RPP Practitioners' Forum - 2009
Ottawa - June 2, 2009

Questions and Answers

For obsolete questions, see Questions and Answers - Archive

1. Determination of normalized pension for a hybrid plan
2. Annuity purchase treated as a transfer under the Income Tax Act
3. Requirement to file an Employees' Pension Plan Income Tax Return (T3P)
4. Excess contributions to a registered pension plan (RPP) due to reasonable errors
5. Amendments relating to phased retirement provisions in the Income Tax Act
6. Reciprocal transfer involving a plan with an unfunded liability
7. Payment to an employee in lieu of termination notice
8. Excess surplus issue
9. Maximum transfer value Regulation 8517
10. Designated plan procedures
11. PSPA calculation issue

Question 1 - Determination of normalized pension for a hybrid plan

This question relates to the application of section 8517 of the Income Tax Regulations (the Regulations) for a hybrid plan where the amount of lifetime retirement benefit provided under the defined benefit (DB) provision of the plan is reduced by the benefit provided under the defined contribution (DC) provision of the plan. We are seeking clarification with respect to the determination of the normalized pension in subsection 8517(5) of the Regulations to calculate the prescribed amount. In particular, how does paragraph 8517(5)(e) of the Regulations apply to determine a reasonable estimate of the other benefits which affect the DB pension?

Answer 1:

The normalized pension for an individual as per subsection 8517(5) of the Regulations must first be determined without regard to the provision of paragraph e) of this subsection. In the case of a hybrid plan, the impact of this paragraph of the Regulations is then determined.

Although other methods may be considered to be reasonable, the Registered Plans Directorate (RPD) considers the following method to determine the estimate of the MP offset to be reasonable:

MP offset = MP account / Factor

MP account = value of the individual's money purchase account at the time of transfer;

and

Factor = (B x C) / D

Where

B = applicable present value factor at the time of transfer
C = the lump sum value of the individual's total lifetime retirement benefit entitlements before MP offset
D = prescribed amount of the individual's total lifetime retirement benefit entitlements before MP offset

Other methods will be considered on a case by case basis.

Question 2 - Annuity purchase treated as a transfer under the Income Tax Act

Provincial legislation requires that on termination of employment, the member may require the administrator to pay an amount equal to the commuted value for the purchase of a life annuity, as referenced in the Ontario's Pension Benefits Act (PBA) subsections 42(1) and (2). Section 147.4 of the Income Tax Act (Act) permits the acquisition of an interest in an annuity contract with assets from a registered pension plan (RPP) without any immediate tax consequences to the affected individual. One of the conditions stated in subsection 147.4(1) of the Act is the requirement that the rights provided under the annuity contract must not be "materially different" from those provided under the RPP. The Act also provides for the transfer of commuted values under subsection 147.3(4) of the Act, which is limited by the prescribed amount in section 8517 of the Income Tax Regulations (Regulations).

Can a member proceed as if they had received a transfer of their commuted value, limited by section 8517 of the Regulations, and use this amount to purchase an annuity not regulated by subsection 147.4(1) of the Act?

Should the CRA require the phrase "materially different" of section 147.4 (1) of the Act to be applied to an annuity purchased using the commuted value, as described above, and as these terms require a certain amount of judgment (as indicated in CRA's response in an earlier RPP Consultation Session - 2003 - item 9 ), are each of these annuity purchases to be sent to CRA for approval? Can the CRA provide guidelines to what they consider "materially different"?

Answer 2:

First, if a member wishes to purchase an annuity and reconfigure the benefits provided for in the plan, he or she will have to transfer the benefit under subsection 147.3(4) of the Act to a registered retirement savings plan (RRSP). Then, the member may purchase an annuity under subsection 146(1) of the Act, without regard to the benefit provided for under the RPP. Subsection 147.3(4) of the Act, in conjunction with section 8517 of the Regulations, is used to determine the maximum tax free transfer of an amount from a defined benefit provision of an RPP to an RRSP or a registered retirement income fund (RRIF). It does not permit the amount to be used to purchase an annuity.

