Income Tax Folio S2-F1-C1, Health and Welfare Trusts

Series 2: Employers and Employees

Folio 1:  Specific Plans Offered by Employers to Employees

Chapter 1: Health and Welfare Trusts

Summary

The purpose of this Chapter is to explain the position of the Canada Revenue Agency (CRA) concerning the taxation of certain employee health and welfare benefit programs administered through a health and welfare trust. While the taxation of the benefits administered by a health and welfare trust are generally determined by the Act, the meaning of a health and welfare trust and the general rules for the computation of income of the trust are described in this Chapter.

This Chapter discusses the conditions that must be satisfied to qualify as a health and welfare trust, and provides an overview of the different types of health and welfare benefits that can be administered through such a trust. This Chapter also outlines the tax implications to an employer for contributions made to a health and welfare trust, the tax implications to an employee receiving benefits from the trust, and the taxation of the trust itself.

The CRA issues income tax folios to provide technical interpretations  and positions regarding certain provisions contained in income tax law. Due to their technical nature, folios are used primarily by tax specialists and other individuals who have an interest in tax matters. While the comments in a particular paragraph in a folio may relate to provisions of the law in force at the time they were made, such comments are not a substitute for the law. The reader should, therefore, consider such comments in light of the relevant provisions of the law in force for the particular tax year being considered.

Table of contents


Discussion and interpretation

Meaning of health and welfare trust

Overview

1.1 A health and welfare trust is not defined in the Act. In general terms, a health and welfare trust described in this Chapter is a trust arrangement established by an employer for the purpose of providing health and welfare benefits to its employees. Under this type of trust arrangement, trustees (usually with equal representation from the employer and the employees or their union) receive contributions from the employer and in some cases from employees, to provide certain health and welfare benefits agreed to between the employer and the employees. Multiple employers can participate in the same health and welfare trust.

Health and welfare benefits administered

1.2 A health and welfare trust may only administer the following:

  1. a group sickness or accident insurance plan;
  2. a private health services plan;
  3. a group term life insurance policy; or
  4. any combination of the above plans.

1.3 With the exception of a group term life insurance policy, a health and welfare trust can provide health and welfare benefits under plans described in ¶1.2 through third-party insurance contracts (an insured plan), directly from the property of the health and welfare trust (a self-insured plan), or through a combination of both.

Group sickness or accident insurance plan

1.4 The term group sickness or accident insurance plan is not defined in the Act. Generally, a group sickness or accident insurance plan may be described as an arrangement between an employer and employees which provides for the payment of benefits (periodic or lump sum) to an employee who suffers a loss as a result of sickness, maternity, or accident. To qualify as a group plan, a group sickness or accident insurance plan must have at least two employee plan members. Reference to a group sickness or accident insurance plan includes:

  1. a sickness or accident insurance plan;
  2. a disability insurance plan; and
  3. an income maintenance insurance plan.

Private health services plan

1.5 A private health services plan is defined in subsection 248(1) as:

  • a contract of insurance for hospital expenses, medical expenses, or any combination of such expenses; or
  • a medical care insurance plan, a hospital care insurance plan, or any combination of such plans.

There is no minimum number of employees that must be covered under a private health services plan. See Interpretation Bulletin IT-339R2, Meaning of “private health services plan” and the CRA webpage, New position on private health services plans – Questions and answers for a detailed discussion of private health services plans.

Group term life insurance policy

1.6 A group term life insurance policy is defined in subsection 248(1) as a group life insurance policy under which the only amounts payable by the insurer are:

  1. amounts payable on the death or disability of individuals whose lives are insured in respect of, in the course of, or because of their office or employment or former office or employment; and
  2. policy dividends or experience rating refunds.

1.7 The term insurer is defined in subsection 248(1) to mean an insurance corporation (that is, a corporation that carries on an insurance business). Therefore, a group term life insurance policy cannot be self-funded . A group term life insurance policy must also include and provide coverage to two or more employees.

Employee life and health trust

1.8 An employee life and health trust is a trust established after 2009 for employees of one or more employers. The only purpose of the trust is the payment of designated employee benefits (that is, benefits from a group sickness or accident insurance plan, a group term life insurance policy or a private health services plan) for employees and certain related persons. A trust must satisfy the requirements in subsection 144.1(2) to qualify as an employee life and health trust.

1.9 A trust that provides health and welfare benefits under plans described in ¶1.2 may be a health and welfare trust or an employee life and health trust. Where a trust qualifies as both a health and welfare trust (see ¶1.13 - 1.23) and an employee life and health trust, the trust should maintain evidence to support the type of trust arrangement under which it intends to operate.

