7 October 2016 APFF Roundtable
Email this ContentTranslation and provisional status disclaimer
The translated written responses provided further below were prepared by Tax Interpretations Inc. The CRA did not issue these responses in the language in which they now appear, and is not responsible for any errors in their translation that might impact a reader’s understanding of them or the position(s) taken therein. Furthermore, the written answers were accompanied by a detailed CRA disclaimer warning inter alia that they were subject to change before their release in final form. See also the general Disclaimer below.
This page contains summaries of questions posed at the October 7, 2016 APFF Roundtable (not to be confused with the APFF Roundtable on Financial Strategies and Instruments) together with our translations of CRA's provisional written answers (which had been presented on October 7 by Stéphane Charette, Danny Gagnon and Sophie Larochelle). In some instances, these answers are supplemented with summaries of brief written notes made at the time of their oral responses. We use our own titles.
Q.1A Calculation of s. 85(8) penalty
Is the late election penalty under s. 85(8) applied on a property-by-property basis?
Brief summary of oral response
No – it’s applied on the property ensemble.
CRA written response
Under subsection 85(7) of the Act, a taxpayer has up to three years after the filing deadline in paragraph subsection 85(6) to make an election under subsection 85(1) or (2). Subsection 85(7.1) provides that a taxpayer may file an election more than three years after the original deadline or to amend an election any time if in the opinion of the Minister, the circumstances of a case are such that it would be just and equitable to permit a late or amended election.
However, a late election under subsection 85(7) or (7.1) generates a penalty calculated under section 85(8).
Where a taxpayer transfers several properties at a given date to a taxable Canadian corporation, the CRA's policy is to calculate the penalty under subsection 85(8) based on all the properties that appear on the prescribed form T2057 - Election on disposition of property by a taxpayer to a taxable Canadian corporation that is filed late, and not property by property, in the case where one form is filed.
In general, the penalty in respect of a late election will be the lesser of:
1. 1/4 of 1% of the excess of the fair market value ("FMV"), at the time the property was disposed of, of all the properties in respect of which an election or an amended election was made, over the total agreed amount agreed, for each month or part of a month during the period contemplated by the late election penalty;
2. $100 for each month or part month during the period contemplated by the late election penalty, not exceeding $8,000.
Official response
Q.1B When T4As required
In light of the wording of ITA s. 153(1)(g) and Reg. 200(2), there is a broad range of inappropriate circumstances where the issuance of a T4A is required – for, example, where a corporation pays an amount greater than $500 to its accountant for professional services. As another example, in 2015 CRA required the issuance of a T4A respecting fees paid by a dentist to professional advisors.
(a) What is the current status of the CRA study (referenced by it at the 2011 APFF Conference) of administrative practices respecting T4As?
(b) Can CRA provide an exemption from the requirement for issuing a T4A where the invoice for the services rendered (whether by an individual or corporation) bears a valid tax number (e.g., GST and QST registration numbers)?
CRA written response to Q.1B(a)
The CRA position remains unchanged regarding the requirement to complete an information return in prescribed form in respect of the payments referred to in paragraph 153(1)(g) of the Act. Thus, fees, commissions or other amounts for services paid by an enterprise [also could be translated as “business” or “company”] must be reported in an information return (T4A) pursuant to subsection 200(1) of the Income Tax Regulations. However, the CRA notes that there is already administrative relief for the production of the T4A in specified limited circumstances such as:
i) where the payment made is less than $500, to the extent that no tax is withheld in respect of the amount, and
ii) where personal services are rendered to an individual by a professional or anyone else practising a trade [“métier”], or if the services are rendered for the repair or maintenance of the principal residence of an individual.
The Canadian tax system is one of self-assessment based on voluntary compliance. The CRA expects enterprises to comply with their legal obligations. Thus, no administrative relief, other than as stated in the previous paragraph, is available regarding payments made by an enterprise for services.
And to Q.1B(b)
The CRA is not currently disposed to consider such relief.
Official response
7 October 2016 APFF Roundtable Q. 1B, 2016-0652761C6 F - T4A filing
Q.1C T106 filing following AOC
(a) Will CRA accept a single form T106 for the period of 12 months ending on December 31, 2016 if that period consists of a taxation year ending on April 30, 2016 as a result of an acquisition of control and a taxation year ending on December 31, 2016 resulting from the choice of that year end by the corporation?
(b) If yes, is the filing deadline June 30, 2017 despite the deemed taxation year end of April 30, 2016?
CRA written response to Q.1C(a)
The most recent version of the T106 - Information Return of Non-Arm's Length Transactions with Non-Residents, was reviewed in 2011. The instructions in the current Form T106 reflect current administrative policy.
Accordingly, if the number of months from the start of the fiscal period until the new year end of December 31, 2016 exceeds 12 months, the CRA will require the filing of more than one T106. Otherwise, one T106 with a letter accompanying the form will be acceptable.
And to Q.1C(b)
Provided that the sum of the stub taxation years does not exceed 12 months, the CRA will accept the filing of the T106 form on June 30, 2017 (6 months after the December 31, 2016 year end).
Also note that the CRA regularly updates information returns and appreciates any comments that the tax community provides to clarify the forms.
Official response
7 October 2016 APFF Roundtable Q. 1C, 2016-0652771C6 F - T106 and multiple year ends
Q.2 Partial changes of use then sale of triplex
For the purposes of the s. 45 change-of-use rules, a child’s occupation of a dwelling is considered as personal use if a below-market rent is paid. S1-F3-C2 “Principal Residence” para. 2.7 states that a housing unit includes a unit in a duplex. However, in 2011-0417471E5, CRA indicated that a duplex which has not been legally divided is a single property for s. 45(1) purposes.
A triplex with an FMV of $300K, $500K and $1,500K at the beginning of Years 1, 11 and 16 (the time of its sale), respectively, consisted: as to 50%, of Unit 1, which had direct personal use until Year 10 inclusive and thereafter was rented; as to 25%, of Unit 2, which was rented until Year 10 inclusive, and thereafter was used personally; and, as to 25%, of Unit 3, which was rented until Year 10 inclusive, and thereafter was occupied by children (paying a low rent).
How does s. 45(1)(c) apply to the changes in use at the beginning of Year 11, and how does s. 40(2)(b) apply to the disposition of the triplex at the beginning of Year 16 at a gain of $1,200K (or to any deemed disposition at the beginning of Year 11 at a gain of $200K)?
CRA written response
The CRA is of the view that a building is normally considered to be a single property unless it was legally subdivided into two or more separate properties.
Paragraph 45(1)(c) of the Act governs situations where, at any time after a taxpayer has acquired a property, there has been a change in the relation between the use regularly made by the taxpayer of the property for gaining or producing income and the use regularly made of the property for other purposes.
In the described situation, although each of the building's units was subject to a change of use in Year 11, the relation between the use regularly made by the taxpayer of the property for gaining or producing income and the use regularly made of the property for other purposes did not change during the year. Accordingly, there was no change of use of the building for the purposes of paragraph 45(1)(c) in Year 11.
Where multiple units in a building are designated as a principal residence for different years, the taxpayer must file, within one year of the building’s sale, a Form T2091(IND) - Designation of a Property as a Principal Residence by an Individual (Other Than a Personal Trust) for each of the units in the building covered by the designation. In the described situation, the taxpayer must file two T2091 forms in the year of the sale of the property if he is designating two units.
In calculating the capital gain, an allocation of the adjusted cost base ("ACB") and of the proceeds of disposition of a building made according to the area of each unit would, in some instances, be reasonable. However, the allocation must not necessarily be based on area. It must also take into account all factors that may affect the value of any of the units in the building.
Assuming that the value of Unit 1 in the described situation represented 50% of the value of the building, the proceeds of disposition of the unit would be $750,000. Assume also that the ACB attributable to this unit was $150,000. In such a case, the taxpayer would realize a capital gain of $600,000, of which part could be designated for purposes of the principal residence exemption.
Official response
Q.3 Damages paid on breach of house purchase
As a result of breach to sell a personal residence, an individual receives $50,000 in damages from the defaulted purchaser.
(a) Is the $50,000 income, a capital gain or exempt?
(b) If a capital gain, would the principal residence exemption be available?
(c) If the purchaser had intended to rent the residence to unrelated persons, could it recognize an allowable capital loss of $25,000?
CRA written response to Q.3(a)
The CRA takes it as given that the buyer and vendor signed a "promise" within the meaning of section 1396 of the Civil Code of Québec. Furthermore, the CRA understands that the sum of $50,000 was paid to the vendor before a deed of sale of the personal residence was concluded.