Therefore, a member cannot proceed as if they had received a transfer of their commuted value, limited by section 8517 of the Regulations, and use this amount to purchase an annuity not regulated by subsection 147.4(1) of the Act. If a member chooses to use their benefit entitlement provided for under the RPP to purchase an annuity, the annuity must be limited by the conditions set out under subsection 147.4(1) of the Act.

There will be no CRA approval given to situations where a member receives a transfer of their commuted value, limited by section 8517 of the Regulations, and uses this amount to purchase an annuity not regulated by subsection 147.4(1) of the Act. If this occurs, the entire amount may become taxable in the hands of the member under paragraph 56(1)(a) of the Act.

The CRA is aware that, under certain pension benefits standards legislation, a member is entitled to receive his or her commuted value even though the individual does not transfer to an RRSP, but rather elects to purchase an annuity outside of the particular plan. Where the commuted value of the promised benefit under the RPP exceeds the premium required to provide an annuity from an outside annuity provider, the pension benefits standards legislation may require the "excess amount" (commuted value less the purchase price of the annuity) to be provided to the member.

Subparagraph 8502(d)(ix) of the Regulations allows an RPP to pay a single amount that is required due to the Pension Benefits Standards Act, 1985 or similar law of a province, where the single amount is not transferred directly to another RPP, an RRSP, or a RRIF. The CRA will apply subparagraph 8502(d)(ix) so that the member can receive the excess amount, as described above, in situations involving annuity purchases. In applying subparagraph 8502(d)(ix), the member will be entitled to receive the excess amount as a lump-sum payment from the RPP.

The lump-sum payment must be brought into the member's taxable income in the year received pursuant to paragraph 56(1)(a) of the Act. As a reminder, the annuity provided from an outside annuity provider cannot be materially different from the benefits provided under the particular RPP.

Question 3 - Requirement to file an Employees' Pension Plan Income Tax Return (T3P)

At the 2008 Practitioners' Forum you answered that you thought that the requirement to file T3Ps would be removed. Has a decision been made on this?

Answer 3:

Last year, we thought that the filing of the T3P Return could be eliminated as the limit on foreign content was removed. The T3P Return filing requirement remains; however, the form was amended to remove the section on the foreign content limit.

Please note that paragraph 150(1)(c) of the Income Tax Act and subsection 204(1) of the Income Tax Regulations require that a tax return be filed annually for every trust governed during all or part of the year by an employees' pension fund or plan, or by a corporate pension society that administers an employees' pension fund or plan. The tax return is the T3P and the trustee of the pension fund or the corporate pension society that administers it is responsible for filing the return.

For more information, see Guide T4013, T3 - Trust Guide, or call 1-800-959-8281.

Question 4 - Excess contributions to a registered pension plan (RPP) due to reasonable errors

The answer to question #16 of the 2008 RPP Practitioners' Forum states that an exception will be made when an excess contribution was made as a result of a reasonable error and the problem is identified by the employer or plan administrator in a timely manner. Will it be possible to explain what the Registered Plans Directorate (RPD) considers to be "reasonable errors"?

Answer 4:

The answer to question 16 stipulated "An exception will be made when the excess contribution was made as a result of a reasonable error, and the problem is identified by the employer or plan administrator. The error must be brought forward to RPD in order to rectify the situation in a timely manner. We will then review each individual case to determine if the error is reasonable, and work with the plan administrator or employer to resolve these situations in a fair and equitable manner to encourage compliance and reduce the burden of the error on the taxpayer."

Reasonable error means, first and foremost, that the excess contribution arose because of a mistake and that the taxpayer (employer) did not intentionally over-contribute. It has to be an error that an impartial person would consider likely to occur based on a particular set of circumstances. Extraordinary circumstances previously not encountered or that were beyond the taxpayer's (employer's) control, and that led to the excess contribution, would, in most cases, indicate that the excess contribution arose due to a reasonable error. It should be noted that each case is reviewed by RPD, with an examination of the details of the particular situation, when making a determination on the reasonableness of the error.

