When payments are withdrawn from an RDSP, they are considered to contain private contributions, government contributions and investment income in the same proportions as within the RDSP. Two of these, the government contributions and investment income, are taxable upon withdrawal.
On August 4, 2010, PLAN submitted a ruling to the Canadian Revenue Agency. Our question was: For Aboriginal Canadians, what is the tax treatment of investment income in an RDSP? The response arrived on March 11, 2011.
The CRA began by stating how the Income Tax Act provides that an amount that is declared to be exempt from income tax by another act of Parliament is not included in computing the income of a taxpayer. Meanwhile, the Indian Act exempts from taxation the personal property of an Aboriginal person situated on reserve. The courts have also determined that “personal property” includes income. Therefore, it is possible that income from an RDSP is not taxable to an Aboriginal beneficiary.
However, the Supreme Court of Canada has concluded that the determination of whether income is situated on reserve, and thus exempt from tax, requires identifying the various factors connecting the income to a reserve and weighing the significance of each factor.
First off, the fact that an Aboriginal payee lives on reserve is not sufficient in and of itself to situate income on a reserve. (This, however, may be fine and well for the Qalipu Mi’kmaq who cannot live on reserve anyway. Well, at least on the Island of Newfoundland.)
What about where the RDSP and its investments are situated?
According to the jurisprudence, “regard must be had to the location of the income-generating activities of the issuer of the investment instrument, rather than to the location where the investment instrument was purchased”. Thus, the fact that a RDSP is set up and managed through a financial institution located on reserve is also not sufficient, in and of itself, to situate the investment income of the RDSP on a reserve.
Only if the income-generating activities of the issuer with respect to that particular investment take place exclusively on a reserve, the investment income will be considered to be situated on a reserve, and be therefore exempt from tax.
The CRA states that they would expect that, in most cases, investment income from an RDSP would be taxable to an Aboriginal beneficiary, but that decisions such as these are made on a case-by-case basis. In fact, PLAN is aware of several examples of the Supreme Court of Canada siding favourably with First Nation individuals and agreeing that the tax exemption under the Indian Act would apply to their interest income, even as these individuals live and spend the majority of said investment income off reserve.
The fundamental point once again is: where the investment income was being generated. In these examples, it was the contractual nature of the investment (i.e. a term deposit) that the individuals held with their credit union on reserve that satisfied the location requirements.
So, if a member of the new Qalipu Mi’kmaq band—even without their own land reserve—were to open an RDSP and invest in term deposits at a financial institution held on reserve anywhere else in Canada, the investment income should be earned tax-free.
This is of particularly significant for Aboriginal people with disabilities. Because of the long-term nature of the RDSP, even modest investment income rates will generate sizeable returns over the years. Eventually, the investment income is likely to comprise the larger proportion of an RDSP and therefore make up the larger proportion of any withdrawals. With knowledgeable planning ahead, considerable taxes can be saved.
For more information on how to invest and save as an Aboriginal, please contact Joel Crocker, a member of the Qalipu Mi’kmaq band, at email@example.com.