The promise gave the vendor the right to bind the buyer to that promise, in particular, to execute a deed of sale in conformity with that promise. The term "property" as defined in subsection 248(1) is a broad term which could extend to rights under a promise.
In the situation you described, the CRA is of the view that the sum of $50,000 that the vendor received could be considered as proceeds of disposition of his right under the promise. Accordingly, if this right qualified as capital property as defined in section 54 of the Act, the vendor realized a $50,000 capital gain.
And to Q.3(b)
Paragraph 40(2)(b) of the Act generally permits the gain, otherwise determined for the taxpayer from the disposition of any property that was the taxpayer’s principal residence at any time after the date of acquisition, to be eliminated or reduced based on the number of years for which the property was the primary residence of the taxpayer.
"Principal residence" is defined in section 54. A personal residence can usually qualify as a principal residence. However, as the right under the promise is a property distinct from the personal residence, this right could not qualify as a principal residence and paragraph 40(2)(b) would not apply.
And to Q.3(c)
In brief, under paragraph 39(1)(b) a taxpayer’s capital loss for a taxation year from the disposition of any property is the taxpayer’s loss for the year determined under subdivision c of Division B of Part I of the Act.
The CRA is of the view that the purchaser is not entitled to a capital loss from paying the damages of $50,000, since the purchaser had not disposed of property as defined in subsection 248(1).
Official response
Q.4 Bonus exception for salary deferral arrangement (“SDA”)
The right to receive an amount under a plan arises on December 31 of Year 1. On March 31 of Year 3, 4 and 5 the individual’s performance for Year 2, 3 and 4 is determined and the amount is revised as of December 31 of Year 2, 3 and 4, respectively. Given that for commercial reasons, the amount which is payable on December 31 of Year 4 is not determined until March 31 of Year 5, being the time when the performance factor for Year 4 is determined, is a payment under this arrangement excluded from the SDA definition?
CRA written response
The CRA is of the view that the exception provided in paragraph (k) of the definition of SDA in subsection 248(1) would not be applicable in the situation described above because the plan provides that the Amount must be paid after the three-year period (ie in Year 5) following Year 1. Note that the English version of paragraph (k) of the SDA definition is clearer than the French version. The English version of paragraph (k) states: "to be paid within 3 years following the end of the year."
Official response
7 October 2016 APFF Roundtable Q. 4, 2016-0652801C6 F - Salary Deferral Arrangement
Q.5A Deduction of vehicle electricity costs
An electric vehicle used for business purposes or in the course of employment is charged at home and there is no electricity meter specific to the vehicle. (a) Does CRA accept use of the per-kilometre electricity standard provided by the manufacturer in determining the annual electricity cost? (b) Is the cost of installing the charging terminal an eligible capital cost.
CRA written response to Q.5A(a)
In general, for a taxpayer to be able to claim motor vehicle expenses, they must be reasonable in the circumstances and confirmed by supporting documents.
The CRA recognizes the particular character of electric vehicles in the automobile market. However, the CRA currently has no specific policy on the expenses of an electric motor vehicle.
Where it is not possible in practice to produce supporting documentation showing the exact amount of electricity expenses a taxpayer made or incurred for an electric vehicle, the CRA is of the view that, depending on the circumstances, other means for establishing the amount of the expenditure may be acceptable.
For example, the establishment of an average per-kilometer energy cost could be a reasonable method. In such a situation, the taxpayer would also need to take into account the use of pay-charging stations or free charging stations in establishing those costs.
And to Q.5A(b)
The CRA is generally of the view that the installation costs of a capital property are part of its capital cost. Thus, the capital cost of a charging station for electric vehicles includes the installation costs. The question of what constitutes the cost of installing a charging station is a question of fact that cannot be resolved until after consideration of all relevant facts specific to the situation.
The 2016 federal budget proposes to include, effective March 22, 2016, the charging stations for electric vehicles that meet a certain current threshold, in Class 43.1 or 43.2. In other cases, charging stations for electric vehicles are included in Class 8.
Official response
7 October 2016 APFF Roundtable Q. 5, 2016-0652861C6 F - Véhicules électriques - rabais
Q.5B Effect of electric vehicle subsidy
By virtue of a program put in place by the Quebec government, a subsidy, which can amount to $8,000, is offered where an electric vehicle is purchased or rented. (a) In determining the taxable benefit from employee use, should the purchase price (or rental cost) be determined before or after the application of the rebate? (b) What is the incidence of the subsidy on CCA where the pre-tax cost of the vehicle is $25,000, $35,000 or $45,000?
CRA written response to Q.5B:- Intro
In answering the Part B questions, the CRA has assumed that the electric vehicle is an "automobile" and "passenger vehicle" as defined in subsection 248(1) of the Act.
In addition, the CRA has assumed that the APFF is referring to the "Drive Electric Program" of the Québec government. The purpose of this program is to facilitate the acquisition of electric vehicles by offering financial assistance to participants for the purchase or lease of an eligible vehicle. In general, where financial assistance is granted for the purchase or leasing of property, it is necessary to consider the legal relations between the parties to determine the tax treatment of such financial assistance. The APFF has not provided the documents establishing the legal effect on the parties involved in a transaction covered by the "Drive Electric Program". Therefore, the CRA is not able to respond definitively to these questions.
Where the dealer is a partner of the "Drive Electric Program" and the participant authorizes the Québec government to pay the rebate directly to the dealer, some documents suggest that the amount of the financial assistance would be applied as a deposit on the purchase or lease. The CRA responses to Part B are based on the assumption that the financial assistance that the participant is entitled to receive is actually a deposit that is paid or to be paid to a partner dealer.
(a) Reasonable standby charge for use of an automobile
The Income Tax Act provides in paragraph 6(1)(e) a taxable benefit for the right of an employee to use an automobile that the employer has made available for the employee’s personal purposes. For the purposes of paragraph 6(1)(e), the employer must use the formula in subsection 6(2) to calculate a reasonable standby charge for an automobile. This formula includes the "cost of the automobile to the employer" and "total of all amounts that may reasonably be regarded as having been payable to the lessor." These terms are not defined in the Income Tax Act.
If the above assumption is correct, the CRA is of the view in the case of a purchased electric vehicle that the "cost of the automobile to the employer" in the formula in subsection 6(2) would not be reduced by the amount of financial assistance provided by the Government of Québec under the "Drive Electric Program".
If the above assumption is correct, the CRA is of the view in the case of a leased electric vehicle that it would be reasonable to consider that the deposit is an amount payable to the lessor. Thus, the amount of the financial assistance paid would be a lump sum payment that should be prorated over the term of the lease for the purposes of calculating the “total amount that can reasonably be regarded as payable to the lessor” in subsection 6(2).
Finally, where the participant receives the rebate directly from the Québec government, the CRA is of the view that the financial assistance would not reduce the reasonable standby charge for use of an automobile.
(b) Capital cost
The capital cost allowance provided under paragraph 20(1)(a) and section 1100 of the Regulations is computed using the capital cost of the properties and a particular rate for each class of depreciable property. Depreciable assets are classified by class as stipulated in Schedule II of the Regulations.
A vehicle could come within Class 10 or Class 10.1. A passenger vehicle where the cost to the taxpayer exceeds $30,000 is included in Class 10.1. Other passenger vehicles come within Class 10.
Furthermore, if the cost to the taxpayer of a passenger vehicle exceeds $30,000, paragraph 13(7)(g) fixes its capital cost at $30,000.
If a taxpayer received or is entitled to receive assistance from a government, subsection 13(7.1) deems that the capital cost of the property to be the amount by which the capital cost to the taxpayer, determined without regard to that subsection, exceeds the amount of government assistance that the taxpayer received or is entitled to receive. Consequently, the CRA is of the view that the capital cost of an electric vehicle determined after the application of paragraph 13(7)(g) will be reduced by the amount of assistance that the taxpayer received or is entitled to receive for this vehicle under the "Drive Electric Program." The question of whether a participant has received or is entitled to receive assistance from a government is a question of fact that cannot be resolved until after an examination of all the facts.
If the above assumption is correct, in the examples, an electric vehicle whose cost is $25,000 will be included in Class 10 and an electric vehicle whose cost is $35,000 or $45,000 will be included in Class 10.1.
