9 October 2015 APFF Roundtable
This page contains summaries of all 25 questions posed at the October 9, 2015 APFF Roundtable together with English translations of the full text of the CRA preliminary written answers provided shortly before October 20, 2015. We use our own titles.
Summary of Question
On January 1, 2013, an individual borrows $1,000,000 to acquire a rental property with a fair market value (“FMV”) of $1,250,000, and incurs $10,000 as a guarantee fee, which is deductible in accordance with s. 20(1)(e). On January 1, 2015 (when the FMV now is $1,400,000, the loan balance is $900,000, the cost amount still is $1,250,000 and the unamortized guarantee fees are $6,000), the individual transfers the property to Realtyco for an agreed amount under s. 85(1) of $1,250,000. Are the unamortized guarantee fees deductible in 2015 in the following situations?
- On the transfer, the individual receives $150,000 in Realtyco preferred shares and $1,250,000 paid out of liquid assets on hand accumulated out of past earnings.
- On the transfer, the individual receives $150,000 in Realtyco preferred shares and $1,250,000 borrowed by Realtyco from a financial institution without a personal guarantee.
- On the transfer, the individual receives $150,000 in Realtyco preferred shares a demand promissory note for $350,000, and Realtyco assumes a secured hypothec for $900,000 without the financial institution lender requiring a personal guarantee.
- The same as (b) or (c) except that a personal guarantee of the individual is required.
When certain conditions are satisfied, subparagraph 20(1)(e)(ii) permits the deduction, over a period of five years, of expenses incurred in the course of a borrowing of money used for the purpose of earning income from a business or property. However, by virtue of subparagraph 20(1)(e)(ii), in the case of all debt obligations in respect of the borrowing of money which are settled or extinguished (otherwise than in a transaction made as part of a series of borrowings or other transactions and repayments) in the course of a taxation year by the taxpayer for consideration that does not include shares or debt obligations of the taxpayer or any person with whom the taxpayer does not deal at arm’s length, the portion of the expenses which was not deductible in the prior years under subparagraph 20(1)(e)(ii) can be deducted in such taxation year.
- Your first example appears to be a situation where the conditions of subparagraph 20(1)(e)(v) would be respected as it is our understanding that the loan is entirely repaid by the individual with the proceeds of disposition of the rental property which are derived from the liquid assets of the corporation. However, the other facts surrounding the transaction must demonstrate that the repayment is not part of a series of loans or other transactions and repayments.
- In your second example, although the debt of the individual is extinguished, in our view the extinguishing of this obligation forms part of a series of loans and other transactions or repayments as a related corporation borrows a comparable amount as part of the series of transactions.
- In your third example, although it appears that the debt of the individual is extinguished (as we are assuming that that the lender releases the individual thereunder), in our view the extinguishing of this obligation forms part of a series of loans and other transactions or repayments, as a related corporation assumes the debt of the individual as part of the series of transactions.
- The fact that the shareholder acts as surety for the corporation’s debt would not change our responses to the second and third examples.
Summary of Question
IT-349R3 (archived) states:
- Subsection 70(9) and the definitions in subsection 70(10) of "shares of the capital stock of a family farm corporation" and "interest in a family farm partnership" require that a person be "actively engaged on a regular and continuous basis" in the business of farming. Whether a person is "actively engaged on a regular and continuous basis" is a question of fact; however, it is considered that the requirement is met when the person is "actively engaged" in the management and/or day to day activities of the farming business. Ordinarily the person would be expected to contribute time, labour and attention to the business to a sufficient extent that such contributions would be determinant in the successful operation of the business. Whether an activity is engaged on a "regular and continuous basis" is also a question of fact but an activity that is infrequent or activities that are frequent but undertaken at irregular intervals would not meet the requirement.
IT-268R4 (archived) states:
- Subsection 73(3) and the definitions in subsection 70(10) of "shares of the capital stock of a family farm corporation" and "interest in a family farm partnership" require that a person be "actively engaged on a regular and continuous basis" in the business of farming. Whether a person is "actively engaged on a regular and continuous basis" is a question of fact. However, the requirement is considered to have been met when the person is "actively engaged" in the management and/or day to day activities of the farming business. Ordinarily the person would be expected to contribute time, labour and attention to the business to a sufficient extent that such contributions would be determinant in the successful operation of the business. Whether an activity is engaged on a "regular and continuous basis" is also a question of fact but an activity that is infrequent or activities that are frequent but undertaken at irregular intervals would not meet the requirement. If farming is not the chief source of income, that is, subsection 31(1) applies, it may be more difficult to demonstrate that the taxpayer, the taxpayer's spouse or the taxpayer's child was actively engaged on a regular and continuous basis in the business of farming.
- Can “actively engaged on a regular basis” in s. 120.4(1) – split income – (c)(ii)(D) be interpreted in the same way as "actively engaged on a regular and continuous basis" as defined in IT-349R3 and IT-268R4 (but with necessary adaptations to reflect the farming business context of the latter)?
- Do the split income rules apply where the management of a rental property held by a trust is provided by an external property manager (unrelated to the minor) who exclusively manages the property in consideration for a percentage of the gross rents?
a. “actively engaged on a regular basis”
The expression “actively engaged on a regular basis” is not defined in the Income Tax Act. Consequently, we must interpret these words in their ordinary sense in the light of the facts, and relevant circumstances of each case. This is essentially a question of fact.
However, the expression “actively engaged” accompanied by the words "on a regular and continuous basis" are used in a few instances in the Income Tax Act.
For example, as highlighted in the question, the expression "actively engaged on a regular and continuous basis" is used, among other instances, in the context of a farming or fishing business in subsections 70(9), 70(9.3), 70(10), 73(3), 110.6(1.2) and 110.6(1.3). Furthermore, the definition of “specified member” in subsection 248(1) refers to any member, other than a member who is…actively engaged in …activities of the partnership business…on a regular, continuous and substantial basis.” The Canadian courts as well as the CRA have already pronounced on the interpretation of the words “actively engaged” in these two contexts.
In interpreting the expression “actively engaged on a regular basis” contained in subsection 120.4(1), it would be reasonable to refer to (as potentially informative) the interpretation which the courts and the CRA have accorded to a similar expression in adapting these statements to subsection 120.4(1), as well as the context and object of the provision.
b. outside property manager
In determining whether income comes within the new clause (c)(ii)(D) of the definition of “split income” provided in subsection 120.4(1), it is necessary to determine if a person who is related to the minor is actively engaged on a regular basis in the activities of the trust which is to derive income from the property rental.
Your question does not specify what is the role of the person related to the minor in the activities of the trust. If the related person does not take any part in the activities of the trust which consists of deriving income from the rental of property, it appears to us that the condition provided by that clause has not been satisfied.
However, we believe that simply according the management of the rental property to an unrelated third party does not automatically exclude in all cases the possibility that a person related to the minor could also be actively engaged on a regular basis in the activities of the trust which are the rental of property. This is a question of fact.
Summary of Question
Janota treated only soft costs as being capitalized under s. 18(3.1), whereas CRA auditors have tended to capitalize all expenses incurred during the construction or renovation period. Does CRA apply the Janota position?
By virtue of subsection 18(3.1) and subject to a few exceptions, no deduction shall be made in respect of an outlay or expense made or incurred by a taxpayer that can reasonably be regarded as a cost attributable to the period of the construction, renovation or alteration (such three activities, “Construction”) of a building and that relates to such Construction. To the extent that it is otherwise deducible in the computation of the income of the taxpayer, the amount of such expense is instead included, by virtue of paragraph 18(3.1)(b), in computing the capital cost of the building. The Explanatory Notes of the Department of Finance for subsection 18(3.1) indicate that the object of the provision is to capitalize certain soft costs related to the Construction, such as legal, accounting and financing costs, and realty taxes.
