With the start of RRSP season just a couple of weeks away, advisors should pay close attention to the RRSP contribution limits, lest clients get reassessed by the Canada Revenue Agency on RRSP overcontributions. A case decided this past fall (Kerr v AGC, 2008 FC 1073) illustrates just such a scenario.
Lindsay Kerr was advised on September 8, 1997 via her 1996 Notice of Assessment that her RRSP contribution limit was $8,121 when in fact it was truly only $794. The error occurred because the Canada Revenue Agency incorrectly recorded Kerr’s pension adjustment as “$814” instead of “$8,141.”
Kerr noticed that her RRSP limit was significantly higher than in prior years despite no substantial increase in her employment income that would have justified the change. She suspected there must have been an error and spoke to co-workers and her banker who all advised her that she could simply rely on her Notice of Assessment’s reporting of her available RRSP room.
In late February 1998, just prior to the 1997 contribution deadline, Kerr contributed $8,121 to her RRSP. Having previously made the allowable $2,000 lifetime overcontribution in a prior year, her true excess contribution was $7,327 (i.e., the $8,121 contributed, less the true limit of $794).
Kerr was not told the correct amount of her RRSP deduction limit for the 1997 taxation year until she received a letter from the CRA dated April 29, 2004.
That letter stated that her actual RRSP deduction limit for 1997 was $794 and provided her with Form T3012A to withdraw the excess on a tax-free basis.
Under the Income Tax Act, taxpayers who have an over-contribution that remains in an RRSP are liable to pay a special penalty tax of 1% per month of the “cumulative excess amount,” which is basically the amount of excess contributions less the $2,000 allowance, or, in Kerr’s case, $7,327.
If you owe this special tax, you must self-assess, calculate, report and pay the tax annually by filing Form T1-OVP, “Individual Tax Return for RRSP Excess Contributions for each year in which you have a cumulative excess amount.
If the T1-OVP forms are not filed on time, you may be liable for both penalties and interest on this 1% per month penalty tax.
As of the trial date, Kerr had been assessed over $11,000 in tax, interest and penalties relating to the overcontribution.
The CRA, however, has the discretion to waive the penalty tax “if the overcontribution occurred because of a reasonable error and if reasonable steps were taken to eliminate the excess.”
Kerr requested that the tax be waived but in September 2004, the CRA denied this request. A year later, having requested an internal review of the CRA’s decision to deny the request for the tax waiver, she received yet another letter from the CRA, upholding the CRA’s earlier decision stating that “there does not appear to be any circumstances that would warrant the waiving of the [overcontribution] tax.”
Finally, in June 2006, Kerr met with a CRA official who said that the CRA would voluntarily conduct a third administrative review even though its normal practice was to conduct only two such reviews.
In July 2007, the CRA released its final decision denying the waiver of tax, interest and penalties. The CRA stated that while “[t]he Agency accepts that it erred in reporting an incorrect contribution limit for 1997…it is our position that it was not that error that solely created or contributed to the amount owing…. Despite having questioned the amount, you chose to make the maximum contribution anyway, thus taking it outside the realm of ‘reasonable error’.”
Kerr took her case to the Federal Court.
Fortunately, the judge was sympathetic and called the CRA’s decision not to waive the tax, interest and penalties “unreasonable.” Quoting an earlier case, “the interests of justice cry out for directions putting an end to the process,” the judge not only ordered the CRA to refer Kerr’s request to another officer for reconsideration but also specifically ordered the CRA to conclude that the overcontribution was made as a result of reasonable error and that all tax, related interest and penalties were to be reversed.