Furthermore, in the examples, the capital cost of the electric vehicles for CCA purposes will be $17,000, $22,000 or $22,000, respectively. Finally, the CRA is of the view that the capital cost of the electric vehicle will be the same whether the amount of assistance is paid directly to the participant or the participant authorizes the government to pay the amount of the assistance to a partner dealer.
c) Cost of leasing
(i) Section 67.3 limits the amount a taxpayer may deduct in respect of lease charges paid or payable for the lease of a passenger vehicle. Where this section applies to a taxpayer, the taxpayer’s expenses are limited to the lesser of the results of the calculations set out in paragraphs 67.3(c) and (d).
Element C in the formula in paragraph 67.3(a) and element A in the formula in paragraph 67.3(b) include the phrase "actual lease charges". This term is not defined in the Income Tax Act.
In the CRA’s view, only the terms of the lease agreement between the dealer and the participant establish the actual lease charges. The actual lease charges include the charges paid or payable under the lease.
If the assumption is true, the CRA believes that the deposit is included in the actual lease charges. Thus, to determine the actual lease charges pursuant to calculating the limit provided in section 67.3, the amount of financial assistance paid or payable would be a lump sum payment which should be prorated over the duration of the lease.
Where the amount of financial assistance is paid or payable directly to the participant, the CRA is of the view that the amount of financial aid would have no impact on the actual lease charges.
(ii) Element C in the formula in paragraph 67.3(d) refers to the “manufacturer’s list price for the vehicle." This term is not defined in the Income Tax Act.
Automobile manufacturers carrying on business in Canada generally use the term "manufacturer suggested retail price" to display the asking price for a particular vehicle. Although this expression is not quite the same as used in the Income Tax Act, the CRA is of the view that the expression “manufacturer’s list price for the vehicle" used in paragraph 67.3(b) should be given the meaning of "manufacturer suggested retail price” used by the automotive industry in Canada. The CRA is of the view that this price does not include the amount of the rebate offered by the "Drive Electric Program."
Official response
7 October 2016 APFF Roundtable Q. 5, 2016-0652861C6 F - Véhicules électriques - rabais
Q.6. Future reporting of gifts by GRE
Where a donation is made by a graduated rate estate ( "GRE") of an individual and certain conditions are met, the definition of "total charitable gifts" in subsection 118.1(1) allows the use of the donation in several ways:
- Clause (c)(i)(C) allows the gift's in the return for the particular taxation year of the individual's death or the preceding taxation year;
- Clause (c)(ii)(B) allows the gift's in the return of the GRE in the year the gift is made, and in a preceding year.
At the announcement of this measure in 2014, the budget documents referred to this use in the year of donation and in earlier years but remained silent as to the possibility of reporting the gift in subsequent years. According to our reading of clause (c)(ii)(A) of the definition of total charitable gifts in subsection 118.1(1), the GRE (which is a trust for the purposes of this clause) can use the gift in the five years following the donation. Does the CRA agree?
CRA written response
The CRA agrees with your interpretation. Clause (c)(ii)(A) of the definition of "total charitable gifts" in subsection 118.1(1) applies to the GRE. This has the consequence that the eligible amount of a gift can be included in the calculation of total charitable gifts of GRE or a former GRE for the taxation year in which the donation is made or in the five taxation years following the donation.
For details on this subject, please see “Estate Donations - Deaths after 2015", Questions / Answers [http://www.cra-arc.gc.ca/gncy/bdgt/2014/qa14-eng.html] and "Estate Donations by Former Graduated Rate Estates", Questions / Answers , that are available on the website of the CRA.[ http://www.cra-arc.gc.ca/gncy/bdgt/2016/qa09-eng.html]
Official response
Q. 7 Contingent rights in shareholders' agreement (256(1.4), 251(5)(b))
Franchisor and Manager each hold 50% of the shares (being common shares) of Franchisee. The shareholders’ agreement for Franchisee (a) provides, in the event the Manager wishes to depart, a mandate to Franchisor to identify an independent acquiror of the shares of Manager, or (b) provides that the corporation will automatically redeem the Manager’s shares. Would either right come within s. 256(1.4) or would the retraction right come within s. 251(5)(b)?
CRA written response to Q.7(a)
Subsection 256(1.4) provides in particular that, for the purpose of determining whether a corporation is associated with another corporation with which it is not otherwise associated, where a person, or any partnership in which the person has an interest, has a right at any time under a contract, in equity or otherwise, either immediately or in the future and either absolutely or contingently, to, or to acquire, shares of the capital stock of a corporation, or to control the voting rights of shares of the capital stock of a corporation, the person or partnership shall, except where the right is not exercisable at that time because the exercise thereof is contingent on the death, bankruptcy or permanent disability of an individual, be deemed to own the shares at that time, and the shares shall be deemed to be issued and outstanding at that time.
The question of whether a corporation is otherwise associated with another corporation is a question of fact. The information provided is insufficient to determine whether the franchisor is otherwise associated with the franchisee in the context of the given situation.
Moreover, to determine whether a person has a right at any time under a contract, in equity or otherwise, either immediately or in the future and either absolutely or contingently, to shares of the capital stock of a corporation, or to acquire them or to control the voting rights, all the facts and circumstances applicable to a situation including the shareholders’ agreement must be considered.
In the given situation, it would be reasonable to conclude that the franchisor does not have a right to the shares in the capital stock of the franchisee owned by the manager is the owner nor to acquire them within the meaning of paragraph 256(1.4)(a) by virtue only of the provision granting a mandate to the franchisor to find another independent shareholder to acquire the shares held by the manager in the capital stock of the corporation.
However, the CRA would need to analyze this mandate clause, the terms of the shareholders’ agreement or any other agreement to determine whether the franchisor has an immediate or future right, conditional or not, to control the voting rights of the capital shares of the franchise company held by the manager.
And to Q.7(b) and (c)
Subsection 256(1.4) also provides that for the purpose of determining whether a corporation is associated with another corporation with which it is not otherwise associated, where a person, or any partnership in which the person has an interest, has a right at any time under a contract, in equity or otherwise, either immediately or in the future and either absolutely or contingently, to cause a corporation to redeem, acquire or cancel any shares of its capital stock owned by other shareholders of a corporation, the person or partnership shall, except where the right is not exercisable at that time because the exercise thereof is contingent on the death, bankruptcy or permanent disability of an individual, be deemed at that time to have the same position in relation to control of the corporation and ownership of shares of its capital stock as if the shares were redeemed, acquired or cancelled by the corporation.
Furthermore, subparagraph 251(5)(b)(ii) states in part that for the purposes of subsection 251(2) and the definition of Canadian-controlled private corporation ("CCPC") in subsection 125(7), where at any time a person has a right under a contract, in equity or otherwise, either immediately or in the future and either absolutely or contingently, to cause a corporation to redeem, acquire or cancel any shares of its capital stock owned by other shareholders of the corporation, the person shall, except where the right is not exercisable at that time because the exercise thereof is contingent on the death, bankruptcy or permanent disability of an individual, be deemed to have the same position in relation to the control of the corporation as if the shares were so redeemed, acquired or cancelled by the corporation at that time.
The current position of the CRA concerning the interpretation of paragraph 256(1.4)(b) and subparagraph 251(5)(b)(ii) is that the fact that a clause in a shareholder agreement provides for the automatic redemption by a corporation of the shares of its capital stock is not determinative as to whether a shareholder has the right to cause a corporation to redeem , acquire or cancel any shares of its capital stock held by other shareholders.
In the CRA's view, the wording of paragraph 256(1.4)(b) and subparagraph 251(5)(b)(ii) are broad enough to apply to a situation in which a particular person would control the triggering of an event that would require a corporation to redeem, acquire or cancel any shares of its capital stock held by other shareholders. In this regard, the CRA has ruled that a person does not generally control the triggering of an event where a corporation is obliged to redeem or purchase shares of its capital stock held by a shareholder convicted of defrauding the corporation.
The wording of paragraph 256(1.4)(b) and subparagraph 251(5)(b)(ii) also applies to a situation where a particular person would have the right to cause a corporation to redeem, acquire or cancel any shares of its capital stock owned by another shareholder even if the person has no control over the triggering of an event requiring the company to make the purchase.
However, neither paragraph 256(1.4)(b) nor subparagraph 251(5)(b)(ii) would apply if the event in question were the death, bankruptcy or permanent disability of an individual.
Additional information and legal analysis of the automatic redemption clause and any other agreement would be necessary to determine, in the context of a particular situation, if the franchisor has a right, either immediately or in the future and either absolutely or contingently, to require the franchisee to redeem, acquire or cancel shares of the manager in its capital stock.
