less the ACB of a policy, at death. If the ACB at the time of death has been reduced below zero, the CDA would represent the entire amount of the life insurance proceeds. Generally, due to reductions to the ACB for the net cost of pure insurance (NCPI), a negative ACB can result. In calculating any taxable policy gain, the negative ACB is ignored and zero is used.

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Changes to the CDA

The main changes to the definition of CDA relate to insurance proceeds received by a private corporation arising from the death of a life insured after March 21, 2016. These changes addressed a few things. First, the ACB, no matter who owns the policy, will reduce the CDA credit to a beneficiary corporation. Unfortunately, if there is more than one corporate beneficiary, the whole ACB may come off of both corporations’ CDA credit. This double-counting problem has not been addressed in the final legislation.

Where a policy was transferred from an individual shareholder to his corporation after 1999 and before March 22, 2016, there is the potential for two further reductions to the CDA arising from the payment of life insurance proceeds on the death of the life insured after March 21, 2016. The second one (below) was the main tweak introduced in the final legislation.

  1. The hard grind = FMV of consideration given in respect of the prior transfer minus the greater of CSV and ACB immediately before the disposition. This hard grind is permanent.
  2. The soft grind = the amount, if any, by which the lesser of the FMV of the consideration given in respect of the transfer and the ACB immediately before the disposition exceeds the CSV minus the absolute amount of any negative ACB at the time of death. This grind can be eroded over time.

Both grinds apply.

Here’s an example.

Shareholder A owned a life insurance policy with a $1 million death benefit, an ACB of $100,000, a CSV of $60,000 and a FMV of $200,000. On March 21, 2016, he transferred the policy to ACo for $200,000. On that transfer, the proceeds of the disposition of the policy was deemed to be $60,000 and the ACB to ACo was also $60,000. Mr. A dies in 2020, at which time the ACB of the policy is -$15,000. ACo’s CDA credit at the time of death will be calculated as follows:

CDA = $1 million (death benefit) minus the ACB of the policy (deemed zero, even though negative) = $1 million.

So far, so good.

Applying the hard grind: $1 million is reduced by $200,000 (the consideration amount) minus the greater of ACB and CSV at the time of the transfer. In this case, the ACB was $100,000 and the CSV was $60,000; $100,000 is greater. So the permanent reduction/hard grind will equal $100,000, making the CDA credit $900,000.

Applying the soft grind: A further reduction to the CDA is made for the lesser of FMV consideration given and ACB at the time of the transfer, minus the CSV at that time. FMV consideration was $200,000 and ACB was $100,000, so $100,000 is used. CSV was $60,000, and in this case, is subtracted from ACB, so the reduction is $40,000. But, since the policy now has a negative ACB, the grind is reduced by the absolute amount of the negative ACB, $15,000. Thus, the soft grind is $40,000 minus $15,000 = $25,000.

The end result is an all-in CDA credit of $875,000, in our example.

Why does this have to be so complicated, you might ask? Unfortunately, it may have been the arguments put forth in submissions of well-meaning industry bodies that got us to this point. Although there is a rationale here for the introduction of this complexity, unfortunately, we’ve lost the forest for the trees. Regardless, though, business owners will have to navigate them.

A practical tip for advisors: Help your clients collect the relevant information about prior transfers now, so that when the time comes, this information is readily available.

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