The Janota case, which you cited above, concerned general expenses of repairing and maintaining a building. In that case, the Tax Court of Canada determined that such expenses did not come within subsection 18(3.1) because they were not soft costs. According to the Court, soft costs include bank interest, realty taxes, costs of public services (such as electricity), professional fees and insurance premiums but do not include repair and maintenance costs. Note however that this judgment is an informal decision and not a jurisprudential precedent.
Two principal conditions must be satisfied for subsection 18(3.1) to apply: first, the expenses must be attributable to the period of Construction of a building; and, secondly, the expenses must be related to such Construction. Thus, the general expenses of repair and maintenance which are incurred during the period of Construction of a building but which are otherwise not related to such Construction do not come within subsection 18(3.1). However, the question of whether a particular expense is related to the Construction of a building is, in our view, one principally of fact.
Furthermore, as previously noted, subsection 18(3.1) does not apply to costs which were not otherwise deductible. For example, the costs of construction of a building which are not deductible by virtue of paragraph 18(1)(b), because they have a capital nature, remain non-deductible even if they are not costs within subsection 18(3.1).
Summary of Question
When property of a corporation is made available to a shareholder for personal use, a benefit under s. 15(1) generally will be considered to have been conferred. The value of the benefit usually is based on the fair market value of the property. However, where this method is not appropriate (for example, for the acquisition of a luxurious residence or a yacht, the CRA position is that the value of the benefit corresponds to the amount obtained by multiplying a normal yield by the higher of the cost of the property and its FMV. Can a taxpayer use the prescribed rate specified in Reg. 4301(a)(ii) as a normal yield? If the prescribed rate cannot be used, how is the yield to be determined?
When the CRA calculates a benefit conferred on a shareholder by multiplying the normal yield rate by the higher of the cost of the property and its FMV, the goal is to measure the benefit to the shareholder taking into account a reasonable return on the value or the cost of the property.
To this end, the prescribed rate defined in subparagraph 4301(a)(i) (“Prescribed Rate”) does not necessarily represent the normal yield rate on the value or cost of the property. Consequently, in situations where the Prescribed Rate is not representative of the normal yield rate, the Prescribed Rate will not be the rate which is used in calculating the value of the benefit to the shareholder.
The Income Tax Act does not provide any method for determining the normal yield rate in calculating a shareholder benefit. Furthermore, the CRA has not established criteria respecting this determination. The CRA will examine all the relevant facts in establishing the normal yield rate in a particular situation. The normal yield rate in a particular situation will be determined by the CRA Valuation team for personal property or the CRA Valuation team for real property.
Summary of Question
Is the additional contribution for subsidized child care expenses in Quebec deductible as a child care expense in computing an individual’s income and, if so, in which year is it deductible?
The CRA will respond to this question after the 2015 Congress by way of a technical interpretation.
Summary of Question
Former Opco, which sold its assets, paid a dividend of $1,000,000 out of its capital dividend account to its sole shareholder (Holdco – an investment company). The dividend was added under para. (b) of the CDA definition under s. 89(1) in computing Holdco’s CDA.
Holdco then paid a $1,000,000 dividend out of its CDA to its sole shareholder, the taxpayer. Holdco was not in the situation of paying an excess dividend .out of its CDA, as the dividend received from Former Opco was accounted for under para. (b) of the CDA definition, whereas capital loss previously realized by it on its portfolio of public company shares were accounted for under para. (a) thereof (i.e., the non-deductible portion of such capital losses was $1,000,000, and the balance of para. (a) was nil as only the excess of the non-taxable portion of capital gains over the non-deductible portion of capital losses was required to be considered.)
The two corporations then amalgamated to form Amalco.
Following such amalgamation, was the dividend paid between the two corporations eliminated from para. (b) of the CDA definition with the gain initially generated from the sale of Former Opco’s tangible assets being accounted for in para. (a) of the CDA calculation for Amalco? If yes, does this mean that Amalco has a negative CDA balance of $1,000,000? Would the answer be the same if Former Opco instead were wound-up into Holdco?
When two taxable Canadian corporations amalgamate, paragraph 87(2)(z.1) provides the rules for establishing the CDA of the corporation resulting from the amalgamation.
In particular, paragraph 87(2)(z.1) stipulates inter alia that, in computing its CDA, the amalgamated corporation is deemed to be the same corporation as each predecessor corporation and to be its continuation. Thus, it follows from this paragraph that, in computing its CDA, the amalgamated corporation must take into account the various amounts which comprised the CDA of the predecessors. We assume that subsection 87(2.1) did not apply in this case.
Consequently, respecting your first question, the dividend paid between the two corporations would effectively be eliminated from paragraph (b) of the definition of CDA respecting Amalco and the gain initially arising from the sale of the assets of Former Opco would be included in paragraph (a) of the definition of CDA respecting Amalco. The balance of paragraph (a) of the definition of CDA respecting Amalco would be nil given that the non-taxable part of the capital gain realized by Former Opco of $1,000,000 would be reduced by the non-deductible part of the capital losses realized by Holdco ($1,000,000). The CDA of Amalco thus would have a “negative balance” of $1,000,000, taking into account the payment by Holdco of a dividend of $1,000,000 out of its CDA.
As to your second question respecting the winding-up of Former Opco into Holdco (to which the provisions of subsection 88(1) would apply), the calculation of the CDA of Holdco following the winding-up would be the same, taking into account paragraphs 87(2)(e.2) and 87(2)(z.1).
In finishing, it is to be noted that, if to begin with, Former Opco and Holdco amalgamated to form Amalco, the balance of paragraph (a) of the definition of CDA respecting Amalco would be nil given that the non-taxable portion of the capital gain of $1,000,000 realized by Former Opco would be reduced by the non-deductible portion of the capital losses sustained by Holdco ($1,000,000). The CDA of Amalco thus would be nil at that moment. In such circumstances, it thus would be impossible for to pay a capital dividend to the shareholder of Amalco. Since the wording of this question describes only briefly a given hypothetical situation and in the absence of an analysis of all the facts and circumstances respecting a particular given situation, it is impossible for us to comment more precisely on the application of subsection 245(2) in this context.
Summary of Question
When X died in 2015, his 100 common shares of a corporation had an adjusted base and paid-up capital of $100,000 (reflecting their 2010 subscription price) and a fair market value of $200,000. In his terminal return, a capital gains deduction of $100,000 was properly deducted.
His son inherited those shares. The corporation in question distributed $99,000 as a PUC distribution, so that the shares’ ACB was reduced to $101,000. The son now wishes to transfer the shares to his holding company.For purposes of s. 84.1, what is the ACB of the common shares at the moment of their transfer to the holding company? In particular, does s. 84.1(2)(a.1)(ii) apply to reduce their ACB by $99,000?
To begin with, we take it as given for these purposes that the 100 common shares in the capital of the corporation constitute capital property of X on his death. We also assume that the conditions for the application of section 84.1 apply to the transfer by the son of the 100 common shares in the capital of the corporation to his holding company.
In order to determine if subparagraph 84.1(2)(a.1)(ii) applies for purposes of section 84.1 so as to reduce the ACB (otherwise determined) to the son of the 100 common shares of the corporation, it is necessary to establish, first, if the shares were acquired by the son after 1971 from a person with whom he did not deal at arm’s length and, second, if a deduction under section 110.6 was claimed respecting a previous disposition of the shares by the son or by an individual with whom the son did not deal at arm’s length.
