11 October 2019 APFF Roundtable
Email this ContentTranslation disclaimer
The translations below of the CRA written responses 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. See also the general Disclaimer below.
This page contains our summaries of questions posed at the 11 October 2019 APFF Federal Roundtable held in Montreal, Quebec together with our translations of the full text of the Income Tax Ruling Directorate’s provisional written answers (which were orally presented by Jean Lafrenière, Marie-Claude Routhier and Michel Lambert). We use our own titles, and footnotes are (depending on how routine they are) either excluded or moved to the body of the answer.
The 11 October 2018 APFF Financial Strategies and Instruments Roundtable is provided on a separate page.
Q.1 Dividend refund for s. 84.1 dividend
Mr. A transferred his shareholding of Opco 1 (wholly-owned by him) to a corporation (Opco 2) equally owned by him and his spouse in consideration for a note. Per 2002-0128955, the resulting deemed dividend under s. 84.1(1)(b) would not generate a dividend refund (DR). Does CRA maintain this position?
CRA Preliminary Response
No. We conducted a fresh analysis of this problem and reconsidered our previous positions in that regard. In the light of that analysis, we have come to the conclusion that the position described in the Interpretation no longer represents the position of the CRA. In particular, according a DR to a corporation deemed to have paid a dividend by virtue of paragraph 84.1(1)(b) provides in our view a result that is more compatible with the integration principle enshrined in the Income Tax Act.
Official Response
Q.2 Sum paid by new owner for termination of residential lease
A tenant had been annually renewing a lease of a personal-use condo since the time the condo was first leased in July 2013. The condo was sold in February 2019. The new owner, who wished to dwell in the premises, was not entitled to terminate the lease until effective July 2020. In consideration for the early termination of the lease, the new owner paid $15,000 to the tenant. S. 20(1)(z) provides for deductibility of the amount specified notwithstanding ss. 18(1)(a) and (h).
(a) Is the $15,000 deductible in computing the new owner’s income under s. 20(1)(z) notwithstanding that the new owner wishes to inhabit the condo following the termination of the lease?
(b) 2007-0254721R3 confirmed that an amount received for the termination of a lease can come within the principal residence exemption. For purposes of calculating the application of the principal residence exemption, should the tenant be treated as holding the residence since July 2011?
CRA Preliminary Response to Q.2(a)
In general, paragraph 20(1)(z) allows the lessor of a property to deduct for a year in the manner provided for, a fraction of the amount paid or payable for the termination of a lease, depending on the term of the lease remaining at the time of termination, to the extent that the property was owned at the end of the year by the landlord or a person with whom the landlord was not dealing at arm’s length and no part of the amount was deductible by the taxpayer under paragraph 20(1)(z.1) in computing the taxpayer’s income for a preceding taxation year.
Paragraph 20(1)(z) is applicable notwithstanding paragraphs 18(1)(a), 18(1)(b) and 18(1)(h). However, the amount to be deducted must be applicable wholly or in part to income from a business or property.
Consistently with Stewart v. The Queen, in determining whether a particular activity constitutes a source of income, the taxpayer must demonstrate that the taxpayer intended to carry on that activity in order to realize a profit and to present evidence supporting that intention. In this case, the leasing activity does not appear to be free from personal aspects and it would be necessary to consider whether it is carried on in a sufficiently commercial manner so as to establish the existence of a source of income.
Whether there is in reality a source of income is a question of fact which can only be determined by taking into account all relevant facts. We cannot make a definitive determination solely on the basis of a summary example.
Furthermore, by virtue of section 67, no deduction can be made in respect of an expense in computing income, except to the extent that such expense was reasonable in the circumstances. The CRA may question the reasonableness of an expense with respect to the source, if the existence of that source requires demonstration.
Furthermore, where an amount is part of the cost of a property, such an amount should not be deducted under subsection 20(1). Whether an amount is part of the cost of a property remains a question of fact.