Official response
7 October 2016 APFF Roundtable Q. 7, 2016-0652971C6 F - Paragraph 251(5)(b) and subsection 256(1.4)
Q.8 Benefit where condo rented to shareholder-employee at cost
A timesharing condo of Corporation A is provided through the property manager to the public at $150 per day, with the manager then paying rent of $100 per day of use to Corporation A. The services contract with the manager provides that Mr. A (a shareholder-employee of Corporation A) can reserve the condo for personal use for up to 30 days per year. When this occurs, Mr. A pays Corporation A $70 per day, equalling its costs. How is any taxable benefit computed to Mr. A under
(a) s. 6(1)(a), or
(b) s. 15(1)?
CRA written response to Q.8(a)
The administrative policy of the CRA regarding merchandise discounts concerns an employer who sells merchandise at a discount to its employees. It indicates, where applicable, that the benefits that an employee would receive from such a privilege are not usually included in computing the employee’s income. In the situation described, the CRA is of the view that the condominium is not merchandise that Corporation A sells at a discount to its employee. Thus, the administrative policy regarding discounts on merchandise stated in T4130, Employers' Guide - Taxable Benefits and Allowances, 2015, does not apply to the situation described in the question.
For the purposes of paragraph 6(1)(a), the Income Tax Act does not specify how to calculate the value of the benefit that an employee (or a person with whom the employee does not deal at arm's length) has received or enjoyed by virtue of the person’s office or employment. However, the employer must be able to justify the valuation of such a benefit in light of all the facts and circumstances of a particular situation.
The CRA is of the view that the value of a benefit corresponds to the price that an employee would have to pay, in similar circumstances, to obtain the same benefit from the corporation if he or she were not an employee.
And to Q.8(b)
The CRA's administrative policy regarding discounts on merchandise does not apply for purposes of subsection 15(1).
The Income Tax Act does not specify how to calculate the value of a benefit that a corporation confers on its shareholder for purposes of subsection 15(1).
Generally, the value of the benefit to a shareholder corresponds to the price that the shareholder would have to pay, in similar circumstances, to obtain the same benefit from the corporation if it were not a shareholder. To determine this value, the shareholder must take into account all the relevant facts and circumstances respecting the particular situation.
Q.9 Farm house held by mooted small business (or farming) corp
IT-268R4 indicates that a residence held by a corporation is used principally in carrying on a business if it is used more than 50% by employees engaged in the business. Mr. A holds all the shares of Corporation A, which carries on a farming business operated by Mr. A (but not as employee). Corporation A holds the residence, which is occupied by Mr. A, his spouse and their children. Is the residence considered to be property that is used principally in the course of an active business (or a farming business) for purposes of the definition of “qualified small business corporation share” (or “share of the capital stock of a family farm or fishing corporation”) in s. 110.6(1)?
CRA written response
In paragraph 22 of Interpretation Bulletin IT-268R4, a residence owned by a corporation will be regarded as used principally in the course of carrying on the business of farming if more than 50% of its use is as accommodation for persons who are actively employed in the farming business or their dependants. According to this paragraph, this position applies for the purposes of subsection 73(3) and the definitions of "share of the capital stock of a family farm corporation" and "interest in a family farm partnership" in subsection 70(10). Furthermore, the residence must be provided to the persons in their capacity as employees rather than as shareholders and the residence must be part of the business operation in that it provides accommodation for employees whose services may be required at virtually any time by virtue of the nature of the farming operations.
This position also applies for purposes of the definition of "qualified small business corporation share" and "share of the capital stock of a family farm corporation" and, for the 2014 and subsequent taxation years, of the definition of a "share of the capital stock of a family farm or fishing corporation” as defined in subsection 110.6(1).
In addition, for the 2014 and subsequent taxation years, this position also applies to the terms "share of the capital stock of a family farm or fishing corporation" and "interest in a family farm or fishing partnership" as defined in subsection 70(10).
Official response
Q.10 Devise of farm by father’s estate to child
Does CRA consider that the test in s. 110.6(1.3) for holding by ascendants or descendants is satisfied when a child acquires the property from the estate of his father rather than directly from him?
Brief summary of oral response
Yes. The estate is a personal trust, and previously the property belonged to the family.
CRA written response
Upon the disposition of a property, an individual may claim a capital gains deduction where the property is a "qualified farm or fishing property" within the meaning of that term in subsection 110.6(1). Under paragraph (a) of this term, the property must have been used in the course of carrying on a farming or fishing business in Canada. The individual must also meet all the other requirements of section 110.6.
Subsection 110.6(1.3) states that a "qualified farm or fishing property" is considered to have been used in the course of carrying on a farming or fishing business in Canada if certain conditions are met. Subparagraph 110.6(1.3)(a)(i) requires that the property was owned throughout the period of at least 24 months immediately preceding the particular time by one or more of the persons listed in this subparagraph. These persons include the following: the individual or a spouse, common-law partner, child or parent of the individual. Also included is a personal trust from which the individual, or child or parent of the individual, acquired the property.
In short, under subsection 248(1), a personal trust is defined as a GRE or an inter vivos trust no beneficial interest in which was acquired for consideration payable to the trust or to any person or partnership that has made a contribution to the trust.
During the holding by the executor [lit., “during the seisin of the liquidator”], the CRA considers that the estate [“succession”] has the ownership of property, and without regard to the private law applicable to the estate.
Generally, the condition set out in subparagraph 110.6(1.3)(a)(i) could be satisfied where an individual has acquired a property from an estate which is a personal trust and the property belonged to one or more of the persons listed in subparagraph 110.6(1.3)(a)(i) throughout the period of at least 24 months before the given time.
Official response
Q.11 Treatment of capital lease as active business asset
In the context of accounting for a capital lease, a future income tax asset is required to be recognized under accounting principles. Is the asset recorded in the financial statements as a capital lease considered as an asset used in an active business for purposes of the definitions of a qualified small business corporation share or of a small business corporation?
Brief summary of oral response
It is not an asset for ITA purposes. However, rights under the lease contract are taken into account if they are accorded value in the financial statements.
CRA written response
Any amount recorded under Accounting Standards for Private Enterprises ("ASPE") or International Financial Reporting Standards ("IFRS") as an asset under a lease merely represents an accounting entry in the financial statements. The CRA is of the opinion that such accounting entries are not assets for the purposes of the definition of a QSBCS in subsection 110.6(1) and of SBC in subsection 248(1). Consequently, these accounting entries should not be taken into account in determining whether a share is a QSBCS or whether a corporation is an SBC.
However, the CRA is of the view that the rights in a lease are an asset for the purposes of the definitions of QSBCS and of SBC. Consequently, account must be taken of the FMV of the rights in the lease in determining whether a share is a QSBCS or whether a corporation is an SBC.
To determine whether or not the rights in a lease are an asset used principally in an active business carried on by the corporation, the use of the property which is the subject of the lease must be considered.
Official response
7 October 2016 APFF Roundtable Q. 11, 2016-0652941C6 F - Contrat de location / Capital lease
Q.12 Cash sale of Opco shares to leveraged Newco of other shareholder
A holds 50 common shares of Opco with a nominal adjusted cost base and paid-up capital and fair market value of $500,000, and B holds the other 50 common shares (also with a $500,000) FMV) with the same nominal PUC and an ACB of $100,000. A wishes to sell 30 of his shares to B for $300,000. B transfers his shares to Newco under s. 85 in exchange for a $100,000 note and common shares. Newco borrows $300,000 from a bank and purchases 30 Opco shares from A. Newco and Opco then amalgamate. Would CRA consider that s. 84(2) or 245(2) applied to the sale of shares by A or B to Newco?
Brief summary of oral response
See MacDonald. The terms of the note and the bank loan would need to be analyzed. S. 84.1 might be applicable – see Folio S1-F5-C1, paras. 1.38-1.41.
CRA written response
Subsection 84(2) is a specific anti-avoidance rule to counter the direct or indirect stripping of the surplus of a corporation. According to the Federal Court of Appeal in The Queen v. MacDonald, 2013 FCA 110, at para. 17, the conditions for the application of subsection 84(2) are as follows:
"A plain reading of the text reveals several elements that are necessary for its application: (1) a Canadian resident corporation that is (2) winding-up, discontinuing or reorganizing; (3) a distribution or appropriation of the corporation’s funds or property in any manner whatever; (4) to or for the benefit of its shareholders."
The wording of subsection 84(2) indicates that item (2) above is respecting the winding-up, discontinuance or reorganization of the business of the corporation.