Taking as given that, for purposes of the Income Tax Act, the 100 common shares in the capital of the corporation were transferred by X to an estate, followed by their transfer by the estate to the son, we are of the view that the first condition, mentioned above, for the application of subparagraph 84.1(2)(a.1)(ii) would be satisfied. According to paragraph 84.1(2)(d), for the purposes of section 84.1, a trust and a beneficiary of the trust or a person related to a beneficiary of the trust shall be deemed not to deal with each other at arm’s length. In this case, since the son is a beneficiary of the estate of X, he would thus be deemed to not deal at arm’s length with the estate respecting this disposition. It should be noted that the son also would be deemed to not deal at arm’s length with the estate of X by virtue of paragraph 251(1)(b). Thus, the 100 common shares in the capital of the corporation were acquired by the son after 1971 from a person, being the estate of X, with whom he did not deal at arm’s length.
For purposes of determining if the second condition, mentioned above, for the application of subparagraph 84.1(2)(a.1)(ii) was satisfied, we are of the view that, in accordance with the wording of this legislative provision, the relation between the parties is to be evaluated at the moment giving rise to the application of section 110.6. By virtue of paragraph 70(5)(a), X was deemed to have disposed of the shares of the corporation immediately before his death. The capital gain of $100,000 was thereby realized, and the equivalent deduction by virtue of section 110.6 was claimed, at the moment when X and his son were deemed to not deal with each other at arm’s length by virtue of paragraphs 251(1)(a), 251(2)(a) and 251(6)(a). Thus, the second condition for the application of subparagraph 84.1(2)(a.1)(ii) was satisfied in this case.
Consequently, we are of the view that the provisions of subparagraph 84.1(2)(a.1)(ii) applied in the given situation to reduce the ACB of the 100 common shares of the corporation held by the son by an amount equal to the deduction under section 110.6 claimed by X, namely, $100,000.
The fact the corporation had already effected a reduction of its PUC in an amount of $99,000 through a payment of the sum of $99,000 in money would not affect the determination as to whether subparagraph 84.1(2)(a.1)(ii) applied in this case. The $99,000 amount reduced, by virtue of subparagraph 53(2)(a)(ii), the ACB otherwise determined of the shares ($200,000 - $99,0000 = $101,000). This ACB of $101,000 was, in turn, reduced by the amount provided under subparagraph 84.1(2)(a.1)(ii), namely, $100,000. Consequently, for purposes of the application of section 84.1, the ACB to the son at the moment of the transfer to his holding company of the 100 common shares in the capital of the corporation would be $1,000.
Summary of Question
In MSH, the Tax Court considered that a dividend refund (“DR”) which is not claimed on a timely basis does not reduce the refundable dividend tax on hand of the taxpayer (a subsidiary). This finding is contrary to 2012-0436181E5, which indicates that the denied DR must reduce the RDTOH of the subsidiary. Furthermore, the parent receiving a dividend from the subsidiary will be subject to Part IV tax (based on the DR calculated for the subsidiary) under this interpretation, even though the DR was not received by Corporation A If the DR is not received by a subsidiary by reason of a late claim, is the parent required to pay Part IV tax based on the amount that the subsidiary should have received? If yes, how is the Part IV tax of the parent calculated in a subsequent year if, this time, the subsidiary pays a dividend which this time permits it to receive a DR equivalent to that which it did not receive in the preceding period?
To begin with, we are confirming that the CRA will comply with the recent decisions of the Tax Court of Canada [F.n. Namely, Presidential MSH Corporation and Nanica Holding Limited v. The Queen, 2015 CCI 85 [2015 TCC 61 and 2015 TCC 85]] respecting the calculation of the RDTOH of a corporation.
However, the CRA will monitor the impact of recent decisions in their particular context as well as in the context of other provisions of the Income Tax Act (Canada) which refer to the DR concept.
Taking into account these recent decisions, the position raised above will not be applied by the CRA, and the imposition of Part IV tax in conformity with paragraph 186(1)(b) on a corporation receiving a taxable dividend from a connected corporation will be determined on the basis of the DR received by the corporation which paid the taxable dividend.
Summary of Question
A manufacturing corporation enters into an agreement, in order to enhance customer retention, with its independent distributors under which it agrees to disburse $1,000,000 to them over two years if the distributors agree to follow a program of excellence over a period of eight years (with a two-year phase in), including, participating in marketing and client retention initiatives, aligning their image to that of the manufacturer, and adopting the digital strategy of the manufacturer and a social media communications strategy. The agreement provides for the payment of damages by a distributor to the manufacturer if these conditions are not satisfied after the second year based on a sliding scale (e.g., two times the amount received, for breach in the 3rd or 4th year, and one times, during the 7th or 8th year). Under Canadian accounting principles, a distributor must include the amounts received over two years as revenue over a period of eight years.
A distributor corporation will recognize the amounts over a period of eight years under s. 9 on the basis of that this presents a true picture of its income in accordance with Canderel.
- Does CRA agree with the distributor’s position that it will recognize the amounts received over eight years?
- If CRA does not so agree, is there an inclusion under s. 12(1)(a) and a correlative deduction under 20(1)(m)?
CRA Response to Q.9(a)
The Supreme Court of Canada considered the concept of profit in Canderel Ltd. v. The Queen, [f.n.  1 S.C.R. 147], and enunciated six relevant principles for calculating profit for purposes of the Income Tax Act. One of these principles is to the effect that a taxpayer is free to adopt any method which is not inconsistent with the provisions of the Income Tax Act, established case law principles or “rules of law,” and well-accepted business principles.
However, the Supreme Court of Canada also added that well-accepted business principles, which include but are not limited to the formal codification found in generally-accepted accounting principles (“GAAP”), are not rules of law but interpretive aids. It concluded that the way in which a transaction is recorded in accordance with well-accepted business principles, such as GAAP, is not determinative as to its treatment under tax law.
Respecting the timing of income inclusions, Ikea Ltd. v. The Queen [f.n.  1 S.C.R. 198] is apposite. This judgment also confirms that the matching principle is not a controlling rule of law. In fact, this case confirmed the importance of the realization principle under which amounts received or realized by a taxpayer – free of conditions or restrictions as to their use – are taxable in the years in which they are realized subject to any contrary provision in the Income Tax Act or other rules of law.
In the situation described above, only an examination of all the facts of a particular case and a review of the contracts which created the obligations binding on the parties would permit us to provide a definitive response respecting the tax consequences arising under an application of the realization principle. Consequently, if it is determined that the $1,000,000 that the manufacturing corporation is obligated to disburse over two years (the “sum”) was, for the distributor corporation, free of conditions or restrictions respecting its use from the commencement of the contract, the sum could be included in the income of the distributor corporation in such taxation year [of commencement] under the terms of subsection 9(1).
Furthermore, an examination of the relevant documentation and the applicable private law would be necessary in order to determine if the damages clause, applicable where the distributor corporation does not comply with the program of excellence for a period of eight years, constitutes by itself a condition restricting the use of the sum by the distributor corporation.
CRA Response to Q.9(b)
Paragraph 12(1)(a) in general provides for the inclusion in income of any payment received in the ordinary course [“cours normal”] of a business on account of services not rendered before the end of the year or that, for any other reason, may reasonably be regarded as not having been earned in the year or a previous year.
In the case under review, the sum, once received, could be subject to paragraph 12(1)(a) if the acts and obligations which the distributor corporation had to accomplish after the end of the taxation year were sufficiently significant to reach a conclusion that the sum was not earned in that year or a previous year. Again, it is only after an examination of all the facts and circumstances respecting a given situation that it will be possible to make such a determination.
