Background
Brothers Glenn and Greg Honey each purchased a “10/8” universal life insurance policy in 2006. The arrangements combined an investment account earning a guaranteed 8% annual return on a tax-deferred basis with a credit facility charging 10% interest. Each brother deposited funds drawn from Honey Bee Manufacturing Ltd. into his investment account, then promptly borrowed a nearly equal amount under the credit facility and lent the proceeds back to the company.
For their 2009 through 2013 taxation years, the brothers deducted the interest paid at the contractual 10% rate. The Minister of National Revenue reassessed them under subparagraph 20(1)(c)(i) of the Income Tax Act, concluding that only interest calculated at 4.18% was a “reasonable amount.” The brothers appealed, arguing that comparable 10/8 products offered by other insurers established a market supporting the 10% rate.
The Court’s Holding
The Tax Court dismissed both appeals and upheld the reassessments. It held that the taxpayers had not shown, on a balance of probabilities, that the Minister’s 4.18% rate was wrong or that 10%, or any rate above 4.18%, represented a reasonable amount of deductible interest under subparagraph 20(1)(c)(i).
The Court found that the 10% rate was fixed as part of the overall 10/8 package rather than generated by ordinary market forces. Because each investment account had to cover the corresponding loan balance, the lender bore no material funding, liquidity, term, or repayment risk. The arrangement’s circular movement of funds also meant that the factually related transactions were not conducted at arm’s length, even though the taxpayers and the financial institutions were unrelated persons.
The Court accepted conventional market rates as the appropriate comparators. The Minister’s 4.18% rate fell within the range of contemporaneous 10-year government and AA corporate bond yields and within the range identified by the Crown’s expert. The taxpayers’ expert evidence did not displace the Minister’s factual assumptions, and the Court noted concerns about the independence and objectivity of their experts because appellants’ counsel had drafted portions of their reports.
Key Takeaways
- A contractual interest rate is deductible under subparagraph 20(1)(c)(i) only to the extent it is a reasonable amount.
- Rates embedded in a tax-oriented insurance-and-loan package do not necessarily establish a reliable market benchmark, even when unrelated financial institutions offer similar products.
- In challenging a reassessment, taxpayers must rebut the Minister’s pleaded factual assumptions with persuasive evidence; merely requiring the Crown to justify its selected rate is insufficient.
Why It Matters
The decision confirms that courts may look beyond the stated loan rate and assess the economics of an integrated arrangement, including the lender’s actual risks and funding costs. A rate charged under a specialized financial product may be compared with conventional lending-market benchmarks when the product’s internal pricing does not reflect genuine market forces.
For taxpayers and advisers evaluating leveraged insurance strategies, the case underscores the need for independent evidence connecting the claimed interest rate to genuinely comparable arm’s-length loans with similar terms and risks.