CRA Preliminary Response to Q.2(b)
As explained in paragraphs 7 and 8 of Interpretation Bulletin IT-359R2 [archived], where the tenant of a leased property receives from the owner of that property an amount to obtain the termination of its lease, the CRA considers that that amount constitutes a capital amount for the tenant and that the tenant relinquished a right or rights in respect of a leasehold interest, and that consequently such an amount represents proceeds of disposition of part or all of the leasehold interest.
In Quebec, where there is a civil law system, leasehold interests are generally understood, for the purposes of the Income Tax Act, as a right in a lease. In addition, by virtue of paragraph 248(4.1) and for the purposes thereof, a lease is included in real rights.
The definition of "principal residence" in section 54 provides that a leasehold interest may be a principal residence.
In the context described, the CRA understands that there was a continuation of the residential lease each year and on the transfer of ownership between the old and the new owner. Consequently, there would have been no leasehold disposition until the lease was terminated and the date of acquisition of the leasehold interest should be the time that the lease was acquired by the tenant from the former owner.
Official Response
11 October 2019 APFF Roundtable Q. 2, 2019-0812611C6 F - Résiliation d'un bail - Lease cancellation
Q.3 Computing principal residence exemption following s. 45(3) election for duplex
The two units in a duplex that Monsieur acquired in January 2011, representing 40% and 60% of its floor area, respectively, were used for rental to a third party, and for his principal residence, respectively. In July 2019 he ceased to rent out the first unit, and appropriated it to his residence. By making a s. 45(3) election respecting his change of use under s. 45(1)(c) (as permitted by the 2019 Budget changes), he was deemed to have not disposed of the unit that had been used for rental purposes.
If he disposed of the duplex in December 2022, how is he to compute the principal residence exemption?
CRA Preliminary Response
An immovable is usually considered to be a single property unless it is legally subdivided into two or more separate properties. Real property may, however, include one or more housing units for the purposes of the principal residence exemption.
Determining the number of housing units in a building for the purposes of the principal residence exemption is a question of fact that can only be resolved after an analysis of all relevant circumstances. For the purposes of this response, however, the CRA has assumed that each of the units described in the submitted situation is a housing unit for the purposes of the principal residence exemption.
In the situation submitted, the CRA is of the view that there are three housing units in the immovable over the years, namely the unit that the taxpayer rented from 2011 to 2019 (Unit 1), the one in which the taxpayer lived from 2011 to 2019 (Unit 2) and the housing unit resulting from the 2019 in which the taxpayer lived from that time on (Unit 3).
Where more than one housing unit in an immovable is eligible for a principal residence designation for different years, the taxpayer must file with the taxpayer’s income tax return for the taxation year of the disposition of the property a T2091IND-WS Principal Residence Worksheet, and designation 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 immovable that are the subject of a designation.
The taxpayer will therefore have to file two worksheets and two T2091 forms in the year of disposition of the immovable if the taxpayer wishes to designate Unit 2 and Unit 3 as his principal residence for the applicable years.
Where an election under subsection 45(3) is made, the taxpayer must inform the CRA by enclosing a duly signed letter to that effect with the taxpayer’s return for the year in which the taxpayer actually disposed of the property, or earlier if the CRA issues a formal demand for that election. In that letter, the taxpayer should provide all relevant information related to the change of use.
With respect to the calculation of the capital gain, an allocation of the adjusted cost base ("ACB") and the proceeds of disposition of a property based on the size of each unit is, in some cases, that of a reasonable allocation. However, the allocation does not need to be based on area. All factors that may affect the value of any unit in the building must also be considered.
Official Response
Q.4 Meaning of “near equal”
Lavrinenko found that the “near equal” concept under the “shared-custody parent” definition was to be handled by rounding relative residing-with-the-child percentages to the nearest multiple of 10%, so that effectively, the threshold for “near equal” was 45%. The CRA web page refers to “near equal” being satisfied where the two parents alternate between four days and three days, which works out to 43%. Does CRA continue to maintain that policy?
CRA Preliminary Response
A written answer will be sent to the APFF after the conference as soon as possible.
Q.5 Deductibility of litigation/pre-litigation professional fees
Are the following fees or expenses of professionals, incurred in dealing with questioning, demands for information, requested relief or denials by the taxing authority in a federal or provincial income tax context, deductible under s. 60(o)(i) or 9?
