Golombek

The Technical Advisory Committee's recommendation
by Jamie Golombek

The Technical Advisory Committee (TAC) on Tax Measures for Persons with Disabilities was established in 2003 with a mandate to provide advice to the Department of Finance and the Canada Revenue Agency (CRA) on how to address issues related to tax measures for persons with disabilities.

In December 2004, the Committee released its final report, "Disability Tax Fairness", in which it made 25 policy and administrative recommendations. Among its recommendations (Recommendation 4.2) was that the government review the registered retirement savings plan/registered retirement income fund (RRSP/RRIF) rules in order to allow additional flexibility in respect of a deceased's RRSP or RRIF proceeds left to a financially dependent child or grandchild with a disability.

RRSP/RRIF Proceeds Upon Death

Before reviewing the TAC's recommendation, a quick review of the rules that govern the taxation of RRSPs and RRIFs upon death is in order. Under the Income Tax Act, unless certain conditions are met, the fair market value of an RRSP or RRIF is immediately taxable to the annuitant in his or her terminal return for the year of death.

If the RRSP or RRIF is left to a spouse or common-law partner, the proceeds may be transferred on a tax-deferred basis to the spouse or partner's own RRSP or RRIF. If RRSP or RRIF proceeds are left to a child (or grandchild) of the annuitant who was dependent, both financially and by reason of mental or physical disability, on the deceased annuitant at the time of the annuitant's death, a rollover is also available. To get the benefit of the rollover, the proceeds must be transferred to the disabled child's own RRSP or RRIF, giving full control over the RRSP or RRIF proceeds directly to the disabled child - something that many parents may be reluctant to do.

Parents of a disabled child who wish to ensure that child's financial security and well-being after they die often establish a trust to clearly document their intentions regarding the care of their child and the prudent financial management of any financial assets, including any RRSPs or RRIFs, left for the benefit of the disabled child. Currently, in order for RRSP or RRIF proceeds to be transferred to that trust, they must be first taxed in the estate and then transferred to the trust.

Over the years, there have been several requests made to the Department of Finance to amend the rules to allow a rollover of RRSP or RRIF proceeds to a trust established for the benefit of a mentally or physically challenged, financially dependent child to hold and manage the proceeds of the deceased parent's RRSP or RRIF on behalf of that child.

Under draft legislation introduced in July, but retroactive to 2001, if a parent wishes to use a trust for this purpose, the only method to get a tax rollover (and subsequent deferral) of the proceeds of a parent's RRSP or RRIF is to use the RRSP or RRIF proceeds to purchase an annuity that can be held in the trust as long as the disabled child is the sole person beneficially interested in annuity payments made to the trust.

The TAC's Recommendation

To allow for greater flexibility beyond the purchase of an annuity, the TAC recommended that these proceeds be allowed to be rolled over generally to a discretionary trust for that individual, provided that no person other than the disabled beneficiary may access the income or capital of the trust during his or her lifetime.

There would be two main benefits of such a discretionary trust. First, some parents of disabled children are somewhat reluctant to transfer an RRSP or RRIF directly to a mentally disabled child upon their death as that child may lack the appropriate capacity or ability to properly manage a significant sum of money. Second, to the extent RRSP or RRIF monies are rolled directly to an adult child, depending on the size of the account, that child would likely be cut off from various forms of disability-related provincial assistance, which is based in many provinces on an income and asset test.

The use of what is commonly referred to as an absolute discretionary "Henson" style trust could be used not only to have the RRSP or RRIF money professionally managed through a third-party trustee, but could also be used to safeguard a disabled beneficiary's entitlement to provincial social assistance in most provinces.

This recommendation was picked up by the government in its 2005 federal budget, which proposed a number of income tax changes that will benefit persons with disabilities. While not part of the draft legislation released in August to implement the remaining 2005 budget income tax measures, which included many other changes that positively impact persons with disabilities and their caregivers, the government stated in the budget that it "will review the tax rules in this area with a view to providing more flexibility where appropriate".

Hopefully, the government will work diligently over the next few months to ensure that this positive income tax policy change can be formally legislated at the earliest opportunity.