Finally, an amount included in the computation of income by virtue of the realization principle could also come within paragraph 12(1)(a). In such a case and subject to subsection 20(7), the distributor corporation could have the right to deduct a reasonable amount as a reserve if the situation was described in one of subparagraphs 20(1)(m)(i) to (iv).
Summary of Question
What is the CRA position respecting a corporation which has included management fees or intercompany revenues when a related corporation is denied a deduction for the same amounts? Where this occurs, is it possible to avoid double taxation?
When the deduction of intercompany management fees is denied following an audit of the returns of a given corporation, the CRA generally will accept an adjustment to the revenues of the recipient corporation so as to reduce such revenue if the recipient corporation reimburses the denied amount to the given corporation and its taxation year is not statute-barred. However, in order to effect such an adjustment, the recipient corporation must send a written request to the CRA and demonstrate that it has reimbursed, or committed to reimburse, a sum equivalent to that whose deductibility was denied. Furthermore, it is possible that supplementary adjustments will be necessary given the reduced income of the recipient corporation.
Nonetheless, the CRA may not apply such general position in certain situations. For example, this would be the case if there is abuse or a deliberate overstatement of the fees.
Furthermore, a given corporation generally has no right to deduct an expense for a business of another taxpayer which is paid by it if it does not receive any compensation for such expense. In order to avoid a type of double taxation in such a case, the given corporation would invoice the other taxpayer for the disbursement and the other taxpayer would pay such amount to the given corporation. Thus, the other taxpayer could deduct the amount of the invoice if it was an expense incurred for its business provided it was reasonable and complied with the other provisions of the Income Tax Act in light of the relevant facts respecting the situation of the taxpayer in question.
Summary of Question
In the context of a leveraged buy-out, the Bank wishes to lend to the asset-holding entity (Target) rather than to Acquireco. Accordingly, the Bank lends to Target under a secured loan bearing interest at 5%, Target lends the same sum to Acquireco at 5.5% interest, and Acquireco uses the same sum to purchase all of the shares of Target from X. Acquireco and Target then amalgamate. Would interest be deductible under s. 20(1)(c) on the loan owing by: Target to the Bank; Acquireco to Target; and the amalgamated corporation to the Bank?
The submitted situation is not a typical leveraged buy-out structure. It instead more resembles that in C.R.B. Logging Co. Ltd. v. The Queen, 2000 D.T.C. 6547,  4 C.T.C. 157 (TCC) [Docket: 96-95-IT-G]. We are not currently disposed to take a position respecting such a hypothetical scenario, but would be prepared to consider this question in the context of an advance ruling request.
Summary of Questions
All the shares of Opco are held by Holdco whose shares all are held by an individual (X).
a. Situation 1 [nil ACB and SIOH]
In transactions "aimed at protecting the assets of Opco, whose purpose is to reduce the fair market value (FMV) of Holdco’s shares in Opco" (which currently have a FMV of $1,000,000 and a cost of $1, and do not have any safe income attributable to them), Opco pays a dividend of $1,000,000 to Holdco (which enjoys the s. 112(1) deduction and is not subject to Part IV tax) and Holdco lends $1,000,000 to Opco.
b. Situation 2 [full ACB and SIOH]
In order to reduce the FMV of Holdco’s shares of Opco (which currently have a FMV, cost and safe income attributable to them of $1,000,000), Opco pays a dividend of $1,000,000 to Holdco (which enjoys the s. 112(1) deduction and is not subject to Part IV tax).
c. Situation 3 [Pt IV refund]
In order to reduce the FMV of Holdco’s shares of Opco (which currently have a FMV of $1,000,000, a cost of $1 and no attributable safe income), Opco pays a dividend of $1,000,000 to Holdco, which is subject to Part IV tax and which enjoys the s. 112(1) deduction. A refund to Holdco of such Part IV tax is generated through the payment by it of a dividend to X.
- In Situation 1, is a dividend, that is paid in order to protect the assets of Opco, made for the purpose of reducing the FMV of the shares of Opco. Do proposed ss. 55(2), 55(2.1)(b)(ii) and 55(3)(a) apply to deem the dividend paid by Opco to Holdco to be a capital gain.
- What about Situation 2?
- And Situation 3?
For the three situations described above, we assume that the shares in the capital of Opco are capital property of Holdco. Furthermore, consistent with the indicated facts regarding these situations, the dividends do not arise from the redemption, acquisition or redemption of shares, by a corporation that issued them, to which subsection 84(2) or (3) applies.
CRA Response to Q. 12(a)
We note that the description of Situation 1 states that the purpose of the dividend is to reduce the FMV of the shares of Opco held by Holdco. Such reduction corresponds to the FMV of the shares of Opco. Accordingly, the indicated conditions in proposed subparagraph 55(2.1)(b)(ii) are satisfied as one of the purposes of the payment of the dividend is to significantly reduce the FMV of a share, as assumed.
In accordance with these assumptions, Holdco has a right to a deduction under subsection 112(1). Accordingly, the indicated conditions in proposed paragraph 55(2.1)(a) are satisfied in Situation 1
Under the assumptions, there is no safe income attributable to the shares of Opco held by Holdco. Thus the indicated conditions in proposed paragraph 55(2.1)(c) are satisfied in Situation 1.
Under proposed subsection 55(2.1), the conditions for applying proposed subsection 55(2) would be present in Situation 1. Proposed paragraph 55(3)(a) would not apply as the dividend paid does not constitute a dividend which was received on a redemption, acquisition or redemption of shares, by a corporation that issued them, to which subsection 84(2) or (3) applies.
Furthermore, in accordance with the assumptions in Situation 1, there is no Part IV tax. Consequently, the $1,000,000 dividend is deemed not to be received by Holdco and is deemed to be a gain of Holdco from capital property.
CRA Response to Q. 12(b)
We note that the description of Situation 2 states that the purpose of the dividend is to reduce the FMV of the shares of Opco held by Holdco. Such reduction corresponds to the FMV of the shares of Opco. Accordingly, the indicated conditions in proposed subparagraph 55(2.1)(b)(ii) are satisfied as one of the purposes of the payment of the dividend is to significantly reduce the FMV of a share, as assumed.
In accordance with these assumptions, Holdco has a right to a deduction under subsection 112(1). Accordingly, the indicated conditions in proposed paragraph 55(2.1)(a) are satisfied in Situation 1.
Under the assumptions, the safe income attributable to the shares of Opco held by Holdco is equal to the amount of the dividend received. Given the cost of the cost of the shares of Opco held by Holdco, we find this assumption surprising. By way of example, the cost could reflect the accumulated safe income before an acquisition of shares by Holdco and, if Opco had not increased in value since that time, the safe income would be nil after such acquisition of shares by Holdco. However, accepting the assumptions stipulated for Situation 2, the question to be addressed is whether the safe income could be reasonably considered to contribute to the capital gain that could be realized on a disposition at FMV, immediately before the dividend, of the share on which the dividend was received. In Situation 2, this would not be the case since no capital gain would be realized on a disposition at FMV of such a share (having a FMV equal to its ACB). Thus the indicated conditions in proposed paragraph 55(2.1)(c) are satisfied in this situation.
Furthermore, in accordance with the assumptions in Situation 2, there is no Part IV tax. Consequently, the $1,000,000 dividend is deemed not to be received by Holdco and is deemed to be a gain of Holdco from capital property.
Given that the dividend received is deemed to be a gain rather than proceeds of disposition, the ACB of the shares of Opco held by Holdco is not taken into account in determining the gain from capital property at the moment of the application of proposed subsection 55(2). This ACB will be used in the calculation of capital gain or loss on a future disposition of the shares.