Employee benefit plan and employee trust

1.10 An employee benefit plan is broadly defined in subsection 248(1) and may include health and welfare arrangements. However, the plans administered by a health and welfare trust (see ¶1.2) are specifically excluded from this definition.

1.11 A trust that does not qualify as a health and welfare trust may be an employee benefit plan or an employee trust, which are discussed in Interpretation Bulletin IT-502, Employee Benefit Plans and Employee Trusts.

1.12 Where a trust administers plans described in ¶1.2 and an employee benefit plan or an employee trust, the entire trust will generally be treated as an employee benefit plan or employee trust in respect of the timing and amount of both the employer’s expense deductions and the employee’s receipt of benefits under the trust. However, the tax treatment outlined in this Chapter will apply to the part of the trust that provides benefits under the plans described in ¶1.2 if the contributions, income, and disbursements of that part of the trust are separately identified and accounted for.

Qualifying as a health and welfare trust

1.13 Provided that the plans administered are limited to those described in ¶1.2, a trust will qualify as a health and welfare trust if the following conditions are satisfied.

Coverage

1.14 A health and welfare trust cannot provide benefit coverage to non-employees such as partners of a partnership, shareholders, or independent contractors, even if these individuals pay for the coverage themselves.

Use of trust property

1.15 The funds of the trust and any income earned in the trust cannot revert to the employer or be used for a purpose other than providing health and welfare benefits under plans described in ¶1.2. Trust property may not be invested in, or used by, the employer, a person who does not deal at arm’s length with the employer, or a person who is a member of a group of persons not dealing at arm’s length with the employer. See Income Tax Folio S1-F5-C1, Related Persons and Dealing at Arm’s Length for a discussion of the criteria used to determine whether persons deal with each other at arm’s length for purposes of the Act.

1.16 The distribution of surplus funds to employees, including a transfer to a pension plan, a group registered retirement savings plan, or to individual employee registered retirement savings plans, is not an acceptable use of trust funds and may disqualify the trust as a health and welfare trust.

1.17 Where a health and welfare trust is wound up, any funds remaining in the trust may be used to provide additional benefits under plans described in ¶1.2 to the beneficiaries of the trust (that is, employees), or may be distributed to the employees or to a registered charity.

Independence from employer

1.18 The trustees must act independently of the employer. A trust initiated unilaterally by an employer, who maintains control over the use of the trust property, does not qualify as a health and welfare trust. This is the case whether or not there are employee contributions. Employer control over the use of the trust property (with or without an external trustee) may include situations where the beneficiaries of the trust have no claim against the trustees or the trust property, except by or through the employer.

1.19 It is a question of fact whether the trustees act independently of the employer. The fact that all trustees are appointed by the employer or that all trustees are employees is not a conclusive factor in determining whether trustees are independent of the employer. See Interpretation Bulletin IT-64R4 (Consolidated), Corporations: Association and Control, and Income Tax Folio S1-F5-C1 for a discussion of control in fact.

Employer contributions required

1.20 An employer is required to make contributions to a health and welfare trust to fund employee health and welfare benefits. Employer contributions cannot be made on a voluntary or gratuitous basis and must be enforceable by the trustee(s) should the employer decide not to make the payments. A trust that is funded only by contributions made by employees or an employee union does not qualify as a health and welfare trust. Employee contributions to a health and welfare trust are discussed in ¶1.37 - 1.39.

Fund surplus

1.21 Employer contributions to a health and welfare trust must not exceed the amount required to provide health and welfare benefits to employees. The existence of a temporary or permanent surplus in any given year will not automatically affect the status of a trust as a health and welfare trust. However, a trust that permits surplus accumulations under the terms of a trust agreement or through its method of funding may not qualify as a health and welfare trust.

1.22 A temporary surplus is one that may arise, for example, because the cost of providing health and welfare benefits was lower than expected in a particular year, or the investment income earned in the health and welfare trust was higher than expected in a particular year. A surplus of a permanent nature generally arises where the level of annual contributions made to the health and welfare trust continues to be in excess of the amount needed to operate the trust and fund health and welfare benefits.

1.23 A health and welfare trust is not generally required to reduce or eliminate a temporary surplus, nor would the existence of a temporary surplus in a particular year affect the deductibility of employer contributions. However, where a permanent surplus exists, employer contributions to the trust may not be deductible if steps are not taken within a reasonable time to eliminate the surplus. For example, a health and welfare trust may offer a premium (contribution) holiday, provide additional health and welfare benefits under plans described in ¶1.2, or choose a combination of both.