(a) The fees or expenses of professionals engaged regarding an audit.
(b) The fees or expenses of professionals engaged in making a request for interest or penalty relief.
(c) The fees or expenses of professionals appearing before the Administrative Tribunal of Québec following a decision of Retraite Québec respecting the tax credit provided for family allowances.
CRA Preliminary Response
General Comments
Professional fees or expenses referred to in paragraph 60(o) are generally deductible under that paragraph when incurred in an objection or an appeal within the meaning of that provision. The determination of that time is a question of fact.
Furthermore, in order to be deductible under section 9, professional fees or expenses incurred by a taxpayer must satisfy all the conditions provided in the Income Tax Act. In particular, they must be incurred in current activities, transactions or contracts that are necessary that are necessary or incidental to the gaining or producing of income from the business or property of the taxpayer.
The application of one or more provisions of the Income Tax Act requires the analysis of all facts relating to a particular case. As a result, and since the statement in this question is only a very brief description of the particular situations, the following comments may not apply in their entirety to a specific set of facts.
CRA Preliminary Response to Q.5(a)
We are of the view that subparagraph 60(o)(i) applies to fees or professional fees incurred as part of an audit from the time that the taxpayer was informed that the taxpayer was subject to an audit or new examination respecting the taxpayer’s tax return.
CRA Preliminary Response to Q.5(b)
In general, we are of the view that the amount of professional fees or expenses incurred to make a claim for interest and penalty relief is not deductible under section 9 or subparagraph 60(o)(i).
CRA Preliminary Response to Q.5(c)
We are of the view that the amount of the professional fees or expenses incurred to mount a challenge before the Administrative Tribunal of Québec following a decision rendered by Retraite Québec concerning the tax credit granting an allowance to families can generally be deductible under subparagraph 60(o)(i).
Official Response
Q.6 Timing of CDA addition on s. 88(1) wind-up
Holdco, which has a calendar taxation year-end, commences the winding-up of its wholly-owned subsidiary (Opco – which has a June 30 taxation year-end) on March 31, 2018 with an authorizing resolution, and the Opco assets and liabilities are distributed and assumed on that date. Opco is dissolved on April 15, 2019. Does the $500,000 capital dividend account (CDA) of Opco get added to the $100,000 CDA of Holdco upon the occurrence of the winding-up date (March 31, 2019), the June 30, 2018 taxation year end of Opco, the December 31, 2018 taxation year end of Holdco or the April 15, 2019 dissolution date?
CRA Preliminary Response
In a situation such as the one presented, we understand that subsection 88(1) applies to the winding-up of Opco into Holdco because Opco is a "taxable Canadian corporation", as that term is defined in subsection 89(1), and immediately before the winding-up, Holdco (another "taxable Canadian corporation") held 100% of the issued shares of each class of the capital stock of Opco.
Paragraph 88(1)(e.2) reads as follows:
Winding-up
88 (1) Where a taxable Canadian corporation (in this subsection referred to as the “subsidiary”) has been wound up after May 6, 1974 and not less than 90% of the issued shares of each class of the capital stock of the subsidiary were, immediately before the winding-up, owned by another taxable Canadian corporation (in this subsection referred to as the “parent”) and all of the shares of the subsidiary that were not owned by the parent immediately before the winding-up were owned at that time by persons with whom the parent was dealing at arm’s length, notwithstanding any other provision of this Act other than subsection 69(11), the following rules apply:
[...]
(e.2) paragraphs 87(2)(c), (d.1), (e.1), (e.3), (e.42), (g) to (l), (l.21) to (u), (x), (z.1), (z.2), (aa), (cc), (ll), (nn), (pp), (rr) and (tt) to (ww), subsection 87(6) and, subject to section 78, subsection 87(7) apply to the winding-up as if the references in those provisions to(i) “amalgamation” were read as “winding-up”,
(ii) “predecessor corporation” were read as “subsidiary”,
(iii) “new corporation” were read as “parent”,
[...]