Question 5 - Amendments relating to phased retirement provisions in the Income Tax Act

The provinces of Alberta and Quebec have established rules regarding the calculation of the maximum payable for phased retirement. British Columbia (BC) has recently adopted an amendment similar to these provinces. The provisions of this law do not address the calculation for the maximum payable from a money purchase plan. The legislator simply refers to the provisions of subsection 8503(19) of the Income Tax Regulations (the Regulations). We have concluded from this that a member of a money purchase plan in BC is not entitled to the phased retirement benefits. Also, the Regulations seem silent with regards to applying phased retirement rules to money purchase provisions. Does the Minister have any plans to amend subsection 8503(19) in order to define the maximum payable from a money purchase provision in regards to phased retirement?

Answer 5:

Subsection 8503(19) of the Regulations was established in order for a defined benefit provision to allow eligible employees to receive up to 60% of their accrued pension benefits while they continue to accrue other pension benefits on a defined benefit basis. The condition set out in paragraph 8503(19)(b) of the Regulations limits the benefit payable each month. This limit, in light of the calculation mentioned in your question, was established by the Department of Finance. The legislation developed by the provincial authorities must comply with the conditions set out in this paragraph regarding phased retirement for a defined benefit provision.

While paragraph 8503(3)(b) of the Regulations prohibits a member of a defined benefit provision from accruing further benefits under the provision while receiving a defined benefit pension, it is possible to make contributions to a money purchase provision for a member who is receiving retirement benefits from either a money purchase provision or a defined benefit provision. Of course, the member would have to be receiving compensation from the employer in order to support the contributions to the money purchase provision.

In addition, paragraph 8506(1)(f) of the Regulations allows for a lump sum payment from a money purchase provision that does not exceed the amount in the member's money purchase provision account. There are no conditions limiting this payment. For these reasons, we will not be making a request to the Department of Finance to amend subsection 8503(19) of the Regulations.

Question 6 - Reciprocal transfer involving a plan with an unfunded liability

In Quebec, the plan administrator must comply with sections 142 and 146 of the Supplemental Pension Plans Act (SPP Act) when the member's benefit entitlement is transferred from a plan with a transfer ratio under 100%. The SPP Act allows for an employer to fund this deficit with an immediate additional contribution or may wait up to five years. Our question lies where an employer was to wait until the end of the five year period.

Because of the Eligible Service definition as per subparagraph 8503(3)(a)(v) of the Income Tax Regulations (the Regulations) and the definition of Member as per subsection 147.1(1) of the Income Tax Act (the Act), among others, our understanding is that we are not permitted to recognize service in another plan, even in part, until the employee is no longer a member in the previous plan as per the Act.

Please confirm if, for a plan with an unfunded liability, we are permitted to recognize the service in another plan by way of a transfer agreement before the member's benefit entitlement has been fully satisfied. For example, by inserting a reference to the reciprocal transfer agreement, could we recognize the full service while considering that the value of the benefit entitlement will be transferred in two instalments as per the reciprocal transfer agreement, or could we recognize part of the service immediately, by prorating the value of the transferred amount based on the full value of the benefit entitlement to be transferred and recognize the balance of the service at the time of the second instalment?

Answer 6:

Subparagraph 8503(3)(a)(v) of the Regulations does stipulate that in order to recognize a period of service from a former employer, the member must have ceased to be a member of the other plan. As well, a member that has only received a partial benefit entitlement, in a lump sum, due to the funding status of the plan, continues to be a member of the former plan, as defined in subsection 147.1(1) of the Act. Therefore, an employer could not recognize a member's service with a former employer if at the time the member has a right to further benefits within the former employer's plan.

At the moment, we cannot comment on any proposed alternatives where the original plan is not fully funded and a member of that plan has future entitlements.

Question 7 - Payment to an employee in lieu of termination notice

The pension adjustment rules in section 8300 of the Income Tax Regulations (the Regulations) currently do not contemplate a scenario in which an employer elects to make a lump sum payment in lieu of its obligation to provide reasonable notice of termination of employment. As a result, providing pension accruals for the period of notice in respect of which the lump sum payment relates would, in scenarios where the period of notice extends beyond the end of a calendar year, place the plan's registration in a revocable position. To alleviate this situation, would CRA approve, or give consideration to approving, an application by the employer to the Minister under subsection 8310(2) of the Regulations to "deem" a portion of the lump sum payment to be "compensation" in the year in respect of which it is pensionable earnings under the terms of the pension plan for purposes of the pension adjustment rules?

