The Canadian Financial Sector: U.S. Life

UNCLAS SECTION 01 OF 03 TORONTO 002697

SIPDIS

STATE FOR EB A/S TONY WAYNE
STATE FOR WHA/CAN, EB/IFD, INR
STATE FOR WHA DAS WHITAKER
USDOC FOR 3000/ITA U/S RHONDA KEENUM
USDOC FOR 432/ITA/IAA/BASTIAN/RUDMAN/FOX
TREASURY FOR U/S (INTERNATIONAL AFFAIRS) TIMOTHY ADAMS
TREASURY FOR U/S (DOMESTIC FINANCE) RANDY QUARLES
TREASURY FOR PATRICIA BROWN
DEPT ALSO PASS USTR FOR J. MELLE AND S. CHANDLER
DEPT PASS SEC - MARISA LAGO
DEPT PASS FEDERAL RESERVE BOARD
DEPT PASS TO IRS - COMMISSIONER MARK EVERSON
WHITE HOUSE/NSC - KIM BRIER AND SUE CRONIN

SENSITIVE

E.O. 12958: N/A
TAGS: EINV EFIN PREL KPAO CA US
SUBJECT: The Canadian Financial Sector: U.S. Life
Insurers in Canada Complain of IRS Ruling 2004-75

Ref: (A) Toronto 2609 (B) Toronto 2638

Sensitive but Unclassified - Protect Accordingly.


1. (U) This cable contains an action request; see
paragraph 9.


2. (U) This message is one in a series reviewing the
Canadian financial services sector from a cross-border,
North American integration perspective. In September
2005 the Toronto Financial Services Alliance sponsored
roundtables for ConGen Toronto with industry sector
experts in venture capital (ref (B)),banking (septel),
securities (septel),and insurance.


3. (SBU) SUMMARY: During a September 27 financial
services roundtable on the insurance sector held for
ConGen Toronto, the Canadian Life and Health Insurance
trade association (CLHIA) complained that IRS Ruling
2004-75 is "a real headache" for U.S. companies doing
business in Canada because it imposes extra-territorial
taxation on Canadians who receive benefit payments from
U.S. insurance carriers. This effectively subjects
them to double-taxation in both Canada and the U.S.
The net effect is to reduce significantly the
competitiveness of U.S. life insurers in the Canadian
market place. Several written requests from both
Canadian and U.S. trade associations to Canadian and
U.S. authorities have so far not/not produced any
results. END SUMMARY.

Background: Canada's Life Insurance Sector
--------------


4. (SBU) Established in 1894, the Canadian Life and
Health Insurance Association (CLHIA) prides itself on
being Canada's oldest trade association. Canada's life
insurance industry is highly globalized, with more than
half of the industry's annual premiums being generated
outside Canada - C$65 billion - compared to C$58
billion within in Canada. The industry's biggest
growth areas are wealth management and health
insurance, with life insurance in relative decline and
disability insurance growing only modestly.


5. (SBU) An industry trend among Canada's best known
life insurance firms to demutualize (i.e., change their
ownership structure from "member owned" to "shareholder
owned") was completed in the late 1990s: Clarica,
Manulife, Canada Life, and Industrial Alliance in 1999,
and SunLife in 2000. Demutualization was followed by
some limited merger activity that reduced the number of
life insurers in Canada from 163 in 1990 to 105 in

2004. The most prominent mergers were SunLife's
acquisition of Clarica (2002) and Great-West Life's
acquisition of Canada Life (2004) - permitted by the
federal government as compatible with its financial
services sector dictum that "big shall not buy big."
Frustrated with the federal government's no merger
policy among big financial services providers, Manulife
Financial, Canada's biggest insurer, bought Boston-
based John Hancock Financial services in the spring of
2004 for US$15 billion in the biggest Canadian cross-
border financial services deal in history.