Paragraph 87(2)(z.1), as amended by paragraph 88(1)(e.2), reads as follows:
Capital dividend account
(z.1) for the purposes of computing the capital dividend account of the new corporation, it shall be deemed to be the same corporation as, and a continuation of, each predecessor corporation, other than a predecessor corporation to which subsection 83(2.1) would, if a dividend were paid immediately before the amalgamation and an election were made under subsection 83(2) in respect of the full amount of that dividend, apply to deem any portion of the dividend to be paid by the predecessor corporation as a taxable dividend;
It follows from paragraph 87(2)(z.1) (as modified by paragraph 88(1)(e.2)) that in calculating the amount of a parent's CDA, the parent corporation is deemed to be the same corporation as, and a continuation of, its subsidiary. Thus, when the subsidiary has been wound-up pursuant to subsection 88(1), the parent corporation must take into account each element making up the CDA of the wound-up subsidiary at that time, assuming that subsection 83(2.1) would not apply to the subsidiary.
The term "winding-up" is not defined in the Income Tax Act. The CRA's general position on that term is set out in Interpretation Bulletin IT-126R25.
CRA states in Interpretation Bulletin No. IT-126R26 that it considers a corporation to have been wound-up for the purposes of subsections 88(1) and 88(2) in the following situations:
(a) where it has followed the procedures for winding-up and dissolution provided by the appropriate federal or provincial companies act or winding-up act, or
(b) where it has carried out a winding-up, other than by means of the statutory procedures contemplated in (a) above, and has been dissolved under the provisions of its incorporating statute.
At paragraph 5 of Interpretation Bulletin IT-126R2, the CRA states that it considers that where the formal dissolution of a corporation is not complete but there is substantial evidence that the corporation will be dissolved within a short period of time, for the purpose of subsections 88(1) and (2) the corporation is considered to have been wound up. The CRA also states that where a corporation is not dissolved in a particular year because of the existence of outstanding litigation the CRA will accept that subsection 88(1) or 88(2) applies in that year if all conditions listed in Interpretation Bulletin No. IT-126R2 are satisfied.
In calculating its CDA, Holdco will have to take into account each element that made up Opco's CDA when it was wound-up within the meaning of "have been wound up", as stated by the CRA in Interpretation Bulletin IT-126R2.
The determination of when a corporation is wound up for the purposes of subsections 88(1) and 88(2) requires consideration of all facts and circumstances relevant to a particular situation. In view of the fact that there is very little information in this statement, we are limited to providing the general comments above. It should be noted that the year-end date of Opco or Holdco is not relevant in determining when Holdco takes into account Opco's CDA components in the calculation of its CDA.
Official Response
11 October 2019 APFF Roundtable Q. 6, 2019-0812651C6 F - CDA and wind-up of a subsidiary
Q.7 Addition to per-kilometer allowance where carpooling
To encourage car-pooling, an employer increases the per-kilometer amount it pays to employees in the course of their employment (of $0.50 per kilometer) by $0.50 per kilometer for each additional employee accompanying the driver. An allowance is not reasonable under ss. 6(1)(b)(x) and (xi) unless it is paid as a function of the number of kilometers travelled and the recipient is compensated for the recipient’s expenses.
Does this additional allowance render it or the aggregate allowance taxable?
CRA Preliminary Response
A written answer will be sent to the APFF after the conference as soon as possible.
Q.8 Need for surplus computations
Canco, which did not prepare a detailed calculation of its exempt surplus, hybrid surplus and taxable surplus accounts, nor of its hybrid underlying tax and underlying foreign tax accounts in respect of FA. FA claimed a s. 113(1) deduction equalling the amount of a dividend received from a wholly-owned foreign affiliate (“FA”) based on the general ordering rules in Regs. 5900(1) and 5901(1). Should a more careful review indicate that the dividend was not otherwise fully sheltered by the s. 113 deduction, Canco would wish to utilize the adjusted cost base (“ACB”) of the FA shares.
Are detailed surplus account computations essential to support the 113 Deduction?