Establishing a health and welfare trust

1.24 There is no formal registration procedure for a health and welfare trust and no requirement that the trust agreement be submitted to the CRA for approval prior to the implementation of the trust.
 
1.25 Proper internal records should be kept for each employee to ensure compliance with reporting requirements. A separate trust bank account is not generally required for each employee, but there may be situations where separate accounts are necessary. As discussed in ¶1.12, such a situation may occur where contributions, income, and disbursements of parts of a trust are required to be separately identified and accounted for by the trust.

Tax implications to employer

Deductibility of contributions

1.26 As discussed in ¶1.3, a health and welfare trust may generally administer health and welfare benefits under insured plans, self-insured plans, or through a combination of both. To the extent that they are reasonable and laid out to earn income from business or property, contributions paid or payable to a health and welfare trust are generally deductible in the tax year in which the legal obligation to make the contributions arose. These requirements were confirmed by the Federal Court of Appeal in Labow v. the Queen, 2011 FCA 305, 2012 DTC 5001 which concerned the deductibility of contributions made to a health and welfare trust.

1.27 Where the plans administered by a health and welfare trust are insured plans, the employer may only deduct in the year, contributions equal to the premiums paid or payable by the trust to acquire insurance coverage for that year plus reasonable administrative costs of the trust.

1.28 Where the plans administered by a health and welfare trust are self-insured plans, the employer may only deduct in the year, contributions that were required to fund health and welfare benefits that could reasonably be expected to be paid or become payable by the trust in that year plus reasonable administrative costs of the trust. The CRA will generally consider contributions made in a year that were actuarially determined, to have been required to provide health and welfare benefits for that year.

1.29 Employer contributions that are not deducted in a year (see ¶1.27 and 1.28) can generally be deducted in a subsequent year when the health and welfare trust uses the contributions to provide health and welfare benefits to employees (for example, premiums paid or payable by the trust to acquire insurance coverage for that subsequent year, or to fund health and welfare benefits paid or payable in that subsequent year).

Loss of status as a health and welfare trust

1.30 After a trust loses its status as a health and welfare trust, any contributions made to the trust will be treated as capital contributions. These amounts will not be deductible by the employer pursuant to paragraph 18(1)(b), regardless of whether the funds are used by the trust in the future to provide health and welfare benefits. However, where the particular trust arrangement now qualifies as an employee benefit plan or an employee trust, the employer may be entitled to deduct the contributions made to that trust in computing income. See Interpretation Bulletin IT-502 for additional information.

Tax implications to employees

General tax treatment

1.31 Benefits received or enjoyed by an employee in respect of, in the course of, or by virtue of employment are generally included in income under paragraph 6(1)(a). However, there are a number of specific exceptions in paragraph 6(1)(a) which relate to the health and welfare of an employee. In some cases the tax treatment of these exceptions is well established (for example, supplementary unemployment benefit plans, employee benefit plans, and employee trusts). In other cases the tax treatment can be less clear, particularly when benefits form part of a comprehensive health and welfare program administered through a health and welfare trust.

Employer contributions

1.32 An employee does not receive or enjoy a benefit at the time the employer makes a contribution to the health and welfare trust. To determine if and when an employee receives or enjoys a benefit provided through a health and welfare trust, each individual plan administered by the trust must be looked at separately. Contributions made by the health and welfare trust to the individual plans are treated in the same manner as if the contributions were made by the employer. Subject to ¶1.37 - 1.39, the tax consequences to an employee arising from benefits provided under a health and welfare trust are described below.

Contributions to a group sickness or accident insurance plan

1.33 Contributions made by a health and welfare trust to a group sickness or accident insurance plan that provides lump sum payments or pays benefits that are not compensation for the loss of employment income are included in income under paragraph 6(1)(e.1) in the year the contributions are made. Benefits received by an employee from such a plan are not taxable.

1.34 By contrast, contributions made by a health and welfare trust to a group sickness or accident insurance plan that provides periodic payments as compensation for the loss of employment income (often referred to as a wage loss replacement plan) are specifically excluded from income by subparagraph 6(1)(a)(i). Benefits received by an employee from such a plan are included in income under paragraph 6(1)(f). See Interpretation Bulletin IT-428, Wage Loss Replacement Plans for additional information.

Contributions to a private health services plan

1.35 Contributions made by a health and welfare trust to a private health services plan are specifically excluded from employment income by subparagraph 6(1)(a)(i). The benefits received by an employee under a private health services plan are also not taxable. Private health services plan premiums, contributions, or other consideration paid for by the trust cannot be claimed by an employee under paragraph 118.2(2)(q) as eligible medical expenses.