It appears that Newco would be formed to: 1) acquire from Mr. B 50 shares in the capital stock of Opco; 2) secure a loan of $300,000 from a financial institution; and 3) to acquire from Mr. A 30 common shares in the capital stock of Opco. At first sight, there could be arguments to conclude that Newco would not carry on a business.
Similarly, assuming that Amalco would carry on the same business as that of Opco, it could be difficult to argue that this business would be reorganized due to the amalgamation given that the amalgamation would not have the effect of changing this business.
Given the hypothetical situation described above, it is difficult to conclude that there would a winding-up, discontinuance or reorganization of the business of Opco or Amalco.
Consequently, it could be that subsection 84(2) is not applicable in a situation similar to this. However, the wording of this question only briefly described the given hypothetical situation. Among other things, this question gives no information regarding the nature of the business carried on by Opco, the composition of the assets of Opco (for example, the level of liquidity), the magnitude of the surplus of the corporation or the time within which the loan from the financial institution and the note due to Mr. B would be repaid by Amalco. In the absence of such information, the CRA is not in a position to pronounce definitively on the potential application of subsection 84(2).
Moreover, before determining whether subsection 245(2) applies in a real given situation, it must be determined whether another legislative provision applies, such as for example section 84.1 or subsection 84(3).
Thus, in an actual particular situation, it must be demonstrated that the parties are dealing at arm’s length before concluding that section 84.1 does not apply to a situation such as in the situation described for Mr. A. The question of whether the vendor and the corporation which acquires the shares are dealing at arm's length is a question of fact. The CRA's guidelines for whether people are related persons or dealing at arm's length are set out in paras. 1.38 to 1.41 of the Income Tax Folio S1-F5-C1, Related persons and dealing at arm's length.
Similarly, if section 84.1 applied, it would be necessary to determine that the ACB of the transferred shares was not reduced in accordance with subsection 84.1(2) in order to determine the tax consequences of the application of section 84.1 in Mr. B’s situation.
In the facts of a particular situation, it must also be determined that there was no redemption, acquisition or cancellation in any manner whatsoever (other than a transaction referred to in subsection 84(2)) of any share of any class in the capital stock of Opco by it. Otherwise, subsection 84(3) would apply to the redemption, acquisition or cancellation.
Furthermore, it is only following consideration by the CRA of a series of transactions, whether during an audit of the series of transactions or as part of a request for an advance tax ruling in respect of such transactions, that the CRA could reach a definite conclusion on the application of the general anti-avoidance rule in subsection 245(2) with respect to a situation similar to that described above.
Finally, the wording of this question does not specify how the ACB was established for Mr. B’s shares in the capital stock of Opco, except for the fact that it did not ensue from a capital gains deduction under section 110.6 nor from the FMV of such shares at the valuation date. Although it is not possible to pronounce definitively in the context of this question, the CRA is concerned about "in-house" transactions to manipulate the tax base. The CRA continues to pay special attention to this type of transaction and, if necessary, could consider the application of subsection 245(2) in such circumstances.
Official response
Q.13 Allocation of safe income to discretionary shares issued at different times
On the incorporation of Opco in Year 1, two unrelated Holdcos (HC and HB) each subscribed $100 for 100 Class C or Class B voting common shares. In Year 8, HA (also unrelated) subscribed $50,000 for 100 Class A voting common shares of Opco at a time that Opco's aggregate safe income was $70,000 and the FMV of its shares was $100,000 (or $150,000 after the subscription). In Year 10, at a time that the aggregate safe income of Opco was $90,000 and the FMV of its shares $170,300, a $35,000 dividend was paid on the Class A shares of HA. How should the global safe income be allocated among the different classes given their different holding periods?
Brief summary of oral response
A comparison is required under s. 55(2.1)(c). For HA, one can only take $20,000 of safe income into account, so that $15,000 of the dividend would not come out of safe income. Immediately after the dividend, a pro-rated portion of the FMV of Opco would be $45,100 (($170,300-$35,000)/3) so that, including the $35,000 dividend, there was $80,100 of value for the Class A shares. This value shift to HA could entail a taxable benefit.
CRA written response
The answer to this question will depend on the FMV that could be attributed to the Class "A" shares in the capital stock of Opco held by HA. The FMV will be determined immediately before the dividend payment but taking into account that such shares will be entitled to an additional amount equal to the dividend declared in respect of those shares. This permits a calculation of what the hypothetical capital gain would be that would have been realized on a disposition of the share at FMV immediately before the dividend taking into account the assumptions referred to in paragraph 55(2.1)(c). This is a valuation question on which the CRA cannot pronounce in a hypothetical situation.
To determine whether paragraph 55(2.1)(c) applies, it is necessary to compare the dividend paid to the safe income on hand ("SIOH") earned or realized before the safe income determination time that could reasonably be considered to contribute to the hypothetical capital gain (based on the assumptions of this paragraph). In the current situation, the SIOH that it could reasonably be considered to contribute to the hypothetical capital gain on the Class "A" shares held by HA could not exceed the income earned or realized by the corporation after the issuance of Class "A" shares to HA. In the current situation, the composition of the $20,000 of such SIOH indicated by you must be examined. For example, a gain on assets of Opco had accrued to the date of the issue of the Class "A" shares to HA (which is reflected in the cost of the shares to HA), which had been realized since the issue of the Class "A" shares to HA and before the safe income determination time and was part of the $20,000 amount, could not be included in the amount that could reasonably be considered to contribute to the hypothetical capital gain on the Class "A" shares held by HA - since it was reflected in the cost of the shares to HA. Thus, such a gain would be subtracted from the $20,000 amount for the purposes of paragraph 55(2.1)(c).
If, on the facts described above, the income earned or realized by Opco after the date of issuance of the Class "A" shares in the capital stock of Opco HA represented business income, the SIOH which contributed to the hypothetical capital gain on the Class "A" shares could not exceed $20,000. All SIOH before the subscription (or, for instance, gain accrued prior to that subscription and subsequently realized) should generally be reflected in the shares’ ACB and, therefore, does not contribute to the hypothetical capital gain in accordance with the assumptions of paragraph 55(2.1)(c).
Under the assumptions indicated by you, there was an increase in the FMV of the corporation from the time of the shares subscription by an amount which was somewhat greater than the income earned or realized by Opco. In particular, the value of the corporation increased from $150,000 immediately after the subscription for the Class "A" shares to $170,300, while the income earned or realized subsequently to the share subscription was $20,000.
If the CRA considered that the dividend of $35,000 declared on the Class "A" shares in the capital stock of Opco was part of the FMV of the Class "A shares immediately before the dividend payment, the hypothetical FMV of the Class "A" shares held by HA is $80,100 ([($170,300 - $35,000) / 3] + $35,000). The hypothetical capital gain on the Class "A" shares held by HA is equal to $30,100. Assuming that the SIOH amount of $20,000 is derived from business income, it could be reasonable to consider that the SIOH from the date of issue of the Class "A" shares in the capital stock of Opco up to the safe income determination time ($20,000 according to the indicated facts) contributes to the hypothetical capital gain of $30,100 on the Class "A" shares of Opco.
The amount of $20,000 would represent a separate taxable dividend pursuant to paragraph 55(5)(f) and would not be subject to subsection 55(2). In contrast, if one of the purpose tests under paragraph 55(2.1)(b) was satisfied as well as the other conditions for the application of subsection 55(2), this provision would apply in respect of an amount of $15,000 (the excess of the $35,000 dividend over $20,000).
The CRA would accept that the amount of a dividend which is subject to subsection 55(2) does not reduce SIOH. In contrast, the SIOH of the corporation would be reduced by the portion of the dividend in respect of which subsection 55(2) does not apply.
If no other dividends were declared and paid, if there was no increase in SIOH of the corporation (following its reduction by a portion of the dividend paid to HA), if the value of the corporation changed from $170,300 to $135,300 ($170,300 minus $35,000) if Opco was liquidated and if the remaining property was distributed equally to each shareholder, the hypothetical capital gain on the Class "A" shares would be nil ($45,100 less $50,000). The hypothetical capital gain on the shares of the Class "B" and Class "C" shares would be $45,000 ($45,100 minus $100). Using these values, no SIOH could be attributed to the Class "A" shares held by HA, and the SIOH that could reasonably be considered to contribute to the hypothetical capital gain on the Class "B" and "C" shares held, respectively, by HB and HC would equal $35,000.
Our conclusion might be different if it were determined that the dividend of $35,000 was not part of the FMV of the Class "A" shares immediately before the dividend since the hypothetical capital gain would be reduced.