CRA Preliminary Response to Q.8(a)
The calculation of surplus accounts is required inter alia to substantiate a deduction claimed under subsection 113(1). The detailed rules in Part LIX of the Income Tax Regulations, including the definitions of "exempt surplus", "hybrid surplus" and "taxable surplus", establish the manner of calculating these surplus accounts, as well as the amounts deemed to have been paid on each of these accounts and pre-acquisition surplus for the purposes of the various paragraphs of subsection 113(1).
The balance of those accounts is also relevant to the application of other provisions of the Income Tax Act, including paragraph 55(5)(d), subsection 90(9) and the interaction between subsection 40(3) and paragraph 93(1.1)(b).
Taxpayers and their representatives must exercise due care in claiming the deduction of a dividend amount under subsection 113(1) and must ensure adequate allocations are made pursuant to the relevant provisions of the Income Tax Regulations. Under a self-assessing system, the taxpayer is responsible for computing the taxpayer’s taxable income, declaring it and determining the taxpayer’s tax payable pursuant to the provisions of the Income Tax Act. In that context, subsection 152(7) provides that the Minister is not bound by a return or information supplied by or on behalf of a taxpayer and may, notwithstanding a return or information so supplied, assess the tax payable under Part I of the Income Tax Act.
If a taxpayer does not submit complete computations of surplus to the CRA, the general practice of the CRA is to refuse the deduction claimed under subsection 113(1).
Furthermore, taxpayers are also responsible for documenting their own affairs in a reasonable manner. In that regard, subsection 230(1) expressly provides that they must keep records and books of account in such form and containing such information as will enable the taxes payable under the Income Tax Act to be determined. Pursuant to paragraph 231.1(1)(a), an authorized person of the CRA may inspect, audit or examine the books and records of a taxpayer.
Finally, an unsupported claim for a deduction under subsection 113(1) may be subject, depending on the circumstances, to the application of subsections 152(4), 163(2), 163.2(2) and 239(1).
CRA Preliminary Response to Q.8(b)
In general, paragraph 5901(2)(b)ITR provides that where a foreign affiliate of a corporation resident in Canada pays a whole dividend, the corporation resident in Canada can file an election regarding pre-acquisition surplus so that the dividend is deemed to have been paid in whole or in part out of the pre-acquisition surplus in respect of the corporation and not out of other surplus accounts.
ITR subparagraph 5901(2)(b)(i) ITR establishes the filing deadline by which a taxpayer can make an election regarding pre-acquisition surplus. The election must generally be filed with the Minister by the filing-due date for the corporation resident in Canada for its taxation year in which the whole dividend was paid (or, if a joint election is to be made by corporations resident in Canada referred to in ITR subparagraph 5901(2)(b)(i), not later than the earliest of the filing-due dates for their taxation years).
If the conditions in ITR subsection 5901(2.1) are satisfied, ITR subsection 5901(2.2) provides that the Minister may exercise her discretion so that a late pre-acquisition surplus election is deemed to have been filed within the required time. It should be noted that the conditions of application of ITR subsections 5901(2.1) ITR and 5901(2.2) differ from those of subsection 220(3.2), which governs the elections enumerated in ITR section 600. (Note that the election regarding pre-acquisition surplus is not enumerated).
The conditions set out in ITR paragraphs 5901(2.1)(a) and 5901(2.1)(b) require in particular that (i) the corporation resident in Canada has determined not to make the pre-acquisition surplus election in respect of the whole dividend before the applicable filing-due date and (ii) the corporation demonstrates that the determination was made using reasonable efforts. As noted above, the CRA is of the view that a deduction claimed under subsection 113(1) based on surplus balances without a detailed computation would not meet the conditions for the application of that subsection. Consequently, in the situation submitted, the determination not to make an election regarding pre-acquisition surpluses on that basis will generally not be considered to have been made as a result of reasonable efforts, so that it would not generally be considered that Canco satisfied the requirements set out in ITR 5901(2.1)(b).