Premiums paid for a group term life insurance policy

1.36 An employee whose life is insured under a group term life insurance policy is required to include an annual benefit in income under subsection 6(4). The amount of the benefit is calculated under Part XXVII of the Regulations.

Employee contributions

1.37 The comments in ¶1.31 - 1.36 are based on the assumption that health and welfare benefits are provided through a health and welfare trust that is funded only by employer contributions. This is not always the case, as employees may sometimes contribute to a health and welfare trust. Employee contributions to a plan or policy described in ¶1.2 may reduce the taxable benefit received by an employee in certain circumstances (see ¶1.38 and 1.39). If the trust does not clearly establish that the trustees must use the employee contributions to pay all or some part of the cost of a specific plan, then it will be assumed that each plan administered under the trust is being funded by both employer and employee contributions.  

1.38 Amounts included in income under paragraph 6(1)(f) may be reduced by the total amount of any contributions made by the employee to the particular plan before the end of the year, provided that these contributions have not already reduced the amount of benefits previously received by the employee. In some cases, employees may be legally obligated to pay the entire cost of a group sickness or accident insurance plan (insured or self-insured) that is administered by a health and welfare trust. For more information about the tax treatment of benefits received under an employee pay-all plan, go to Income maintenance plans and other insurance plans or see Interpretation Bulletin IT-428.

1.39 Employee contributions to a group term life insurance policy reduce the annual benefit that is included in income under subsection 6(4). Information concerning the calculation of this benefit is provided in Chapter 3 of Guide T4130, Employers’ Guide - Taxable Benefits and Allowances.

Tax implications to employee-shareholders

1.40 An individual who is both an employee and a shareholder of a corporation can receive benefits under a health and welfare trust. In order to determine the appropriate tax treatment of these benefits, it is necessary to establish whether the benefits have been conferred on the individual in the capacity of an employee or in the capacity of a shareholder.

1.41 Unless the particular facts establish otherwise, there is a general presumption that an employee-shareholder receives a benefit in the capacity of a shareholder when the individual can significantly influence business policy. A negative answer to one or more of the following questions may also suggest that benefits have been provided to an individual in the capacity of a shareholder:

  • When all participating employees are shareholders or persons related to a shareholder, is the benefit coverage comparable (in nature, amount, and cost-sharing ratio) to coverage given to non-shareholder employees of similar-sized businesses, who perform similar services and have similar responsibilities?
  • Is participation in the plan open to all employees, including those who are neither shareholders nor related to a shareholder? If not, is there a logical reason to exclude some employees?
  • Is the benefit coverage for shareholders or persons related to a shareholder, comparable (in nature, amount, and cost-sharing ratio) to coverage given to other participating non-shareholder employees of the business, who perform similar services and have similar responsibilities?

For additional information, see Interpretation Bulletin IT-432, Benefits Conferred on Shareholders.

1.42 Where an employee-shareholder receives health and welfare benefits in the capacity of an employee, the benefits are treated in the same way as those received by other employees. See ¶1.31 - 1.36.

1.43 Where an employee-shareholder receives health and welfare benefits in the capacity of a shareholder, the value of any benefits received is included in income under subsection 15(1). The related contribution is not deductible by the corporation pursuant to paragraph 18(1)(a).

Taxation of a health and welfare trust

1.44 A health and welfare trust is taxed as an inter vivos trust. Accordingly, it has a tax year that ends on December 31 and calculates its tax at the highest marginal rate for individuals. A health and welfare trust is also subject to alternative minimum tax, but is not subject to what is generally referred to as the 21-year deemed realization rule for trusts.

Gross trust income

1.45 The gross trust income of a health and welfare trust is the total of its income from all sources. This would include taxable capital gains in the year in excess of allowable capital losses in the year, and any investment income or incidental income earned by the trust. For example, penalties charged by a health and welfare trust for the late remittance of employer contributions would be considered incidental income. Employer and employee contributions (including any provincial sales tax collected by the trust), and insurance policy proceeds received by a health and welfare trust from the plans described in ¶1.2 are not included in computing its gross trust income.

