Canada Gazette

These amendments are to Parts II, XLVIII, L, LXII, LXXXIII and LXXXV of the Income Tax Regulations (the Regulations).

— Part II of the Regulations sets out circumstances under which information returns are required to be made.

— Part XLVIII of the Regulations prescribes, among other things, persons who are permitted to invest in tax-exempt pension investment corporations.

— Part L of the Regulations exempts certain entities, including qualified limited partnerships (QLPs) and specified international finance trusts (SIFTs), from being treated as foreign property for purposes of the foreign property limit in Part XI of the Income Tax Act (the Act).

— Part LXII of the Regulations sets out, among other things, requirements for an employee stock option share to be a prescribed share and, thus, be eligible for the stock option deduction under paragraph 110(1)(d) of the Act.

— Parts LXXXIII and LXXXV of the Regulations contain rules relating to registered pension plans (RPPs).

The amendments to Parts II, XLVIII, LXXXIII and LXXXV are either consequential to amendments to the Act contained in Bill C-22 or technical refinements to the existing regulatory structure. (Bill C-22, which received Royal Assent on June 14, 2001, and became S.C. 2001, c. 17, implemented, among other things, income tax measures announced in Budget 2000 and technical amendments to the Act contained in draft legislation previously released by the Department of Finance.) The amendments to Part L implement an income tax measure announced in Budget 2001 relating to QLPs, and make a minor technical change to the SIFT requirements. The amendment to Part LXII relaxes one of the requirements for being a prescribed stock option share.

Subsection 7(1) of the Act deems an employee who acquires a security under an employee option agreement to have received a taxable benefit from employment. Subsection 7(8) of the Act (which was introduced in Bill C-22) allows the taxation of the benefit to be deferred until the employee disposes of the security, provided the security is acquired after February 27, 2000, and certain other conditions are met.

Part II of the Regulations sets out circumstances in which information returns are to be filed with the Minister of National Revenue. Part II is amended to add new subsection 200(5). That subsection requires that an information return reporting the amount of a security option benefit, the taxation of which is deferred under subsection 7(8) of the Act, be filed by certain designated persons in the year in which the security is acquired.

For further details on this amendment, refer to Appendix A of the explanatory notes to Bill C-22 that were released by the Department of Finance on March 16, 2001 (News Release 2001-029). This release can be found at www.fin.gc.ca/news01/01-029e.html.

Paragraph 149(1)(o.2) of the Act exempts from tax certain types of corporations generally involved with pension fund administration and investments if all of the shares and rights to acquire shares of the corporation are owned by one or more registered pension plans or specified persons. Specified persons include those prescribed under subsection 4802(1) of the Regulations. This provision is amended to expand the list of prescribed persons to include the Canada Pension Plan Investment Board, effective after October 2002.

Part XI of the Act imposes a penalty tax on excess foreign property held by certain trusts and other tax-exempt persons governed by deferred income plans. "Foreign property" is defined in subsection 206(1) of the Act to include an interest in a trust and an interest in a partnership, except as prescribed by regulation. Paragraphs 5000(1.1)(c) and (d) of Part L of the Regulations prescribe, for this purpose, an interest of a limited partner in a QLP and an interest in a SIFT, respectively.

Subsection 5000(7) of the Regulations defines a QLP as a limited partnership that satisfies certain conditions. One of the conditions is that no limited partner (or group of non-arm's length limited partners) hold more than 30 percent of the units of the partnership.

The QLP definition is amended to remove the ownership limitation, thus allowing a limited partnership to be a QLP even if a limited partner holds more than 30 percent of the units of the partnership. Section 5000 is further amended to provide that, if an entity that is subject to the foreign property rule holds (alone or as part of a non-arm's length group) more than 30 percent of the units of a QLP, the units held by the entity will be treated as foreign property of the entity in the same proportion as the foreign property held by the QLP.

These changes to the QLP provisions were announced in Budget 2001, and generally apply after 2001. For further details on these amendments, refer to Appendix C of the explanatory notes to Bill C-49 (which implemented measures from Budget 2001 and received Royal Assent on March 27, 2002, becoming S.C. 2002, c. 9) that were released by the Department of Finance on February 5, 2002 (News Release 2002-013). This release can be found at www.fin.gc.ca/news02/02-013e.html.