Furthermore, ITR subsection 5901(2.2) provides that, in the opinion of the Minister, the circumstances must be such that it would be "just and equitable" to permit the late filing of a pre-acquisition surplus election. In that regard, the following statement is found in the Department of Finance's Explanatory Notes to ITR section 5901 (released October 24, 2012, Bill C-48):
“Provision is also made, in new subsection 5901(2.1) and (2.2), for late-filing of the pre-acquisition surplus election in paragraph 5901(2)(b). Although the ability to late file the election is subject to the discretion of the Minister, it is generally expected that the "just and equitable" standard would be met where the taxpayer's decision not to file by the normal deadline was based on reasonable expectations as to the relevant surplus balances of its foreign affiliates and those surplus balances require adjustment because of subsequent assessments made by a foreign tax authority or the Canada Revenue Agency. However, the taxpayer must have made reasonable efforts in determining not to file the election in the first place and is expected to have adequately documented those efforts at the time of that determination, i.e. before the normal deadline for filing the election.”
The CRA is of the view that, in the context of Canada's self-assessment tax system, the circumstances would not be such that it would be "just and equitable" to permit the late filing of a pre-acquisition surplus election where Canco did not make a detailed computation of the surplus accounts, relying on the assumption that the late filing of the election and the related reduction in the calculation of the ACB to Canco of the FA shares would not result in no net inclusion to Canco’s taxable income for the year.
Official Response
11 October 2019 APFF Roundtable Q. 8, 2019-0821311C6 F - APFF 2019 Q.8: Surplus Documentation
Q.9 Spousal trustees’ discretion and s. 256(7)(i)(ii)
Do trustees of a spousal trust under s. 70(6)(b) have a discretionary power respecting the distribution of income (or capital) of the trust notwithstanding that there is no discretion to distribute the income to (or encroach on capital in favour of) any person other than the spouse? If “no,” would the condition in s. 256(7)(i)(ii) be satisfied?
CRA Preliminary Response
The question of whether the trustees of a spousal trust within the meaning of paragraph 70(6)(b) have discretion respecting distributions of income following the death of the spouse or common-law partner or distributions of capital is one of fact, and that determination requires an analysis of the terms of the trust indenture. However, the CRA is generally of the view that the trustees of such a trust who have the power to encroach on the capital in favour of the spouse or common-law partner have a discretionary power respecting the capital of the trust.
Subparagraph 256(7)(i)(ii) is broadly worded and provides that at any time at or after the replacement of the trustee, no amount of income or capital to be distributed in respect of an interest in the trust depends upon the exercise, or the failure to exercise, by any person or partnership of a discretionary power. Consequently, depending on the circumstances and terms of the Trust Indenture, the condition set out in subparagraph 256(7)(i)(ii) could not be satisfied in the case of a spousal trust as defined in paragraph 70(6)(b), which would result in paragraph 256(7)(i) not applying to deem there to be no acquisition of control of the corporation. This could be the case inter alia where the trustees of a spousal trust have a power to encroach on the capital in favour of the spouse or common-law partner.
Official Response
11 October 2019 APFF Roundtable Q. 9, 2019-0812781C6 F - Acquisition of control and trusts
Q.10 Effect of subsidiary’s operating losses on parent shares’ SIOH
When Holdco was incorporated and capitalized with $500,000 of share capital, it incorporated Opco 1 and 2 and subscribed $100 and $499,900 for shares of Opco 1 and 2, respectively. Opco 1 realized $900,000 in safe income and its shares now have a fair market value (FMV) of $1,000,000. Opco 2 realized operating losses of $2,000,000 in building up an intangible asset. As it financed the losses in part with third-party debt of $1,500,100, the shares of Opco have an FMV of $499,900.
Should the safe income attributable to the shares of Holdco be reduced by negative safe income given that the latter does not reduce the accrued capital gain in the shares of Holdco? Is $900,000 the amount of the safe income attributable to the shares of Holdco, being the safe income attributable to the shares of Opco 1 held by Holdco?
CRA Preliminary Response
At question 26 of the 2001 APFF Federal Tax Roundtable (2001-0093385), the CRA was asked to elaborate on its position regarding the effect of losses of a foreign affiliate in computing the consolidated safe income of a group of corporations in light of the decision in Brelco Drilling Ltd., 99 DTC 5253 (FCA).