In a situation such as the one you mention, it is equally necessary to ensure that there is no other legislative provision which would result in tax consequences to one of the shareholders. Indeed, there should be a consideration inter alia what the effect is of the transfer of part of the value of the "B" and "C" shares by HB and HC to HA, which is accomplished by paying a discretionary dividend which is greater than the income earned or realized by Opco subsequently to the issuance of the Class "A" shares. Such a transfer of value or waiver of a portion of the accumulated value by one shareholder, having joined the corporation subsequently, to another appears unlikely where shareholders are dealing at arm’s length and it would be necessary to examine what motivated such an transfer or waiver.
Similarly, the answer to this question is not intended to give our general approval for the use of discretionary dividend shares. Indeed, the issuing and holding of shares as discretionary dividends could result in other tax consequences that may be adverse to certain taxpayers. For example, there may be situations where some provisions could apply such as subsections 15(1), 56(2), 69(1) and 246(1). Similarly, there may be abusive situations where the CRA would consider the use of the general anti-avoidance rule ("GAAR") in subsection 245(2).
It should also be noted that the use of discretionary dividend shares could have an adverse impact if a butterfly transaction was envisaged in a particular situation. Indeed, given the uncertainty in the valuation of discretionary dividend shares, it may make it more difficult to meet the conditions for considering that there is a distribution, as defined in subsection 55(1), for the purposes of paragraph 55(3)(b) in this situation. Similarly, the use of discretionary dividend shares could result in unintended consequences due to the difficulty connected to calculating the FMV of the shares where a reorganization under paragraph 55(3)(a) is envisaged.
Official response
7 October 2016 APFF Roundtable Q. 13, 2016-0652981C6 F - Allocation of the safe income on hand
Q.14 S. 55(2) re dividend on prefs with no accrued gain
Holdco holds 100 common shares of Opco and 100 non-participating preferred shares which are redeemable for, and have a PUC and ACB of, $100. Opco has some safe income. Would the payment of a dividend on the pref shares trigger the application of s. 55(2)?
Brief summary of oral response
There is no capital gain or safe income respecting those shares. What is the purpose of the dividend is question of fact.
CRA written response
According to our understanding of your indicated facts for this hypothetical situation, the FMV which could be attributed to the class "B" preferred shares in the capital stock of Opco held by Holdco A would be equal to the PUC of such shares. The question of determining the FMV of participating or non-participating shares that are entitled to discretionary dividends immediately before a dividend is paid is a valuation question on which the CRA cannot pronounce respecting a hypothetical situation.
Taking into account your FMV assumption, the hypothetical capital gain that would have been realized on a FMV disposition of class "B" preferred shares immediately before the dividend, taking into account the rules referred to in paragraph 55(2.1)(c), would be nil. Therefore, the discretionary dividend would exceed the amount of income earned or realized by any corporation - after 1971 and before the safe-income determination time for the transaction or event, or series of transactions or events – that could reasonably be 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 is received.
If paragraph 55(2.1)(c) applies, it is necessary to examine whether the conditions described in paragraphs 55(2.1)(a) and (b) are satisfied before concluding that the dividend triggers the application of subsection 55(2).
The question of whether any of the purposes of the payment or receipt of the dividend is one referred to in paragraph 55(2.1)(b) is a question of fact that would require an assessment of all the relevant facts in a given situation.
Subject to the exclusion of a dividend that is subject to tax under Part IV of the Act which is not refunded as a consequence of the payment of a dividend by a corporation, subsection 55(2) would apply in the present situation if all the conditions of paragraphs 55 (2.1)(a) to (c) were established.
If subsection 55(2) applied with respect to the discretionary dividend paid on the class "B" preferred shares, the CRA would accept that the amount of the dividend would not reduce the SIOH of the corporation. If to the contrary, subsection 55(2) was not applicable to dividends on the class "B" preferred shares, the dividend would reduce the SIOH of the corporation.
Official response
7 October 2016 APFF Roundtable Q. 14, 2016-0655921C6 F - Safe income on hand - Preferred shares
Q.15 Application of s. 55(2) to discretionary dividend on pref shares
X (an individual) holds 799,000 Class A common shares of Opco having a safe income on hand of $1M and a FMV of $1.8M. Opco pays a stock dividend of Class B shares which are voting, participating, bear discretionary dividends and are redeemable by Opco for $1, which is their PUC. X incorporates Holdco and transfers the Class B shares to Holdco under s. 85(1). Opco then pays a $1M dividend to Holdco. Does s. 55(2) apply? Does the answer change if there instead is a $1M increase in the PUC of the Class B shares?
Brief summary of oral response
There is no reduction in capital gain and no transfer of safe income to the Class B shares, so that the dividend did not come out of safe income. Accordingly, s. 55(2.1)(c) does not apply and one must turn to the purpose of the dividend.
CRA written response to Q.15(a)
On the time of the issue of the Class “B” share in the capital stock of Opco to Mr. X in payment of the stock dividend of $1 declared by Opco, it must be determined what the value of the class "B" share was at the time of its issue. This is a valuation question on which the CRA cannot pronounce in a hypothetical situation.
Based on the hypothetical facts stated above, the Class "B" Opco share capital would have a value of $1. Based on this value, the stock dividend did not result in the transfer of an unrealized capital gain to the Class "B" share nor decrease an unrealized capital gain on the Class "A" shares. Given this result and taking into account our long-standing position on the transfer of safe income on a stock dividend, there would be no transfer of safe income to the class "B" share in the capital of Opco in this situation.
Thereafter, the Class "B" share in the capital stock of Opco would be transferred to Holdco and the subsection 85(1) rollover rules would be used respecting the transfer. Since there would be no SIOH attributable to the Class "B" share owned by Mr. X, there would be no transfer of such safe income to Holdco. Furthermore, the holding period of the Class "B" share would begin at the time of the transfer to Holdco.
Thus, due to the payment of the discretionary dividend of $1 million, it must be determined what was the SIOH of Opco from the time Holdco held the Class "B" share in the capital stock of Opco until the safe income determination time. According to the facts stated above, there would be no safe income attributable to that holding period. Consequently, the dividend of $1 million paid to Holdco would exceed the SIOH of Opco from the beginning of the holding period by Holdco until the safe income determination time and no SIOH would contribute to the hypothetical capital gain on the class "B" share in the capital stock of Opco held by Holdco, according to the assumptions referred to in paragraph 55(2.1)(c).
If all other conditions were satisfied, subsection 55(2) would apply in respect of the dividend of $1 million.
Furthermore, the response of the CRA to question (a) relates only to the application of subsection 55(2) and is not intended to comment on any other provision of the Income Tax Act that could be applied in this situation.
And to Q.15( b)
If Opco proceeded with an increase in PUC rather than a cash dividend in this case, the CRA would have the same answer as for question (a).
Similarly to the answer to question a), the response of the CRA to question (b) relates only to the application of subsection 55(2) and is not intended to comment on any other provision of the Income Tax Act that could be applied in this situation.
Official response
Q.16 Allocation of safe income re dividend on estate freeze prefs
Holdco A holds 100 voting common shares of Opco with a paid-up capital and adjusted cost base of $100, as well as 100 estate freeze non-participating, non-voting preferred shares bearing a pre-determined dividend of 8% on their redemption amount of $1,000,000, having an ACB of $100 and having safe income of $700,000 traceable to the shares for which they had been exchanged. The shares of Opco have an aggregate fair market value of $2,500,000 and its global safe income is $1,700,000.
(a) If Opco generates safe income in the year of $150,000 and declares a dividend of $80,000 on its preferred shares, what portion of the dividend will be covered by the global safe income and, following the dividend’s payment, what will be the preferred shares’ safe income and the global safe income of Opco?
(b) What if Opco did not generate any safe income in the year before that dividend was declared?
CRA written response
The answer to your question will depend on the FMV that could be attributed to the freeze preferred shares in the capital stock of Opco held by Holdco A. This FMV will be determined immediately before the dividend payment but taking into account that such shares would be entitled to an additional amount equal to the dividend declared in respect of these shares. This permits the calculation of what would be the hypothetical capital gain that would have been realized on a disposition of the shares at FMV immediately before the dividend but taking into account the assumptions referred to in paragraph 55(2.1)(c) of the Act. This is a valuation question on which the CRA cannot pronounce in a hypothetical situation.
According to the facts stated above, the safe income on hand of the shares exchanged in the estate freeze was $700,000 and the estate freeze was carried out on a rollover basis. Thus, according to the longstanding position of the CRA, the SIOH of $700,000 attributable to the exchanged shares was transferred to the freeze preferred shares.