Subsection 5000(7) of the Regulations defines a SIFT as a trust that satisfies certain conditions. One of the conditions is that the trust be established principally for the purpose of acquiring debt issued to and acquired from certain international financial institutions listed in the SIFT definition.

The SIFT definition is amended to clarify that such debt may be acquired by the trust either directly from the specified international financial institution or on the secondary market. This amendment applies from the date as of which the SIFT definition came into effect.

Subsection 7(1) of the Act deems an employee who acquires a share under a stock option agreement to have received a taxable benefit from employment. Where certain conditions are met, paragraph 110(1)(d) of the Act allows the employee to deduct a portion of the benefit. One of the conditions is that the stock option share be a prescribed share as described in section 6204 of Part LXII of the Regulations.

One of the requirements to be a prescribed share, set out in paragraph 6204(1)(b) of the Regulations, is that there be no reasonable expectation, at the time the share is acquired by the employee, that the paid-up capital (PUC) of the share will be reduced in the following two years. However, exceptions are made for reductions in PUC that may be expected to occur as a consequence of an amalgamation of a subsidiary wholly-owned corporation or of a winding-up to which subsection 88(1) of the Act applies.

Paragraph 6204(1)(b) is amended to include, in the exceptions, a reduction in PUC that may be expected to occur as a consequence of a distribution or appropriation of funds or property to which subsection 84(2) of the Act applies. This will ensure that an employee who acquires a stock option share of a Canadian-resident corporation, while the corporation is in the process of a reorganization, discontinuance or winding-up, is not precluded from claiming the stock option deduction simply because that activity may give rise to a reasonable expectation of a distribution by the corporation and an associated reduction in PUC. This amendment applies to options exercised after 1998.

This amendment was previously announced by the Department of Finance on December 20, 2002 (News Release 2002-107) in Appendix G to the Legislative Proposals and Explanatory Notes Relating to Income Tax. This release can be found at www.fin.gc. ca/news02/02-107e.html.

Parts LXXXIII and LXXXV of the Regulations are amended as a consequence of amendments to the Act contained in Bill C-22.

New subsections 8501(6.1) and (6.2) of the Regulations are introduced to accommodate arrangements under defined benefit RPPs that require plan members to share in the funding of an unfunded liability. Subsection 8501(6.1) ensures that member contributions made pursuant to an approved arrangement do not contravene the pension registration rules. Subsection 8501(6.2) provides that such contributions are prescribed eligible contributions for purposes of the deductibility rules in paragraph 147.2(4)(a) of the Act, as amended by Bill C-22. These amendments apply to contributions made after 1990.

Subsection 147.3(7.1) of the Act, introduced in Bill C-22, permits the tax-free transfer of surplus from one money purchase pension plan to another, where the second plan replaces all or part of the first plan. Various provisions in Parts LXXXIII and LXXXV of the Regulations are amended to take into account this new category of transfer. These amendments generally apply after 1998.

For further details on these amendments, refer to Appendix I of the explanatory notes to Bill C-22 that were released by the Department of Finance on March 16, 2001 (News Release 2001-029). The release can be found at www.fin.gc.ca/news01/01-029e.html.

Subsection 147.2(2) of the Act defines "eligible contribution" to be an RPP contribution made by an employer in respect of the defined benefit provisions of the plan, where the contribution either satisfies the conditions in that subsection or is prescribed under section 8516 of the Regulations. Eligible contributions are defined for purposes of subsection 147.2(1) of the Act (deduction of employer contributions) and paragraph 8502(b) (permissible contributions to an RPP).

Section 8516 is amended to provide greater flexibility to RPPs that have implemented funding arrangements that require participating employers and members to share in the entitlement to surplus and the liability for actuarial deficiencies. The amendment permits employer contributions to be made to such a plan in accordance with the following table where the contributions would not otherwise be permitted under subsection 147.2(2) of the Act because the plan's funding ratio exceeds 110 percent.

Section 8516 is also amended to repeal a number of transitional provisions that no longer have application.

The reporting requirement for deferred stock option benefits, and the RPP amendments relating to employee contributions and transfers, are consequential on changes to the Act. The QLP amendments implement a measure announced in Budget 2001. The amendments relating to pension investment corporations, SIFTs, prescribed shares and RPP eligible contributions are refinements to the existing regulatory framework. Therefore, no alternatives were considered.