6. (U) The CLHIA counts 28 U.S. life insurance
branches and 11 U.S.-owned subsidiaries among its
approximately 100 members. U.S. life insurance
companies in Canada hold some 1 million policies with
Canadians and pay annual benefits in excess of C$2.75
billion to those Canadian policy-holders. U.S. members
of CLHIA whose Canadian clients are double taxed as a
result of IRS Ruling 2004-75 include State Farm, Met
Life, American Income, Fortis Benefits, Combined of
America, Knights of Columbus, and Prudential of
America.
CLHIA Questions IRS Ruling 2004-75
--------------


7. (SBU) By far the biggest cross-border issue for the
CLHIA is IRS Ruling 2004-75. The CLHIA representatives
present at the September 27 roundtable held for ConGen
Toronto asked for assistance in eliminating what it
calls "inappropriate extra-territorial taxation of
Canadians by the United States." According to the
CLHIA, IRS ruling 2004-75 -- harms U.S. companies
conducting business in Canada. As a senior CLHIA Vice-
President explained, the U.S. Internal Revenue Service
announced in June 2004 the extra-territorial
application of withholding taxes to benefit payments
from life insurance policies (and annuity contracts)
issued to non-U.S. residents by foreign branches of
U.S.-based life insurance companies. The effect of IRS
Ruling 2004-75 is to subject Canadian residents,
contracting in Canada with Canadian branches of U.S.
companies, to U.S. taxes, even where those individuals
have no U.S. property or other connection with the
United States. While apparently intended to address
specific problems in Puerto Rico, IRS Ruling 2004-75
was worded so that it applied on a worldwide basis. A
subsequent amendment, Ruling 2004-97, has similar
application.


8. (SBU) According to CLHIA, IRS Ruing 2004-75 creates
a problem of double taxation of Canadian residents who
receive benefits under policies with U.S. life insurers
operating in Canada. In addition to paying U.S.
withholding taxes, these Canadian residents already pay
taxes on their benefits under Canadian law. CLHIA told
us that all one million policies held by U.S. insurers
with Canadian residents are affected. The dollar value
of benefit payments subject to double taxation runs
above C$2.75 billion annually. Not surprisingly, the
CLHIA and its U.S. counterpart, the American Council of
Life Insurers, have contacted Canadian and U.S.
authorities in order to limit the scope of these IRS
Rulings, or exempt Canadian policyholders via an
amendment to the Canada-U.S. Tax Convention. Written
submission made in regard to IRS Ruling 2004-75
include:

--ACLI letter to IRS, July 21, 2004

--CLHIA letter to Len Farber (Canadian Dept. of
Finance) et al., October 15, 2004

--CLHIA letter to Patricia Brown (U.S. Treasury),July
26, 2005

--CLHIA letter to Brian Ernewein (Canadian Dept. of
Finance),August 8, 2005

(NOTE: Copies of these letters have been e-mailed to
Embassy Ottawa and WHA/CAN desk officers. END NOTE).

Action request
--------------


9. (SBU) ConGen Toronto requests Department follow up
with Treasury and the IRS to determine when U.S.
insurance companies operating in Canada can regain the
even playing field that they claim they have been
deprived of by the extra-territorial provisions of IRS
Ruling 2004-75.

List of Attendees
--------------


10. (U) The roundtable included the trade associations
of Canada's life insurance sector (CLHIA),the
Insurance Bureau of Canada (IBC),as well as prominent
private sector stakeholders: Jim Witol, Vice-President
Taxation and Research, CLHIA; Jane Voll, Vice-President
Policy Development, IBC; Richard Dubin, Vice President
Investigative Services, IBC; Deirdre Martin, Senior
Counsel, IBC; Neil Skelding, President & CEO, RBC
Insurance; Michael Landry, Vice President Corporate
Development, Manulife Financial; Moira Gill, Director
Insurance regulatory Affairs, TD Financial Group; Bill
Pineau, Member relations, LOMA (an international
insurance industry association offering market research
and education programs targeted to insurance and
financial services companies). Represented from the
Toronto Financial Services Alliance were its President,
Janet Ecker (former Finance Minister of Ontario) and
Susan Viegas, City of Toronto, Economic Development
Bureau. Represented on the U.S. side were Consul
General Jessica LeCroy, Pol/Econ Consul Sherri
Holliday, Pol/Econ Officer Tom Boughter, Pol/Econ
Assistant Colin White, and Embassy Ottawa ECON Minister
Counselor, Brian Mohler.

LECROY