CRA Response to Q. 12(c)
We note that the description of Situation 3 states that the purpose of the dividend is to reduce the FMV of the shares of Opco held by Holdco. Such reduction corresponds to the FMV of the shares of Opco. Accordingly, the indicated conditions in proposed subparagraph 55(2.1)(b)(ii) are satisfied as one of the purposes of the payment of the dividend is to significantly reduce the FMV of a share, as assumed.
In accordance with these assumptions, Holdco has a right to a deduction under subsection 112(1). Accordingly, the indicated conditions in proposed paragraph 55(2.1)(a) are satisfied in Situation 3.
Under the assumptions, there is no safe income attributable to the shares of Opco held by Holdco. Thus the indicated conditions in proposed paragraph 55(2.1)(c) are satisfied in Situation 3.
Under proposed subsection 55(2.1), the conditions for applying proposed subsection 55(2) would be present in Situation 3. Proposed paragraph 55(3)(a) would not apply as the dividend paid does not constitute a dividend which was received on a redemption, acquisition or redemption of shares, by a corporation that issued them, to which subsection 84(2) or (3) applies.
Furthermore, under the assumptions in Situation 3, Holdco is subject to Part IV tax. However, the Part IV tax is refunded on the payment of a dividend to X. If the dividend is paid by Holdco to X as part of the same series, the amount of the dividend received by Holdco will not be excluded from the application of proposed subsection 55(2) because the Part IV tax is refunded as a consequence of the payment of a dividend by Holdco. Consequently, in accordance with the text of proposed subsection 55(2), the dividend of $1,000,000 is deemed not to be a dividend received by Holdco and is deemed to be a gain of Holdco from the disposition of capital property.
Summary of Question
Provisions for the attribution of income including ss. 15(1), 51(2), 69(1), 74.1(1) and (2), 74.2, 74.3 74.4(2), 75(2), 85(1)(e.2), 86(2) and 103 do not require the payment or reimbursement by the taxpayer receiving the income, of the income attributed to the other taxpayer (to the extent that a price adjustment clause is not applicable.)
For example, suppose that a partnership whose two partners are a personal trust and a corporation, allocates and distributes (in accordance with the partnership agreement) 90% of its income to the trust and 10% to the corporation, but the CRA reallocates essentially all of the income of the trust to the corporation under s. 103. The corporation would be subjected to corporate taxation (at rates of 19% to 26.9% in Quebec) on such income and the trust, which had received a distribution of all that income, would not be subject to an obligation to reimburse the corporation for such income.
Is income which is attributed to another taxpayer under one of the above-listed provisions not to be reimbursed by the taxpayer, having received the income, in favour of the other taxpayer (assuming no price adjustment clause)?
The Income Tax Act is an accessory law which applies to the effects arising from the rights, obligations and contracts among the parties. Thus, the question as to whether a person legally has the obligation to reimburse another person is a question of civil or common law. However, the parties can decide to include a price adjustment clause in their contract (see Folio S4-F3-C1 Price Adjustment Clauses) or can undertake rectification (see Income Tax Technical News No. 22 for more details on this procedure), for the purpose of altering the transactions and such alterations can thereby have an effect on the tax treatment of such transactions.
However, in the absence of a valid price adjustment clause or a rectification process accepted by a court, the reimbursement, after the fact, of an advantage conferred on, deemed income of, or allocated income of, a taxpayer (such three terms, an “Advantage”) will not ensure that subsections 15(1), 51(2), 69(1), 74.1(1) and (2), subsections 74.4(2) and 75(2), paragraph 85(1)(e.2), subsection 86(2) and section 103 will not apply.
Contrary to other provisions of the Income Tax Act - such as paragraph 20(1)(j) and subsections 90(14), 227(6.1) and 247(13) – the above-mentioned provisions do not specifically provide for the tax consequences of a reimbursement of an Advantage. By themselves, these provisions do not obligate the taxpayer to reimburse the Advantage. Furthermore, although paragraph 20(1)(j) and subsections 90(14), 227(6.1) and 247(13) provide for the tax consequences of a reimbursement, these provisions in contrast do not require a reimbursement.
If a party nonetheless determines to reimburse, after the fact, another party for the Advantage which it conferred, the related tax consequences of such reimbursement must be considered, accordingly to their legal character. Furthermore, it is possible, in a situation similar to that presented by you involving a partnership, that the above-mentioned rules for the attribution of deemed income referred to above would apply, as well as the rules for the re-allocation of income of a partnership provided in section 103.
Summary of Question
In 2005-0134731R3 F, the sole shareholder (“Shareholder”) of a corporation (“Corporation”) wished to retire and transfer all his shares to his two children, who were actively engaged in the business carried on by Corporation.
Among other transactions, Shareholder disposed of his common shares to his two children, thereby realizing a capital gain respecting which no capital gains deduction was claimed. Corporation concurrently redeemed the preferred shares held by Shareholder (which had a nominal PUC and a high ACB as a result of a prior crystallization transaction using the capital gains deduction) thereby resulting in a s. 84(3) deemed dividend and a capital loss (to which s. 40(3.6) did not apply as the Shareholder and Corporation were not affiliated immediately thereafter.) Such capital loss was used by Shareholder to absorb the capital gain realized on his common shares.
CRA ruled that s. 245(2) did not apply notwithstanding that it could be claimed that the series of transactions permitted Shareholder to indirectly monetize the CGD.
Following Descarries, will CRA issue rulings similar to this?
In the Descaries decision, the Tax Court of Canada determined that transactions similar to those proposed in document number 2005-0134731R3 F constituted an abuse of section 84.1 and that they were consequently subject to subsection 245(2).
In that case, the particular shareholders of the corporation l’Immobilière d’Oka Inc. (“Oka”) took part in a series of transactions in the course of which inter alia they exchanged their shares of Oka in consideration for shares in the capital of another corporation, with the shares of a particular class (the “1971 FMV Shares”) having a low PUC and an ACB equal to their FMV. Note that the FMV of the shares of Oka on V-Day (December 22, 1971) was isolated in the ACB of the 1971 FMV Shares of the other corporation.
The 1971 FMV Shares were redeemed and the capital loss sustained was applied against a capital gain previously realized in the course of the series of transactions.
The Tax Court of Canada made the following comments respecting these transactions:
In this light, the analysis shown above allows me to find that the additional value accumulated before 1971 was used to avoid the tax payable on the capital gain. Since the capital gain was created to allow the appellants to receive the Class A shares with a maximum adjusted cost base and paid-up capital, I find that the transactions at issue allowed the appellants to use the value accumulated before 1971 to indirectly distribute part of Oka's surpluses tax‑free.
…The result of all three transactions described above is that the tax-exempt margin made it possible for part of Oka's surplus to be distributed to the appellants tax-free in a manner contrary to the object, spirit or purpose of section 84.1 of the Act. For these reasons, I find that this provision was applied in an abusive fashion.
Taking the above into account, the CRA recommended to the Committee on the General Anti-Avoidance Rule that it confirm that the provisions of subsection 245(2) apply respecting a series of transactions similar to those proposed in the advance ruling carrying the number 2005-0134731R3 F.
Such transactions effectively accomplish a distribution of surplus of a corporation in the form of a capital gain even while such capital gain is reduced by a capital loss sustained from the disposition of shares whose ACB arose from the CGD or from the FMV of such shares on V-Day.
Summary of Question
Approximately 25% of the fair market value of the shares held by one of the shareholders (A - an individual) of Opco, is attributable to safe income on hand (“SIOH”). A wishes to extract Opco surplus other than as taxable dividends:
- A transfers those shares to a newly-incorporate corporation (“Holdco A”) in consideration for Holdco A shares, with the transferred shares’ ACB being the agreed amount in a s. 85(1) election.