The deferred stock option benefit reporting requirement, and the RPP amendments relating to employee contributions and transfers, are consequential on changes to the Act. The amendment permitting the Canada Pension Plan Investment Board to invest in tax-exempt pension investment corporations is consistent with the investment opportunities afforded to registered pension plans. The QLP amendments will facilitate the use of limited partnerships by pension funds in structuring their venture capital investments. The SIFT and prescribed share amendments address technical concerns. The revenue implications associated with these amendments are expected to be minimal.

The relaxation of the RPP eligible contribution rules for plans that have implemented a shared funding arrangement recognizes the fact that both employee and employer contributions to such a plan are linked to the funded status of the plan. As a result, employee contribution rates have the potential to vary significantly. This is in contrast to traditional defined benefit RPPs under which employee contribution rates remain constant, regardless of the funded status of the plan. By relaxing the restrictions on employer contributions, changes in the funded status of jointly funded plans should be less volatile and employee contribution rates should be more stable. The short-term revenue implications associated with this amendment are expected to be minimal.

These amendments were developed in consultation with the Canada Customs and Revenue Agency, the Department of Justice and other interested parties. The amendment for the reporting of deferred stock option benefits was released by the Department of Finance in draft form, together with detailed explanatory notes, on December 21, 2000, and again on March 16, 2001. The QLP changes were announced in Budget 2001, and the Department of Finance released draft Regulations and detailed explanatory notes on February 5, 2002. The RPP amendments relating to employee contributions and transfers were released in draft form, together with detailed explanatory notes, on November 30, 1999, and again on March 16, 2001. The amendment relating to pension investment corporations was made in consultation with the Canada Pension Plan Investment Board. The amendments to the SIFT definition, the prescribed share rules and the RPP eligible contribution rules respond to technical concerns identified through public representations.

The Income Tax Act provides the necessary compliance mechanisms for these amendments. The Act allows the Minister of National Revenue to conduct audits, to seize relevant documents and records and to assess and reassess tax, interest and penalties payable.

David Wurtele, Tax Legislation Division, Department of Finance, L'Esplanade Laurier, 140 O'Connor Street, Ottawa, Ontario K1A 0G5, (613) 992-4390.

Notice is hereby given that the Governor in Council, pursuant to subsection 147.1(18) (see footnote a) and section 221 (see footnote b) of the Income Tax Act (see footnote c) , proposes to make the annexed Regulations Amending the Income Tax Regulations (Parts II, XLVIII, L, LXII, LXXXIII and LXXXV).

Interested persons may make representations with respect to the proposed Regulations within 60 days after the date of publication of this notice. All such representations must cite the Canada Gazette, Part I, and the date of publication of this notice, and be addressed to David Wurtele, Tax Legislation Division, Department of Finance, L'Esplanade Laurier, 17th Floor, East Tower, 140 O'Connor Street, Ottawa, Canada, K1A 0G5.

REGULATIONS AMENDING THE INCOME TAX REGULATIONS (PARTS II, XLVIII, L, LXII, LXXXIII AND LXXXV)

1. Section 200 of the Income Tax Regulations (see footnote 1) is amended by adding the following after subsection (4):

(5) Where a particular qualifying person (within the meaning assigned by subsection 7(7) of the Act) has agreed to sell or issue a security (within the meaning assigned by that subsection) of the particular qualifying person (or of a qualifying person with which it does not deal at arm's length) to a taxpayer who is an employee of the particular qualifying person (or of a qualifying person with which it does not deal at arm's length) and the taxpayer has acquired the security under the agreement in circumstances to which subsection 7(8) of the Act applied, each of the particular qualifying person, the qualifying person of which the security is acquired and the qualifying person which is the taxpayer's employer shall, for the particular taxation year in which the security is acquired, make an information return in the prescribed form in respect of the benefit from employment that the taxpayer would be deemed to have received in the particular taxation year in respect of the acquisition of the security if the Act were read without reference to subsection 7(8) and, for this purpose, an information return made by one of the qualifying persons in respect of the taxpayer's acquisition of the security is deemed to have been made by each of the qualifying persons.

2. Subsection 4802(1) of the Regulations is amended by adding the following after paragraph (c):

(2) Section 5000 of the Regulations is amended by adding the following after subsection (1.2):

(1.3) For the purpose of paragraph (i) of the definition "foreign property" in subsection 206(1) of the Act, the specified portion of a limited unit in a qualified limited partnership that is held at any time by a specified partner of the partnership is, at that time, not foreign property of the specified partner.