In addition to the $700,000 of safe income on hand contributing to the hypothetical capital gain on the frozen preferred shares (in accordance with the assumptions under paragraph 55(2.1)(c)), it must be established if there is SIOH earned or realized by the corporation subsequent to the freeze and up to the safe income determination time that would contribute to the hypothetical capital gain on the frozen preferred shares. To this end, it is not sufficient to establish the amount of safe income generated in the year of the dividend since, for example, this amount could be reduced due to a loss in years prior to the freeze or could be increased by safe income earned or realized in years prior to the freeze. Likewise, the amount of safe income earned in the year and earned or realized in prior years subsequent to the freeze might not contribute to the hypothetical capital gain on the frozen preferred shares (based on the assumptions in paragraph 55(2.1)(c)).
The question of whether an amount of SIOH contributes to the hypothetical capital gain on frozen preferred shares, calculated using assumptions of paragraph 55(2.1)(c), is a question of fact.
If the dividend of $80,000 was not greater than the SIOH of the corporation which contributed to the hypothetical capital gain on frozen preferred shares (the amount of $700,000 transferred at the time of the freeze could have been reduced due to previous dividends as well as SIOH that accumulated since the freeze if it contributed to the hypothetical capital gain on preferred shares), paragraph 55(2.1)(c) and subsection 55(2) would not apply. The dividend of $80,000 would firstly reduce the SIOH of the corporation from the time of the freeze if it contributed to the hypothetical capital gain on the freeze preferred shares and up to the lesser of safe income that contributed to the hypothetical capital gain on the freeze preferred shares and the dividend amount. Any difference between the amount of the dividend and this reduction in the post-freeze SIOH of the corporation would reduce the SIOH of $700,000 that is specifically attached to the freeze preferred shares freeze (less any prior reduction).
Depending on circumstances, it may be that the only SIOH contributing to the hypothetical capital gain on the frozen preferred shares was the amount of $700,000 less any previous reduction of such safe income. If the dividend amount of $80,000 was not greater than such SIOH, paragraph 55(2.1)(c) and subsection 55(2) would not apply. In such case, the SIOH of $700,000 (less any previous reduction) would be reduced by the amount of the dividend.
Official response
7 October 2016 APFF Roundtable Q. 16, 2016-0653001C6 F - Safe income and freeze preferred shares
Q.17 Effect of s. 111(4)(e) election on pre-transition debt of functional currency taxpayer
S. 111(12) deems a taxpayer who is indebted for debt with an accrued FX gain or loss to thereby hold “property” for s. 111(4) purpose, so that it may make the s. 111(4)(e) election. However, if the FX gain arises from a pre-transition debt as per s. 261(10) of a taxpayer who has made an elected functional currency election, it would appear that the s. 111(4)(e) election will not affect the FX gain which would be realized under s. 261(10).
(a) Does CRA consider that a gain arising from the application of s. 261(10) can be realized in the year terminating immediately before an acquisition of control, if a s. 111(4)(e) election is made respecting a pre-transition debt?
(b) If such an election is made, do ss. 40(10) and (11) apply respecting the foreign exchange gain on the pre-transition debt such that an equivalent gain is not realized again at the time that such debt is repaid?
CRA written response to Q.17(a)
Unless otherwise stated, phrases in quotes refer to terms as defined in subsection 261(1) of the Act.
The CRA is of the view that the provisions of subsection 111(4) of the Act, including the election under paragraph 111(4)(e), cannot be applied in respect of the portion of the foreign exchange gain or loss realizable by virtue of subsection 261(10) with respect to a "pre-transition debt" of a taxpayer, for the following reasons.
Paragraph 111(4)(e) depends on the application of subsection 111(12) which, in turn, requires the presence of a "foreign currency debt". The CRA is of the view that this determination is made at the time immediately before the acquisition of control. Subsection 111(8) defines "foreign currency debt" as a debt denominated in the currency of a foreign country. For an elected functional currency taxpayer, subparagraph 261(5)(f)(ii) provides that the term "currency of a country other than Canada" in this definition is replaced, in respect of the taxpayer and the particular taxation year, with the expression "currency other than the taxpayer's elected functional currency."
Where a "pre-transition debt" is denominated in the same currency as the "functional currency" of the taxpayer, it could not qualify as "foreign currency debt" for purposes of subsection 111(12) where the acquisition of control occurs in a "functional currency year" of the taxpayer. Thus, the provisions of subsection 111(4) would not apply.
With respect to a "pre-transition debt" denominated in a currency other than the "elected functional currency" of the taxpayer, it could qualify as a "foreign currency debt" for purposes of subsection 111(12). However, such a debt would be deemed, by virtue of subsection 261(9), to have been issued immediately before the taxpayer’s first "functional currency year" for the purposes of determining the amount of the taxpayer’s gain or loss, for a functional currency year of the taxpayer (other than gain or loss arising under subsection 261(10)), that is attributable to a fluctuation in the value of a currency. Thus, although the "pre-transition debt" is a "foreign currency debt" for purposes of subsection 111(12), only the fluctuation of the value of that currency vis-à-vis the "functional currency" from the time specified in subsection 261(9) until immediately before the acquisition of control would be subject to subsections 111(4) and (12).
And to Q.17(b)
As such an election cannot be made in respect of the portion of the foreign exchange gain realizable by virtue of subsection 261(10), subsections 40(10) and (11) will not apply.
Official response
Q.18 Non-application of s. 119 to non-TCP shares
In general, s. 119 provides a credit whose amount equals that of the Part XIII tax on dividends on shares that have been subject to a deemed disposition under s. 128.1(4) up to the amount of the tax on the capital gain that was realized thereon on the emigration. However, s. 119 only applies to property which is taxable Canadian property (“TCP”) which has been subject to such deemed disposition as a result of coming within the 50% test. Following the 2010 amendments, which narrowed what was TCP, the scope of application of s. 119 was not changed. In a Technical Interpretation, CRA simply confirmed, respecting dividends received on shares that had been disposed of on emigration to the U.S., that the s. 119 credit would be applicable where the value of the shares was derived principally (50% or more) from real or immovable property or Canadian or timber resource properties. Does CRA intend to modify its position and provide the s. 119 credit respecting dividends paid on shares which are not TCP but which have been deemed to be disposed of by virtue of s. 128.1(4)?
CRA written response
The CRA is unwilling to confirm what you infer to be the underlying policy of section 119 of the Act. In addition, the CRA is unable to accept that a credit under section 119 is applicable in the circumstances presented since the wording of section 119 is very clear and provides that, to qualify for the credit, the property deemed to have been disposed of must be capital property that was a TCP throughout the period beginning with the emigration and ending at the time of the actual disposition of the property.
Official response
7 October 2016 APFF Roundtable Q. 18, 2016-0652791C6 F - Taxable Canadian property and Part XIII tax
Q.19 Reimbursement of attributed/reallocated income
Situation 1
Spouse A transfers $100,000 to Spouse B, who receives bank interest on that sum in 2012 and 2013. In 2014, CRA attributes all of such interest to Spouse A under s. 74.1(1).
Situation 2
An individual partner (A) and corporate partner (B) of an LP have been sharing the income on a 90/10 basis. CRA applies s. 103 to instead allocate 40% of the income to B.
Situation 3
A corporation (A) and an individual (B) hold preferred and common shares, respectively, of Corporation C. A exchanges the preferred shares, which have a FMV of $100,000, for new common shares of Corporation C. In 2014, B sells his common shares for $100,000. CRA assesses A under s. 56(2) and s. 69(1)(b) on a capital gain of $99,990 on the basis that the common shares for which A had exchanged its preferred shares had a FMV of only $10. (a) Is the income allocated to the other taxpayer in Situations 1 and 2 under ss. 74.1(1) and 103 not required to be reimbursed by the taxpayer who received the income? (b) Regarding ss. 15(1) and (2), did the excess distributions paid by the LP to A in Situation 2 give rise to a debt of A to the LP or to B? (c) In Situation 3, is B required to reimburse A for the sale proceeds received by him? (d) Would the answer of CRA respecting a reimbursement of attributed income remain the same where the income was attributed to another taxpayer by reason of s. 15(1), 74.1(2), 74.2, 74.3, 74.4(2), 75(2), 85(1)(e.2) or 86(2)?
CRA written response to Q.19(a), (c) and (d)
At the APFF Congress in 2015, a similar question was put to the CRA (question 13). In response to that question, the CRA indicated that the Income Tax Act is an accessory statute that is applied to the effects arising from the rights, obligations and contracts between parties. Thus, the question whether a person is legally obliged to repay another person is a matter of civil law or common law. Moreover, the provisions of the Income Tax Act mentioned in questions 19 a), c) and d) do not provide for a reimbursement obligation by a taxpayer where a benefit was allocated or where income was attributed to another taxpayer.
