Tax authorities unable to obtain the names of 10-8 loan customers

By Alain Thériault | Jan. 24, 2012, 8:57 p.m.

A Federal Court decision has dismissed the Canada Revenue Agency’s request to obtain the names of taxpayers who participated in an investment loan strategy known as "10-8". The CRA had asked three insurers to provide the information. In its crusade against tax dodges, the Canada Revenue Agency (CRA), has had the 10-8 in its sights since 2008.The life insurance policy loan program offers significant tax advantages.

Why 10-8? Initially, the borrowing rate was set at 10% and the guaranteed yield of the life insurance policy was 8%.The client agrees to pay a higher rate because the interest on the loan is tax deductible. As for the returns from the investment component of life insurance policy, it is not taxable. The resulting difference is to the client's advantage.

After a request from the CRA, the Federal Court ordered RBC Insurance to disclose information about customers who had subscribed to this kind program. In 2010, the court ordered BMO and Industrial Alliance to do the same. The CRA wanted to see if the taxpayers involved had honoured their duties or obligations under the Income Tax Act. The CRA asked, amongst other things, for their names as well as their social insurance, business, and trust numbers.

The three insurers challenged these orders and asked the Federal Court to overturn them. Insurers claimed that the CRA claims amounted to a fishing expedition.

The Federal Court agreed with them in a new decision handed down on Nov. 1, 2011. Justice
Danièle Tremblay-Lamer ruled that the orders had to be canceled because the CRA had not made a full disclosure of the facts. One large file of documents that had been produced by the insurers would have allowed the Court to better understand the workings of 10-8.

Another document, which the CRA was late to produce in court, would have even shown that the 10-8 tax benefit program complies with the Income Tax Act. This was a request for an advance ruling addressed to the CRA in 2007 by an insurer. Working with a mandate from CRA, a committee dealing with the General Anti-Avoidance Rule (GAAR) ruled at the time that the 10-8 system was on-side.

Professional secrecy

The court went on to describe the CRA's orders as an intrusive use of its power. As a whole, the case was tried on how the Income Tax Act treats professional secrecy, specifically section 231.2, [3] of the Income Tax Act (R.S.C. 1985, c. 1, 5th Supp.).

PPI is active in this market, and welcomes this decision in spite of the fact that the CRA has recently launched an appeal. PPI's CEO, James Burton, gives more weight to the content of the trial than its outcome. In fact, he believes that the decision contains elements that prove the 10-8 program does not violate the anti-avoidance rule.

For example, the judge's comments focused on the 2007 ruling. Mr. Burton says that the ruling also showed that the CRA's only concern was to determine whether the prescribed rates for 10-8 policy loans were established in a reasonable manner.

Mr. Burton is not concerned about this question of reasonableness. "Loan interest rates have been set to 9%, based on prevailing market rates for borrowers in similar situations and a loan with similar conditions. We're now talking about 9-7 instead of 10-8," he commented.

Based on normal commercial loans, these rates are set by internal committees at banks and insurers, says Mr. Burton. "We've actually made two submissions to the CRA showing them in great detail the background of the formula that was used to demonstrate that the rates are appropriate. We're satisfied technically that it meets the definition of reasonableness in the Income Tax Act." Mr. Burton added that if interest rates remain low, the rate will be adjusted once again.

PPI has been marketing the program since 2001. Until the interest rates determine otherwise, it will be known as the 9-7.