(1.4) For the purpose of subsection (1.3), the specified portion of a limited unit in a qualified limited partnership held at any time by a specified partner is

(a) if the number of limited units in the partnership, each of which is held at that time by the specified partner or by any other specified partner with whom the specified partner does not deal at arm's length, is less than or equal to 30 per cent of the number of limited units in the partnership held at that time by specified partners, the limited unit; and

(b) in any other case, that proportion of the limited unit that the cost amount to the partnership of all property (other than foreign property) held by the partnership at that time is of the cost amount to the partnership of all property held by the partnership at that time.

(1.5) For the purposes of subsections (1.3) and (1.4), a specified partner of a qualified limited partnership at any time means a person or partnership that holds at that time a limited unit in the partnership and that is at that time neither:

(1.6) For the purposes of subsections (1.4) and (1.5), if a person or partnership (other than a taxpayer described in section 205 of the Act) holds at any time a unit or share in a "qualified trust" or "qualified corporation" (as those expressions are defined in subsection 259(5) of the Act), the person or partnership is deemed to hold at that time any property of the trust or corporation that it would be deemed, by paragraph 259(1)(b) of the Act, to hold at that time if that person or partnership were a taxpayer described in section 205 of the Act.

(3) Subsection 5000(7) of the Regulations is amended by adding the following in alphabetical order:

"limited unit" in a qualified limited partnership means a unit described in paragraph (d) of the definition "qualified limited partnership";

(4) Paragraph (d) of the definition "société de personnes en commandite admissible" in subsection 5000(7) of the French version of the Regulations is replaced by the following:

(5) Paragraph (e) of the definition "qualified limited partnership" in subsection 5000(7) of the Regulations is repealed.

(6) The portion of subparagraph (c)(i) of the definition "specified international finance trust" in subsection 5000(7) of the Regulations before clause (A) is replaced by the following:

(b) the corporation or a specified person in relation to the corporation cannot reasonably be expected to, within two years after the time the share is sold or issued, as the case may be, redeem, acquire or cancel the share in whole or in part, or reduce the paid-up capital of the corporation in respect of the share, otherwise than as a consequence of

(i) an amalgamation of a subsidiary wholly-owned corporation,

(ii) a winding-up to which subsection 88(1) of the Act applies, or

(iii) a distribution or appropriation to which subsection 84(2) of the Act applies; and

5. Paragraph 8300(8)(a) of the Regulations is amended by striking out the word "or" at the end of subparagraph (ii), by striking out the word "and" at the end of subparagraph (iii), by adding the word "or" at the end of subparagraph (iii) and by adding the following after subparagraph (iii):

6. Paragraph 8301(4)(b) of the Regulations is amended by striking out the word "or" at the end of subparagraph (ii), by adding the word "or" at the end of subparagraph (ii.1) and by adding the following after subparagraph (ii.1):

7. (1) Section 8500 of the Regulations is amended by adding the following after subsection (1):

(1.1) The definition "surplus" in subsection (1) applies for the purpose of subsection 147.3(7.1) of the Act.

(2) Subsection 8500(7) of the Regulations is amended by striking out the word "or" at the end of paragraph (b), by adding the word "or" at the end of paragraph (c) and by adding the following after paragraph (c):

8. Section 8501 of the Regulations is amended by adding the following after subsection (6):

(6.1) For the purposes of the conditions in this Part, a contribution made by a member of a pension plan in respect of a defined benefit provision of the plan is deemed to be a current service contribution made by the member in respect of the member's benefits under the provision if

(a) the contribution cannot, but for this subsection, reasonably be considered to be made in respect of the member's benefits under the provision;

(b) the contribution is determined by reference to the actuarial liabilities under the provision in respect of periods before the time of the contribution; and

(i) under which all, or a significant number, of the active members of the plan are required to make similar contributions,

(ii) the main purpose of which is to ensure that the plan has sufficient assets to pay benefits under the provision, and

(iii) that is approved by the Minister.

(6.2) For the purpose of paragraph 147.2(4)(a) of the Act, a contribution described in subsection (6.1) is a prescribed eligible contribution.

9. (1) Subparagraph 8502(d)(ii) of the Regulations is replaced by the following:

8516. (1) For the purposes of subsection 147.2(2) of the Act, a contribution described in any of subsections (2) to (4) is a prescribed contribution.

