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TAX TIP Watch out for offshore disability insurance plan schemes

Friday, 28 August 2020 05:14.PM

The Canada Revenue Agency (CRA) is warning Canadians about getting involved in tax schemes including purported offshore disability insurance plans. Promoters, including tax representatives and tax preparers, are claiming that taxpayers can get tax-free amounts from a corporation and the corporation can get a tax write-off using employer disability insurance plans provided by supposed offshore insurer.

What are tax schemes?

Tax schemes are plans and arrangements that go against the Income Tax Act. They deceive taxpayers by promising to reduce the taxes they owe. Schemes may promise large deductions or tax-free income.

What types of disability insurance plans are of concern?

A genuine disability insurance plan is a financial product that typically provides a monthly income, if you cannot work due to unexpected illness or injury. These insurance products are normally legitimate ways for employers to insure against risks associated with the health of their employees.

A disability insurance plan should outline the details of an insurance policy, along with the payment details, liabilities and stipulations of the insurance and insurer.

However, certain schemes that purport to provide disability insurance are not providing insurance. In general terms, these schemes are financed with no-risk loans from an offshore lender with a participant (usually an employer) being required to pay the net proceeds of the supposed insurance to an offshore entity under a separate side agreement. Although this communication piece highlights offshore arrangements, similar concerns can arise with respect to domestic arrangements with the same or similar characteristics.

How does an offshore disability insurance plan scheme work?

An offshore disability insurance plan is an arrangement under which a promoter sells a corporate taxpayer disability insurance. The corporate taxpayer makes a deposit (directly or indirectly, through a health and welfare trust) with a foreign corporation. Through a series of transactions, the foreign corporation allegedly loans the funds to the corporate taxpayer's shareholder / employees or related parties on a limited-recourse basis (i.e., without risk). The shareholders/employees or related parties then loan the same amount of funds to the corporate taxpayer.

The corporate taxpayer paying the so-called insurance premiums is assured most of its deposit will be loaned back to the corporate taxpayer's shareholders/employees or related parties and then returned to the corporate taxpayer. All of these transactions are done under the guise of a disability insurance plan.

The promoter of these offshore money transfers claim they are a legal way to avoid tax. For example, the promoter may claim:

- one or more non-arm's length individuals including employees can receive tax-free amounts from a corporate taxpayer
- the corporate taxpayer may deduct an insurance premium expense

Why is this a scheme?

Funds circle into and out of Canada in amounts that are claimed as large insurance expenses in order to avoid Canadian income tax.

These deductions are a multiple of the actual funds that the participants paid under the schemes out of their pre-existing wealth with a substantial portion of those actual funds being used to pay the promoters' fees (commissions).

The products would not have otherwise been issued in the absence of other interdependent contracts. The CRA has, to date, found that the amounts individuals are receiving are taxable and the premiums are not deductible in-part because the so-called insurance is not insurance.

Your actions may have serious consequences

Through increased audits of promoters, improved intelligence gathering and strengthened communication with taxpayers, the CRA continues to identify and shut down tax schemes.

The CRA reviews leveraged insurance products to determine whether they are valid or just a vehicle to obtain a specific tax advantage.

In the event the CRA finds these purported insurance products to be invalid, participants in these schemes, as well as those who promote and sell them, face serious consequences, including third-party civil penalties for promoters and gross negligence penalties for participants.

What can you do?

The CRA encourages all Canadians to seek an independent second opinion from a reputable tax professional on important tax matters.

If you suspect tax evasion, you can report it online at Canada.ca/taxes-leads or by contacting the Informant Leads Centre at 1-866-809-6841. The CRA will act to protect your identity. Also, you can give information anonymously.

You are welcome to correct your tax affairs through the Voluntary Disclosures Program: Canada.ca/taxes-voluntary-disclosures.

For more information on tax schemes, please go to Canada.ca/tax-schemes.

SOURCE: Canada Revenue Agency

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