- Opco redeems the shares held by Holdco A, with the amount of the resulting s. 84(3) dividend exceeding the SIOH. No s. 55(5)(f) designation is made and the non-taxable portion of the resulting capital gain is included in the capital dividend account of Holdco A.
- Holdco A pays a capital dividend to A.
It turns out that under these transactions, the tax payable by A, Opco and Holdco A is less than if Opco had paid its surplus to A as taxable dividends.
Would GAAR be applicable having regard inter alia to the statement in Descarries (at para. 43) that:
I…specified in [Gwartz] that, although the taxpayers may arrange to distribute surpluses in the form of dividends or of capital gains, that option is not limitless. Any tax planning done for that purpose must comply with the specific anti-avoidance provisions found in sections 84.1 and 212.1… .
A file similar to that described above was recently submitted to the GAAR committee and it recommended that the GAAR not be applied having regard to the current state of the jurisprudence.
Nonetheless, the CRA is concerned by this type of tax planning which, in particular, is contrary to the integration principle.
Accordingly, we have brought our concerns respecting this type of tax planning to the attention of the Department of Finance.
Summary of Question
A taxpayer whose 1,000 units in a limited partnership (”LP”) have an adjusted cost base (“ACB”) and at-risk amount (“ARA”) of $1,000, disposes of all 1,000 units to an unrelated third party on June 30 20X1 (being half-way through the calendar fiscal period of the LP) for proceeds of disposition of $1,100. On December 31, 20X1, the LP allocates a business loss of $600 to the former partner, which relates to the January 1, 20X1 to June 30, 20X1 period.
Subsection 96(1.01) would deem the taxpayer to be a partner at the end of the fiscal period respecting the allocation of income or loss for that fiscal period. Such income or loss enters into the calculation of the ACB of the former partner immediately before it ceased to be a partner. Subparagraph 96(1.01)(b)(ii) provides that for purposes of calculating the ACB and ARA of the LP interest of the former partner, the fiscal period of the LP is deemed to have ended immediately before the moment which is immediately before the moment when the taxpayer ceased to be a partner. Subsection 96(2.1) provides that a partner can deduct, from its other sources of income, the loss which is allocated to it by the LP up to amount of its ARA at the end of the fiscal period.
In the context of the deductibility under s. 96(2.1) of the $600 loss, the former partner must calculate its ARA consistently with subparagraph 96(1.01)(b)(ii), that is to say, immediately before the moment which is immediately before the moment when the taxpayer ceased to be a partner. At this moment, the ARA is $1,000 – so that the former partner can deduct the $600 loss for its 20X1 year against its other sources of income.
Consider now a variation of the facts under which the taxpayer only disposed of 999 of its 1,000 units.
Under this variation, the taxpayer must reduce the ACB of its interest at the moment of the disposition (on June 30 20X1) to $1. Accordingly, the ARA of the taxpayer at the end of the fiscal period also is $1. Accordingly, the taxpayer can deduct a loss only of $1 from its other sources of income for 20X1.
Is a taxpayer who disposes of part only of its interest in an LP permitted to adjust its ARA in the same manner as it would be permitted in the case of a total disposition, so that it will not find itself with a nil ARA after the partial disposition?
Even if a member of a partnership retains only a minute interest in the partnership, it nonetheless will retain its status as a partner. Thus, the deeming rule in subsection 96(1.01) cannot apply in situations such as this and the reduction in the ACB and, consequently in the ARA, of the interest in the partnership occurs at the moment of the partial disposition of the interest. In our view, no legislative provision alters this result.
Summary of Question
A Canadian professional partnership, which holds a 70% interest in a corporation carrying on a business (‘Opco”), agrees with a retiring partner that he will dispose of his interest in the partnership, but preserve a right to a share of the dividends that may eventually be paid by Opco to the partnership.
- Can s. 96(1.1) apply (if the partner and the partnership so agree) so that dividends received by the partnership and allocated to the ex-partner pursuant to that agreement would preserve their character and thus be taxable as dividends?
- Can the departing partner claim a capital loss if the only amounts he would thereafter receive from the partnership would be a share of Opco dividends determined in accordance with the agreement?
CRA response to Q. 17(a)
It is the terms of an agreement between a person who ceases to be a partner of a partnership and the other partners, whose object is to provide for the payment of a sum by the partnership in favour of the former partner, which determine which of subsection 96(1.1) or subsection 98.1(1) is applicable. We note that these provisions have automatic application and no choice is available to the taxpayer.
Your question describes only briefly the given hypothetical situation. In the absence of an analysis of the terms of the agreement between the retiring partner and the remaining partners and of all facts and circumstances relating to the particular given situation, it is not possible for us to comment more precisely on the potential application of these provisions.
Furthermore, it is necessary to verify that the recipient of the payment has genuinely withdrawn from the partnership and thus ceased to be a partner. If this is not the case, it will instead be the terms of subsection 96(1) whose application it would be necessary to consider.
However, we would note that in the event that the substance of the agreement was to share in the income of the partnership and not to settle the rights referred to in subsection 98.1(1), we would consider utilizing the specific anti-avoidance rules in section 103 if we thought that the sharing of the income among the former partner and the remaining partners was not reasonable. The presumptions in subsection 96(1), in particular, those respecting the nature of items of income, should apply respecting the part of the income shared by each partner of the partnership, including the departing partner. That part will be considered to be the amount which is reasonable in light of the circumstances.
CRA response to Q. 17(b)
A partner withdrawing from a partnership must generally recognize a capital gain or capital loss (subject to any application of the loss limitation rules) by reason of his disposition of an interest in the partnership. The fact that he preserves an interest in the income as provided under subsection 96(1.1) does not alter this conclusion. The deemed disposition provided by subsection 98.1(1) could also have the effect of deferring the taxation of a capital gain or the recognition of a capital loss.
Summary of Question
Two individuals (X and Y) each made a capital contribution to a limited partnership (“SENC”) on January 1, 2015 in each subscribing for a 50% interest in SENC. On September 1, 2015, X transferred all of his interest in SENC to a corporation (“Xco”) of which he was the sole shareholder. Consistently with s. 96(1), SENC allocated the income generated in its 2015 fiscal period to Y and Xco at December 31, 2015 in accordance with their respective interests on that date. Would CRA apply ss. 96(1) and 103(1.1) to re-allocate to X a portion of the income allocated to Xco by SENC on December 31, 2015?
At the outset, it is important to recall that it is the terms of the partnership agreement which provide the conditions relating to the division among the partners of the income realized by the partnership for a given year, and not subsection 96(1). Note also that subsection 103(1) could apply in factual circumstances in which the partners dealt with each other at arm’s length.
When a taxpayer ceases to be a partner of a partnership in the course of a fiscal period of the partnership, the deeming rule in paragraph 96(1.01)(a) applies so as to deem the taxpayer – for purposes inter alia of subsection 96(1) and section 103 – to be a partner of the partnership at the end of its fiscal period. Therefore, the specific anti-avoidance rules of section 103 could apply to ensure that income was allocated to X for the year of X’s withdrawal from the partnership. However, the application of section 103 and compliance with the conditions specified therein remain a question of fact on which we cannot comment without first having examined all the facts respecting a particular situation.
Summary of Question
The centralized management of the treasury function, commonly referred to as “cash pooling,” is currently one of the best practices for multinational enterprises, and entails daily variations in amounts owing to or due by a Canadian member of the group in the millions of dollars.