And to Q.19(b)
In Situation 2, if under civil law or common law, as applicable, partner A did not obtain a loan nor become the debtor of the partnership or of partner B by reason of distributions in favour of partner A under the partnership agreement, the conditions for the application of subsection 15(2) of the Act would not be satisfied. Moreover, there is not enough information to reach a conclusion as to the application of subsection 15(1) in a situation similar to Situation 2.
Official response
7 October 2016 APFF Roundtable Q. 19, 2016-0655841C6 F - Reimbursement of attributed income
Q. 20 Poulin decision re resigned employee
Following the Poulin decision, does CRA intend to modify its position respecting the potential application of s. 84.1 where a departing employee sells shares of the employer to a Buyco?
CRA written response
It must first be emphasized that the CRA generally agrees with the Court when it recognized that "[t]he fact that Mr. Poulin and Mr. Turgeon had structured the transaction such that Mr. Poulin could benefit from his capital gains deduction does not mean that the parties acted in concert without separate interests.” However, the Court noted that this eventuality is not untrammelled: "That being said, while it is completely acceptable for an entrepreneur to want to benefit from tax relief available to them, it is, however, necessary to ensure that the method used is permitted.” Thus, the court held that Mr. Turgeon and Hélie Holdco acted in concert without separate interests and, consequently, did not deal at arm's length. The CRA is and has always been of the view that the question whether, for the purposes of section 84.1 of the Act, unrelated persons deal at arm's length at a given time is a question of fact requiring the analysis of all the facts and circumstances of a particular given situation. In this regard, the mere fact that (as with Mr. Poulin) an employee/shareholder wishes to dispose of all their shares of capital stock of a corporation to a BuyCo who wishes to acquire them is not in itself sufficient to conclude that these taxpayers are dealing at arm’s length. In fact, in the context of a particular given situation, it could nevertheless be established that the employee/shareholder and BuyCo acted in concert without separate interests. For example, the facts may demonstrate that, as with Hélie Holdco, BuyCo incurred no economic risk in participating in the transaction, did not derive any benefit from the purchase of shares, had no interest other than to allow the employee/shareholder to realize a capital gain and benefit from the deduction, and had no function independent of the employee /shareholder or the operating corporation - and, in short, it only participated in the transaction as an accommodation for the benefit of the employee/shareholder. In closing, where taxpayers are planning to undertake transaction where section 84.1 could apply, obtaining an advance income tax ruling prior to such transactions is recommended.
Official response
7 October 2016 APFF Roundtable Q. 20, 2016-0655831C6 F - Employee Buycos and the Poulin Case
Q. 21 Employee bonus payable in shares
A Canadian-controlled private corporation pays a bonus to an employee in accordance with the terms of the employment contract which is payable in shares. The corporation values its shares for the purpose of determining the number of shares that will satisfy the stipulated bonus amount (e.g., $50,000). (a) Can CRA confirm that the share issuance will be governed by s. 7, particularly s. 7(1.1), so that no amount will be included in the employees income in the year of issuance of the shares? (b) Is the answer the same if the employee has the choice to be paid the sum in cash or shares, and chooses shares? (c) Can the corporation add the full $50,000 to the paid-up capital of the shares it so issues without tax consequences to the employee (see Aylward).
Brief summary of oral response
(a) Yes, to the extent that the issuance occurs pursuant to an agreement with the executive (see Transalta). If the amount is purely discretionary, there is no agreement and s. 7 does not apply.
(b) Yes.
(c) Yes, assuming that (as per s. 84(1)(b)), the liabilities of the corporation are reduced by at least that amount.
CRA written response to Q.21(a) and (b)
Section 7 of the Act applies where a corporation has agreed to sell or issue its shares or securities of a qualifying person with whom it does not deal at arm's length to an employee of the particular qualifying person or of a qualifying person with which the particular qualifying person does not deal at arm's length. Consequently, an agreement under which an employer undertakes to issue or sell securities must exist between the parties in order for section 7 to apply. In the case of TransAlta Corporation v. The Queen, the Tax Court of Canada ("Court") concluded that section 7 did not apply to bonuses granted under a share purchase plan based on performance. Indeed, the Court found that the plan was not an agreement to sell or issue shares for the purposes of section 7 since the plan was expressly discretionary and no legal rights or obligations had been created. According to the Court, the words "agreed" and "agreement" in section 7 signify a legally binding agreement, that is to say, the granting of legal rights to employees and the creation of corresponding obligations of the employer. The CRA is of the view that this principle must be applied in analyzing whether or not an arrangement comes within section 7. The question whether in a particular case an agreement is an agreement to issue shares for the purposes of section 7 is one of fact and law which cannot be resolved until consideration of all relevant facts and documents. Consequently, it is not possible for us to determine whether or not section 7 is applicable in respect of the situations presented. For example, in the situation where an employer establishes an arrangement under which it undertakes to award a bonus based on the employee reaching certain measurable performance objectives and the employer agrees to pay this bonus in shares, then this arrangement could be an agreement contemplated by section 7. On the other hand, if an employer establishes an arrangement under which it has full discretion to award a bonus or has full discretion as to the mode of payment of this bonus (in shares or in cash), the discretion of the employer under this arrangement would ensure that it could not be an agreement for purposes of section 7 because there is no enforceable commitment to issue shares. It is possible that an arrangement which is not initially within section 7 due to the employer's discretion as to whether or not to grant shares could become an agreement in which section 7 applies at the time the employer undertakes to issue shares. This could be the case in the situation where an employer establishes an arrangement under which an employee is entitled to a bonus ranging from 0 to 100 shares payable within two years from the date of the arrangement. After the first year, the employer exercises its discretion and sets the amount of the bonus at 75 shares, which is payable in shares at the end of the year if the employee is still employed by the employer. In this situation, we consider that the employer's undertaking [“engagement”] to pay the bonus in shares is an agreement for purposes of section 7 from the time that the employer sets the value of the bonus at 75 shares. Subsection 7(1.1) modifies when an employee is deemed to have received a benefit in respect of shares of a corporation under paragraph 7(1)(a). One of the conditions for applying this rule is that the corporation in question is a CCPC at the time it agreed to issue a share of its capital stock. Subject to the comments made above, it is possible that subsection 7(1.1) applies where an agreement gives an employee the choice between a bonus in shares or a bonus in cash and the employee chooses payment in shares. We are of the view that the choice of the employee, in itself, does not preclude an undertaking from being an agreement to issue shares. In such a situation, the time when the employee is deemed to have received a benefit because of the application of paragraph 7(1)(a) as modified by subsection 7(1.1) is the taxation year in which the employee disposed of or exchanged the securities rather than the taxation year in which the shares were acquired.
And to Q.21(c)
The long-standing position of the CRA regarding the starting point for calculating the PUC of a class of shares, in subparagraph (b)(iii) of the definition of "paid-up capital" in subsection 89(1), is described in paragraph 2 of the Interpretation Bulletin IT-463R2 as follows:
“Since subparagraph (b)(iii) of the definition of "paid-up capital" provides that the amount of the paid-up capital of a class of shares is initially determined without reference to the provisions of the Income Tax Act, the calculation is based on the relevant corporate law rather than tax law.”
For example, subsection 26(1) of the Canada Business Corporations Act ("CBCA") provides that "[a] corporation shall maintain a separate stated capital account for each class and series of shares it issues.” Furthermore, subsection 26(2) CBCA provides that "[a]corporation shall add to the appropriate stated capital account the full amount of any consideration it receives for any shares it issues.” Thus, the practice of the CRA is to determine the PUC of any particular class of shares in the capital stock of a corporation by examining, in particular, the share register, minutes of Board meetings , resolutions or by-laws passed at those meetings, financial statements, notes to the financial statements, deeds of sale, rollover tax forms and by considering the corporate law and applicable generally accepted accounting principles. To the extent that the liabilities of the CCPC were reduced by an amount not less than $50,000, subsection 84(1) would not be applicable by reason of the exception in paragraph 84(1)(b). In finishing, the above comments disregard the possible application of other provisions of the Income Tax Act given the absence of information on the subsequent transactions which were carried out in respect of shares issued by the corporation.
Official response
7 October 2016 APFF Roundtable Q. 21, 2016-0655901C6 F - Section 7 and bonus paid in share