On March 16th, 2021, CRA posted a newsletter that provides clarity under the Income Tax Act. A standard Individual Pension Plan (IPP) is considered a designated plan for connected persons and their family members under subsection 8300(1). The IPP has clear rules that govern it as a defined benefit plan for owner operators, which offers some flexibility with regard to funding, but there have been some who have found creative ways around the regulations. This newsletter focuses on what are known as Hybrid Individual Pension Plans, which are IPPs with both a defined benefit (DB) and a defined contribution (DC) (money purchase) formula and have been marketed aggressively in some cases.
A Hybrid Plan, sometimes by other trademarked terms, is an Individual Pension Plan that contains both a DB and a DC or money purchase provision. It is through some creative toggling between these provisions that has resulted in CRA providing much needed clarity. The newsletter tackles 2 conditions.
Condition 1 concerns what is known as an excess surplus. Excess surplus occurs when the asset value of the IPP exceeds more than 25% of the assets required to provide the retirement benefit at that particular valuation date. The normal remedy for an excess surplus is that the company takes a funding holiday to offset the surplus until the new current service contribution room generated offsets the excess. Some applications of the hybrid formula utilize suspending the defined benefit formula accruing room to offset the surplus, and instead flipping to the money purchase formula so they can still fund the plan. This is considered to be a double dip that takes advantage of an unexpected loophole in the regulations.
From a planning standpoint, super funding a plan when it is in excess surplus can have the unintended consequence of compounding a future personal tax liability if the sponsoring company is ever sold or wound up. When commuting an IPP that is funded properly to the intended benefit level, there can be a tax excess that cannot be transferred to a LIRA or RSP. Funding a plan beyond the excess surplus would create a very large personal tax liability which offsets any benefit of the corporate deduction from funding the IPP beyond where it should be, and would not make logical sense from a planning perspective.
Condition 2 relates to Designated plan funding limits. Some hybrid plans are used to circumvent the designated plan rules (which govern a standard IPP which only utilizes the DB formula), whereas the plan is designed to use the money purchase formula for the current year’s funding, and the DB formula for past service funding. Periodically, the money purchase amounts are switched to the DB side, thus creating additional deductions to the company. CRA addressed this loophole by amending subsection 147.1(5) of The Act to consider registered pension plans that provide the larger DB formula for past service to be Designated plans whether they have the current year’s funding under either formula.
It is clear that CRA is not questioning the validity of proper IPPs, which make up the majority of plans in force, and it reaffirms our position at GBL (Gordon B Lang & Associates), that aggressive planning around pension rules is not advisable. Since 1995, GBL has been a foremost expert in IPPs, and we will advise our clients on any prudent IPP advantages that do not circumvent The Act. Any individuals or organizations that claim to offer an advanced IPP such as a Hybrid plan should be met with caution.
By Fraser Lang CLU, CFP, CHS, Senior Vice President, GBL Inc.
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