Answer 7:

It is proposed that the Minister use his authority under subsection 8310(2) of the Regulations to allow a portion of a lump sum payment, made in lieu of a period of termination notice that extends beyond the end of a calendar year, to be deemed as compensation for pension accrual and pension adjustment purposes. Subsection 8310(2) of the Regulations states that should the rules in Part LXXXIII of the Regulations (which deal with pension adjustments and past service pension adjustments) require the determination of an amount in a manner that is not appropriate having regard to the provisions of that Part read as a whole and for the purposes for which the amount is determined, the Minister may permit the amount to be determined in a manner that, in the Minister's view, is appropriate.

It is important to note that the Minister's authority under subsection 8310(2) is used under very limited circumstances and should apply only where the related service is pensionable service. To be considered as pensionable service, a period of time must first qualify as a period of eligible service under the Income Tax Act (the Act). Whether or not a period of time for which payments to an individual are made in lieu of termination notice will qualify as eligible service for pension purposes under the Act will depend on the facts of a particular situation. A period throughout which a salary continuation arrangement exists might qualify as a period of pensionable service (such as in a pre-termination leave with pay situation) if the employer/employee relationship remains intact for the duration of the arrangement. However, to provide continued pensionable service accruals following the termination of an employer/employee relationship for a period of termination notice in respect of which either a series of payments or a lump sum payment is made in lieu would not be permissible under the Act. The post-employment period would not qualify as eligible service, therefore we do not foresee the Minister's authority under subsection 8310(2) of the Regulations being used as proposed. In addition, there are already acceptable ways, such as the aforementioned salary continuation arrangement, whereby further pensionable service could accrue, so employers are not without options.

A similar question and answer concerning severance payments, salary continuation arrangements, and compensation, was discussed at the 2004 RPP Consultation Session. For further information see Question 10 on the RPD website at http://www.cra-arc.gc.ca/tx/rgstrd/cnslttns/rpp_cq04-eng.html#q10.

Question 8 - Excess surplus issue

A defined benefit pension plan revealed a large surplus according to the last filed valuation report such that employer contributions are not allowed under subsection 147.2(2) of the Income Tax Act. However following the recent market turmoil there is an indication by the pension regulator and/or plan administrator that the plan's solvency position has deteriorated. Although the pension regulator does not require the filing of a new valuation until it is due, any asset transfer out of the pension fund would require a prior consent from the regulator. What is the filing requirement by CRA that would warrant an earlier funding schedule than the one stated in the last filed valuation report, if any.

Answer 8:

The actuary must prepare an interim cost certificate showing the plan's financial position in support of the contribution requirements. The actuarial liabilities could be rolled forward from the last filed AVR if there has been no substantial change in plan membership or plan provisions since the last AVR was filed. A new balance sheet must show the reconciliation of plan assets as of the date of the interim cost certificate. The interim cost certificate would only be effective for the remainder of the recommendation period covered by the last filed AVR.

Question 9 - Maximum transfer value Regulation 8517

In the situation that a commuted value is not paid in a single lump sum due to the transfer ratio of the pension plan that is less than 100%, what is the proper application of paragraph 8517 of the Income Tax Regulations (the Regulations) limit?

Answer 9:

Assume the normalized pension is $15,000, the commuted value of the pension is $100,000 and that the pension plan has a solvency ratio of 70%. In respect of the initial payment, under regulation 8517(1) of the Regulations, the variable A (the lifetime retirement benefit commuted) is $10,500. This value is multiplied by variable B (i.e., the factor based on the member's age at the time of the initial payment) to determine the prescribed amount limit for the initial payment.

For subsequent payment(s), the variable A is the normalized pension being commuted (an amount up to the remaining normalized pension that has not been previously commuted) at the subsequent time(s). This value is multiplied by the variable B (i.e., the factor based on the member's age at the time of the later payment) to determine the prescribed amount limit for subsequent payment(s).