- Taking into account the scope of the practice of centralized cash management for large multinationals, is CRA still of the view that s. 15(2) applies when a Canadian corporation has a balance receivable from a related foreign corporation which performs the role of the financing company for the global group?
- If affirmative, would CRA be prepared to accept a corporation (i) using a monthly accounting of balances receivable or payable in the context of centralized cash management, and (ii) using a concept of first entered first paid (being the “FIFO” method) in applying ss. 15(2) and 2.6)?
CRA Response to Q.19(a)
Centralized cash management arrangements can take on diverse forms and be structured in numerous manners. Each of these arrangements creates specific legal relations. It is in the light of the particular facts and documents of each case, that it is possible to establish the tax consequences arising from such an arrangement.
Having said that, the CRA is not presently in a position, as an administrative matter, to set aside the application of subsection 15(2) in a file involving centralized cash management when the conditions of that provision are otherwise satisfied.
CRA Response to Q.19(b)
Subsection 15(2.6) constitutes one of the exceptions to the application of subsection 15(2). Subsection 15(2.6) provides that subsection 15(2) does not apply to loans or indebtedness repaid within one year after the end of the taxation year of the lender or creditor in which they were made or arose, where it is established, by subsequent events or otherwise, that the repayment was not part of a series of loans or other transactions and repayments.
It is a question of fact to determine if a repayment was or was not made as part of a series of loans or other transactions and repayments. In this regard, we refer you to the commentary already made on this subject by the CRA, especially in Interpretation Bulletin IT-119R4 [f.n. Canada Revenue Agency, Interpretation Bulletin IT-119R4 (archived), Debts of Shareholders and Certain Persons Connected With Shareholders, August 7, 1998.] In the past, the CRA has already indicated that certain centralized cash management arrangements could involve the existence of a series of loans or other transactions and repayments.
That being said, in the presence of a centralized cash management arrangement, the CRA currently applies the same principles and methods as those which are usually utilized when the application of subsections 15(2) and (2.6) arises in a file.
Furthermore, the CRA will generally consider that a repayment of a loan or indebtedness for the purposes of subsection 15(2.6) can have taken place by virtue of a set-off of two debts where for legal purposes such set-off results in the extinguishing of the debtor’s obligation. In such a case, all the circumstances of the case must be analyzed and the intentions of the parties respecting set-off must be clear and unequivocal.
In addition, in the context of subsections 15(2) and (2.6), unless the facts indicate otherwise, the CRA generally accepts that repayments are applied to loans or indebtedness utilizing the method “first in first out.” Furthermore, the CRA has already indicated that if the the nature or terms of each loan are different, it is most appropriate for the debtor to indicate which loan or indebtedness is repaid by the repayment.
In finishing, it is of interest to observe that, in certain circumstances, the taxpayer’s making of an election provided by subsection 15(2.11) could constitute an alternative to the application of subsection 15(2).
Summary of Question
More and more enterprises offer incentives to encourage their employees such as 5 to 7s [i.e., congregating for after-work drinks], team lunches, and relaxation areas with billiard tables and arcade games. What is the treatment of these measures when they are put in place by the employer of its own accord to respond to employee needs?
Paragraph 6(1)(a) provides inter alia that the value of any benefits of any kind whatever received or enjoyed by the taxpayer in the year in respect of, in the course of, or by virtue of the taxpayer’s office or employment are included in the taxpayer’s income with the exception of certain benefits stated in that paragraph and which arise in certain specified situations.
Generally, it is necessary to take the following factors into account in determining if there is a taxable benefit:
- Does the employee receive an economic benefit?
- Is the benefit measurable and quantifiable?
- Does the benefit advantage principally the employee or the employer?
- Is the benefit conferred in respect of or in the course of the employment?
For example, in order to determine if a taxable benefit is conferred on an employee, it is necessary to establish if the benefit advantages principally the employer or an employee. If the employee principally benefits, a benefit on the employee would be recognized. This determination is one of fact. In this regard, the fact that there are business reasons for offering the benefits to the employees does not necessitate a conclusion that the employer benefitted principally and that the benefits are not taxable.
Thus, where the employer proposes competitive sporting activities such as paying the expenses of the services of a trainer to permit an employee to succeed in a marathon, the CRA considers that the employee is principally advantaged by the benefit.
Among the factors to consider in determining if a taxable benefit is conferred on an employee, it is necessary to establish the value of the benefit. However, there are situations where the value of a benefit is difficult to quantify or measure, such as where a bike stand area is provided. As a general manner and subject to certain exceptions, the CRA’s position is that an employee usually receives a taxable benefit under paragraph 6(1)(a) when the employer furnishes a parking spot for an automobile at its place of business. The same reasoning could apply respecting a bike stand area which is offered to all the employees. However, when the usage of a bike stand area by an employee is difficult to quantify and measure, the CRA is of the view that a benefit is not required to be included in computing the income of the employee who uses the bike parking stand.
Furthermore, the CRA has already reviewed specific types of benefits accorded to employees and has taken certain general positions. Among these are the following situations: an employer-provided party or other social event and the installation of internal recreation areas.
In this regard, the CRA’s position is that when an employer offers free-of-charge, to all employees, a party or other social event, there is no taxable benefit if the cost per party or other social event does not exceed $100 per person. The CRA is of the view that a “5 to 7” or a team lunch of a social nature could be considered as a type of social activity. Consequently, the CRA is of the view that there is no taxable benefit for a “5 to 7” or a team lunch of a social nature which is offered to all the employees if the cost does not exceed $100 per person per event. However, the number of events subject to this position must be reasonable in the circumstances.
The CRA’s position is that the furnishing of internal recreational facilities of the employer offered to all the employees does not give rise to a taxable benefit to them. Consequently, the CRA is of the view that making available, to all the employees, a relaxation area on the employer’s facilities with billiard tables and arcade games does not give rise to a taxable benefit.
Paragraph 18(1)(a) provides that expenses are not deductible in computing the income of a taxpayer from a business or property except to the extent that they are made or incurred by the taxpayher for the purpose of earning income from the business or property. It also is necessary that the expense be reasonable in the circumstances by virtue of section 67.
The application of paragraph 18(1)(a) is a question of fact which cannot be determined before an examination of all the facts and circumstances of a particular situation.
In general, when an expense constitutes a benefit accorded on employees, the employer usually can deduct its amount as a business expense, being remuneration or other employee benefits, to the extent that the amount is reasonable and no specific provision of the Income Tax Act applies to restrict the deduction.
Thus, it could be the case, in certain circumstances, that the expenses of an employer such as those attributable to offering a bike parking stand, a relaxation area with billiard tables and arcade games or the services of a trainer offered to the employees would be deductible in computing the income from the carrying on of a business of the employer provided that they were reasonable.
Furthermore, subsection 67.1(1) provides a further limitation respecting an amount paid for food or beverages consumed by persons. Under this section, the amount is deemed to be the lesser of the amount actually paid or payable and the amount which would be reasonable in the circumstances. Subsection 67.1(2) provides that subsection 67.1(1) does not apply to and amount paid or payable by a person for food or beverages in certain circumstances. For example, paragraph 67.1(23)(f) provides that subsection 67.1(1) does not apply where the amount is in respect of one of six or fewer special events held in a calendar year at which the food or beverages are generally available to all individuals employed by the person at a particular place of business of the person and are consumed or enjoyed by those individuals. Thus, to the extent that the expense is made or incurred by the employer for the purpose of earning income from a business and it is reasonable in the circumstances, the expense for a “5 to 7” or a team lunch of a social nature offered to its employees would be deductible in computing the income from the carrying on of a business of the employer and it would not be subject to the 50% limitation provided in subsection 67.1(1) by reason of one of the exception in that subsection.