(2) A contribution that is made by an employer to a registered pension plan is described in this subsection if

(a) the contribution is made pursuant to a recommendation by an actuary in whose opinion the contribution is required to be made so that, if the plan is terminated immediately after the contribution is made, it will have sufficient assets to pay benefits accrued under the defined benefit provisions of the plan, as registered, to the time the contribution is made;

(b) the recommendation is based on an actuarial valuation that complies with the following conditions:

(i) the effective date of the valuation is not more than four years before the day on which the contribution is made,

(ii) all assumptions made for the purposes of the valuation are reasonable at the time the valuation is prepared and at the time the contribution is made,

(iii) the valuation is prepared in accordance with generally accepted actuarial principles applicable with respect to a valuation prepared on the basis that a plan will be terminated, and

(iv) where more than one employer participates in the plan, assets and actuarial liabilities are apportioned in a reasonable manner among participating employers;

(d) at the time the contribution is made, the plan is not a designated plan under section 8515.

(3) A contribution that is made by an employer to a registered pension plan is described in this subsection if

(a) the contribution

(i) is required to be made to comply with the Pension Benefits Standards Act, 1985 or a similar law of a province,

(ii) is made in respect of benefits under the defined benefit provisions of the plan as registered, and

(iii) is made pursuant to a recommendation by an actuary;

(b) the recommendation is based on an actuarial valuation that complies with the following conditions:

(i) the effective date of the valuation is not more than four years before the day on which the contribution is made,

(ii) all assumptions made for the purposes of the valuation are reasonable at the time the valuation is prepared and at the time the contribution is made, and

(iii) where more than one employer participates in the plan, assets and actuarial liabilities are apportioned in a reasonable manner among participating employers;

(d) at the time the contribution is made, the plan is not a designated plan under section 8515.

(4) A contribution that is made by an employer to a registered pension plan is described in this subsection if

(a) responsibility for the governance of the plan is shared between the participating employers and the members of the plan;

(b) the contribution is made pursuant to an arrangement approved by the Minister under which it is reasonable to expect that, on a long-term basis, the members' entitlement to benefit from actuarial surplus, the members' obligation to fund actuarial deficiencies and the members' obligation to make regular current service contributions, under the defined benefit provisions of the plan, will not be less than 66 2/3% or more than 100% of each such entitlement or obligation of the participating employers;

(c) the contribution is a current service contribution that would be an eligible contribution under subsection 147.2(2) of the Act if no contributions were prescribed for the purposes of that subsection and if that subsection were read without reference to subparagraphs (d)(ii) and (iii);

(d) the recommendation pursuant to which the contribution is made is such that the current service contributions to be made by the employer and the employer's employees in respect of the provisions do not exceed,

(i) where the amount of actuarial surplus in respect of the employer is not more than 10% of the amount of actuarial liabilities apportioned to the employer in respect of the employer's employees and former employees, the current service contributions that would be required if there were no actuarial surplus under the provisions,

(ii) where the amount of actuarial surplus in respect of the employer is greater than 10%, but not more than 15%, of the amount of actuarial liabilities apportioned to the employer in respect of the employer's employees and former employees, 75% of the current service contributions that would be required if there were no actuarial surplus under the provisions,

(iii) where the amount of actuarial surplus in respect of the employer is greater than 15%, but not more than 20%, of the amount of actuarial liabilities apportioned to the employer in respect of the employer's employees and former employees, 50% of the current service contributions that would be required if there were no actuarial surplus under the provisions,

(iv) where the amount of actuarial surplus in respect of the employer is greater than 20%, but not more than 25%, of the amount of actuarial liabilities apportioned to the employer in respect of the employer's employees and former employees, 25% of the current service contributions that would be required if there were no actuarial surplus under the provisions, and

(v) where the amount of actuarial surplus in respect of the employer is greater than 25% of the amount of actuarial liabilities apportioned to the employer in respect of the employer's employees and former employees, nil; and

(e) at the time the contribution is made, the plan is not a designated plan under section 8515.

(4) Subsections 3(4) and (5) apply for the purpose of determining if a partnership is, at any time after 2001, a "qualified limited partnership".

(7) Section 5 and subsection 7(2) apply to allocations that occur after 1998.

(8) Section 6 applies to the determination of pension credits for 1999 and subsequent years.