Question 10 - Designated plan procedures

How does RPD's process work in relation to "deeming" a plan to be a designated plan? We have recently seen this happen where there is no explanation as to why it happened. On a related note, is there any way to avoid having to apply for an exemption every year?

Answer 10:

We do not "deem" a plan to be designated. Subsections 8515(1) to (3) of the Income Tax Regulations (the Regulations) specify which plans are designated plans.

As per subsection 8515(1) of the Regulations a registered pension plan with a defined benefit provision is a designated plan throughout the year if the pension credits of specified individuals exceeds 50% of all pension credits for the year under the provision. Pursuant to subsection 8515(4) the Regulations, an individual is considered to be a "specified individual" in a calendar year if he is connected at any time with a participating employer under the plan or the individual's total remuneration for the year exceeds 2 ½ times the Year's Maximum Pensionable Earnings for the year.

Subsection 8515(3) allows a plan to be exempt from being designated under subsection 8515(1) if the plan has 10 or more active members in the year and the Minister has given written notice that the plan is not designated. Such notice may be provided where the plan is a normal defined benefit plan and all or most of the members deal at arm's length with the participating employer. Although subsection 8515(3) is applicable to the calendar year, the Minister's notice is valid for calendar years subsequent to the year for which the application has been waived as long as the terms of the plan and the facts remain the same as those existing at the time of the request.

Form T510, Application for Registration of a Pension Plan and Form T244, Annual Information Return, will indicate whether or not the plan is designated. Once a plan has designated status, it continues to be designated unless the Minister waives application of subsection 8515(2) of the Regulations in writing.

This notice is also valid for calendar years subsequent to the year for which the application has been waived as long as the terms of the plan and the facts remain the same as those existing at the time of the request. Should there be a material change in the terms of the plan or the facts in a subsequent year, a new request for a notice pursuant to subsection 8515(2) of the Regulations will have to be submitted for our consideration, unless the change or changes result in the plan not being considered, under subsection 8515(1) of the Regulations, a designated plan throughout the calendar year.

Question 11 - PSPA calculation issue

We would like clarification on the past service pension adjustment (PSPA) rules with respect to members who transfer from a defined-benefit (DB) provision to another DB provision under a reciprocal or portability arrangement. Do the increases in the maximum pension give rise to a PSPA and would a pension adjustment reversal (PAR) be generated in connection with the transfer?

Answer 11:

The modified method as per subsection 8304(5) of the Income Tax Regulations (the Regulations) would apply in respect of individual transfers from one DB provision of a plan to a replacement provision of a plan under a reciprocal or portability arrangement. The PSPA rules have been designed to ensure that no PSPA will arise as a consequence of a DB to DB transfer insofar the benefit accrual rates under the former plan are equal to or greater than those under the new plan. The rules take into account prior benefit adjustments that have been made in the former plan including the increases in the maximum benefit limits. Therefore in most cases the PSPA rules have been designed to accommodate transfers between RPPs.

The elements applicable in determining a PAR for a DB provision are set out in subsection 8304.1(5) of the Regulations. The "pension adjustment (PA) transfer amount", is value D within the equation, and applies when a defined benefit pension plan recognizes a member's previously accrued pensionable service under a former DB pension plan. The PA transfer amount is defined in subsection 8304.1(10) of the Regulations, and is equal to the lesser of i) the PA value of the past service benefits provided under the new provision and ii) the PA value of the past service benefits previously provided under the terminating provision.

In calculating the PAR on termination from the exporting plan, the PA transfer amount will reduce the amount of the former provision's PAR by the PA value of the benefits now provided within the new provision. The rationale for this is due to the fact that these benefits have not been lost but have been replaced. If the importing plan has a less generous accrual rate, or recognizes only a portion of prior service, the "lesser" value for the purposes of subsection 8304.1(10) of the Regulations would be the PA value of past service benefits provided under the new provision. Thus, a PAR would likely arise only in situations where the importing plan has a less generous accrual rate, or recognizes only a portion of the member's prior service.

If you have a particular situation that you would like to discuss relating to PSPA and PAR, we would be pleased to review the details and respond accordingly.