Summary of Question
If the reporting deadline for an income tax return falls on a Saturday, Sunday or public holiday, CRA has stated that the reporting deadline falls on the next available day. Is the reporting deadline for forms (e.g., the T1134, T1135, T2057, T2058, T2059 and T5013) which is defined by reference to the reporting deadline for the related income tax return, or a maximum number of months (e.g., 15 months) following the end of the taxation year, also handled in the same manner.
Section 26 of the Interpretation Act (“I.A.”) provides as follows: “Where the time limited for the doing of a thing expires or falls on a holiday, the thing may be done on the day next following that is not a holiday.” In accordance with the definition of “public holiday” in I.A. subsection 35(1), public holidays include Sundays. Numerous federal and provincial laws provide that Saturdays are public holidays. In this context, the CRA considers that Saturdays are public holidays within the terms of I.A. 26 for the purposes of determining the filing period provided under the Income Tax Act.
By way of example, most taxpayers have until May 2, 2016 to file their T1 income tax returns given that April 30, 2016 is a Saturday. This approach also applies to the determination of the period for the flling of taxpayer forms.
Summary of Question
On occasion, CRA may announce an administrative extension of the filing date for returns. For example, in April 2015, it announced that individuals had until May 5, 2015 to file their 2014 income tax returns. An individual may file a notice of objection respecting a taxation year until the day which falls one year after the filing due date for that year. Respecting the 2014 taxation year, would an individual (who does not earn business income) have until May 5, 2016 to file a notice of objection?
Subsection 165(1) provides that an individual who objects to an assessment made under Part I for a taxation year may so signify to the Minister in a notice of objection made on the latter of the following dates: (i) the day which falls one year after the due date for the filing which is applicable for that year; and (ii) the 90th day following the date of sending of the notice of assessment. The expression “filing due date” is defined in subsection 248(1) as generally corresponding to the day when a taxpayer is required to file an income tax return.
Subsection 220(3) accords the Minister the discretion to extend the period provided for making a declaration under the Income Tax Act. When the Minister exercises such discretion respecting the period for filing an income tax return of a taxpayer, the “filing due date” for such return is altered. In such situations, the day provided in subparagraph 165(1)(a)(i) will fall one year after the filing deadline as so established.
Summary of Question
As the prescribed manner (for electing that an excessive capital dividend be deemed to be a taxable dividend) has not been published to date, what procedure should be followed for making the election under subsection 185.1(2) so as to avoid Part III.1 tax?
The procedure for making an election in order for an excessive dividend designation to be treated as an ordinary dividend, as authorized by the Minister of National Revenue, is described on the CRA website at the following address:
Speaking generally, the corporation must provide a signed letter, to the Taxation Centre where the corporation files its income tax return, indicating that, for the particular dividend, the corporation has made the election under subsection 185.1(2). The corporation must also attach the documents specified on the CRA website. This election must be made, at the latest, 90 days after the date of the sending of the notice of assessment respecting Part III.1 tax.
Summary of Question
At the end of 2014, a new version of Schedule 7 to the T2 changed line 062 to read “Deductible taxable dividends (total of column F of Schedule 3 minus the related expenses”) rather than “Deductible taxable dividends (total of column F of Schedule 3”). Suppose that a Canadian-controlled private corporation had the following income items for a year: $400,000 of income from a Canadian active business; $14,000 of interest; $12,000 of rental income; $24,000 of public company dividends; an $18,000 taxable capital gain; and $10,000 of investment counselling fees (which helped generate the interest, dividends and capital gain).
Under the definition of “aggregate investment income” in s. 129(1), the corporation would have investment income of $34,000, comprised of a taxable capital gain of $18,000 and property income of $40,000 (i.e., $14,000 + $12,000 + $24,000 -$10,000) minus the dividend deduction from taxable income of $24,000.
Is the aggregate investment income $34,000? What amounts should be inserted in lines 032, 062 and 082 of Schedule 7?
CRA Response to Q.24(a)
The “aggregate investment income,” as defined in subsection 129(4), of a corporation for a taxation year, corresponds to the excess of the total of the amounts provided in paragraphs (a) and (b) of such definition over the total of the amounts each of which is a loss of the corporation from a property source. Paragraph (b) of the definition of “aggregate investment income” includes the total income for a year from property sources with the exception, among others, of “the portion of a dividend which is deductible in computing the corporation’s taxable income for the year.”
Paragraph 10 of Interpretation Bulletin IT-243R4 [f.n. Canada Revenue Agency, Interpretation Bulletin IT-243R4 (archived) Dividend Refund to Private Corporation February 12, 1996.] indicates that Canadian investment income is essentially the total of the following amounts but, as specified in paragraph 11 of that Interpretation Bulletin, with certain exclusions such as dividends deductible in computing taxable income:
- the total of income from property from sources situated in Canada, minus the total of expenses incurred to earn such income;
- the excess of taxable capital gains over allowable capital losses from sources situated in Canada.
Consequently, the total investment income for purposes of paragraph (b) of the definition of “aggregate investment income” is the net investment income without taking into account the deductible dividends or the expenses incurred for earning the dividend income.
In the context of the submitted example, it is not possible to confirm the aggregate investment income because it is missing information permitting the determination of the allocation of the investment counselling fee of $10,000 amongst the different sources of income, i.e., interest, dividends and capital gains. The taxpayer must allocate its fees in a reasonable manner amongst the different sources of income. In the submitted example, taking as given that the dividends are deductible in computing taxable income, the amount, calculated in conformity with paragraph (b) of the definition of “aggregate investment income” in subsection 129(4), is the rental and interest income minus a deduction for the portion of the investment fee allocable to the interest income. The amount added under paragraph (a) of the definition of “aggregate investment income” in subsection 129(4) would be equal to the eligible portion of the taxable capital gain.
CRA Response to Q. 24(b)
The calculation of the aggregate investment income from all sources is found in section 1 of Schedule 7 to the T2. In the submitted example, the total of the income from property to be entered in line 032 of such Schedule is the total of the net income from interest, rents and dividend income.
Since dividends which are deductible in the computation of taxable income are expressly excluded from aggregate investment income, the amount entered in line 062 of such Schedule is the amount of the deductible dividends less the expenses incurred to earn such income. In this way, the amount of the deductible dividends which is included on line 0329 (the net amount) is excluded from the aggregate investment income in line 062.
Line 082 of such Schedule serves to reduce the aggregate investment income by the total of losses from property. There does not appear to be any loss from property in the submitted example.
Summary of Question
Holdco (a CCPC) included all of a dividend received from its wholly-owned subsidiary in computing its income but erroneously failed to claim a deduction therefor under s. 112(1). Can Holdco amend its return for the year in question if the period for filing a Notice of Objection has expired? When will CRA accept an amended return to correct an error where such period has expired?
Information Circular 75-7R3 [f.n. Canada Revenue Agency, 75-7R3 Reassessment of a Return of Income, July 9, 1984.] provides the circumstances in which the CRA will make a reassessment for a reduction in tax payable. Paragraph 4 of the Information Circular states that the CRA, on the receipt of a written request of the taxpayer, will ordinarily reassess to give a refund, even if a Notice of Objection has not been made within the specified period, provided that the conditions in paragraphs (a) to (e) are satisfied, including in particular:
- The taxpayer has filed the income tax return within the period of three years stipulated in subsection 164(1);
- The CRA is convinced that the previous assessment or reassessment was wrong; and
- It is possible to make the reassessment within the period of three years or, if it is not possible to satisfy this condition, the taxpayer has provided a waiver in the prescribed form on a timely basis.