Trust income subject to tax

1.46 To the extent of its gross trust income, a health and welfare trust may deduct the following losses, expenses, premiums, and benefits in the following order when computing trust income subject to tax:

  1. net capital losses, to the extent of taxable capital gains for the current year;
  2. expenses incurred for the purpose of earning the investment or other income of the trust;
  3. expenses related to the normal operation of the trust, including expenses incurred in the collection of and accounting for contributions to the trust, in reviewing and acquiring insurance and other benefit plans, and fees (for example, administrative services only fees) paid or payable to a management or insurance company to administer the trust, except to the extent that such expenses are expressly not allowed or otherwise restricted under the Act or the Regulations; and
  4. subject to ¶1.47 and 1.48, premiums and benefits paid or payable for the current year.

Benefits paid from insurance policy proceeds

1.47 Benefits that are paid or payable out of insurance policy proceeds received by the health and welfare trust are not deductible by the trust under ¶1.46(d).

Benefits paid out of employer contributions

1.48 At the discretion of the trustees, premiums and benefits paid or payable by the health and welfare trust that would not otherwise be taxable to the employee under section 6 may be treated as having been paid out of prior years’ funds or current year’s employer contributions, to the extent that they are available. Such premiums and benefits are not deductible by the trust under ¶1.46(d).

Provincial sales tax and premium tax

1.49 Depending on the jurisdiction, certain insurance premiums may be subject to provincial sales tax. The obligation to pay these taxes generally rests with the contributor (the employer or employees). Where employer or employee contributions to a health and welfare trust include a provincial sales tax component, the trust cannot deduct these taxes in computing its trust income subject to tax. Premium taxes paid by a health and welfare trust are also not deductible in computing trust income subject to tax.

Contingency reserves

1.50 Although actuarial studies of the trust may recommend the establishment of contingency reserves to meet its future obligations, transfers to such reserves are not deductible by a health and welfare trust in computing trust income subject to tax.

Alternative minimum tax

1.51 A health and welfare trust is subject to alternative minimum tax under Division E.1 and must determine its minimum tax under section 127.51 and its adjusted taxable income under section 127.52.

1.52 The adjusted taxable income of a health and welfare trust is the amount that would be its trust income subject to tax for the year if the assumptions described in subsection 127.52(1) were taken into account. Where a health and welfare trust has amounts described in ¶1.46(b), (c), and (d) that were otherwise deductible but not deducted in computing its trust income subject to tax because of the limitation discussed in ¶1.46, it may use those amounts to reduce its adjusted taxable income under Division E.1.

21-year deemed realization rule

1.53 Subsection 104(4) prevents the use of a trust to indefinitely defer the recognition of gains accruing on capital property for tax purposes. Subsection 104(4) generally treats capital property of a trust as having been disposed of and reacquired by the trust every 21 years at the property’s fair market value. A health and welfare trust is not subject to the 21-year deemed realization rule as it is not a trust for purposes of subsection 104(4), by reason of paragraph (a.1) of the definition of trust in subsection 108(1).

Trust filing obligations

1.54 For information about trust filing requirements and the completion of form T3RET Trust Income Tax and Information Return, refer to Guide T4013, T3 - Trust Guide.

1.55 For administrative simplicity, the taxable benefits provided by a health and welfare trust to employees should be reported by the trustee on a T4 slip or T4A slip, and not on the T3 Supplementary. The trust is required to withhold income tax from taxable benefits paid to employees. For information about which benefits may be subject to Canada Pension Plan contributions and employment insurance premiums, go to Canada Pension Plan and Employment Insurance Explained, or refer to Guide T4001, Employers’ Guide - Payroll Deductions and Remittances, and Guide T4130.

Application

This updated Chapter, which may be referenced as S2-F1-C1, is effective November 28, 2015.

When it was first published on July 27, 2015, it replaced and cancelled Interpretation Bulletin IT-85R2, Health and Welfare Trusts for Employees dated July 31, 1986.

Any technical updates from the cancelled interpretation bulletin can be viewed in the Chapter History page.

Except as otherwise noted, all statutory references herein are references to the provisions of the Income Tax Act, R.S.C., 1985, c.1 (5th Supp.), as amended and all references to a Regulation are to the Income Tax Regulations, C.R.C. 1978, c. 945, as amended.

Links to jurisprudence are provided through CanLII.

Income tax folios are available in electronic format only.

Reference

Sections 127.51 and 127.52; subsections 6(4), 15(1), 104(4), 108(1) trust, 144.1(2), and 248(1) employee benefit plan, employee trust, group term life insurance policy, private health services plan; paragraphs 6(1)(a), 6(1)(e.1), 6(1)(f), 18(1)(a), 18(1)(b), and 118.2(2)(q); subparagraph 6(1)(a)(i) of the Act and Part XXVII of the Regulations.

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