Specifically, it was asked whether the CRA accepted the comments of the Federal Court of Appeal indicating the possibility of not considering such losses if the parent corporation has not guaranteed the financing of those losses.
The CRA stated that in Brelco, the Federal Court of Appeal concluded that it is not appropriate to never consider the losses of a foreign affiliate in computing the safe income on hand and that determining the amount of safe income on hand is a question of fact that can be determined only after having considered all the facts and circumstances of each situation. The CRA confirmed its agreement with those findings and indicated that the comments in the decision could also apply in a strictly domestic context.
In addition, the CRA indicated that the losses of an affiliate can reduce a parent corporation's safe income on hand even if the parent corporation has not directly or indirectly guaranteed the affiliate's losses. Indeed, the example presented in the 2001 Roundtable question illustrated a situation where a parent corporation had acquired from a third party a significant investment in an affiliate at a cost of $1 million. Subsequent to the acquisition, the affiliate realized losses of $1 million and the market value of the affiliate's shares thereby became nil. In that situation, the losses of the affiliate affected the inherent gain attributable to the shares of the parent since the losses incurred by the affiliate decreased the value of the parent's investment in the affiliate. Consequently, in such a situation, the CRA was of the view that the losses of the affiliate affected the safe income on hand attributable to the shares of the capital stock of the parent corporation. The CRA thus clarified that generally, in computing the safe income on hand attributable to shares of the capital stock of a parent corporation, the losses of a subsidiary must be taken into account when such a loss results in a reduction in the fair market value of the parent corporation’s shares.
That said, considering the specific facts of this question, the fact that Opco 2's trading losses ultimately did not have the net effect of reducing the fair market value of the Holdco shares, and assuming that no entity in the Holdco Group had guaranteed or financed the debt of Opco 2, the CRA is of the view that Opco 2's trading losses should not reduce the consolidated safe income attributable to the shares of the capital stock of Holdco. Indeed, it is our understanding that Opco 2's operating losses were funded by debt from an entity unrelated to Holdco and by the investment of Holdco in Opco 2. Furthermore, those losses are now reflected in the value of the intangible asset created and held by Opco 2. Consequently, the losses of Opco 2 ultimately had no effect on the fair market value of the Holdco Shares. It would therefore be reasonable to consider that the safe income attributable to the shares of the capital stock of Holdco should be $900,000, which is the safe income attributable to the shares of the capital stock of Opco 1 held by Holdco.
Official Response
11 October 2019 APFF Roundtable Q. 10, 2019-0812691C6 - Consolidated safe income
Q.11 Application of s. 251(5)(b) to conversion right based on future financing
Opco, a mooted Canadian-controlled private corporation, is capitalized with 1 million common shares, with a fair market value (FMV) of $2 million, that are held by a resident Canadian, and with a $5 million debenture held by a non-resident. The debenture is convertible by the holder, in the event that Opco proceeds to a second round of financing, into that number of Opco common shares that, at that time, have an FMV of $5 million. How would CRA apply s. 251(5)(b)?
CRA Preliminary Response
For the purposes of subsection 251(2) and the definition of "Canadian-controlled private corporation" in subsection 125(7), subparagraph 251(5)(b)(i) provides inter alia that 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 acquire, shares of the capital stock of a corporation or to control the voting rights of such shares, 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 person owned the shares at that time.
The application of paragraph 251(5)(b) should be analyzed on a case-by-case basis in the light of all the facts, circumstances and relevant documents relevant to a particular situation.
Based on the facts submitted, the debenture constitutes a contract that accords the non-resident investor the right to acquire common shares of the capital stock of Opco. That right is conditional upon OPCO proceeding with a second round of financing. The number of common shares of the capital stock of Opco issued upon the conversion of the debenture will be determined based on the fair value of the common shares of the then outstanding shares of capital stock of Opco (the “conversion ratio”). According to the facts submitted in the question, the exercise of the right of conversion is not limited to conditions such as death, bankruptcy or permanent disability of an individual.
By virtue of subparagraph 251(5)(b)(i) and because of the conversion right for the debenture as described in this question, the non-resident investor would be deemed, at a particular time, to be in the same position in relation to the control of Opco control as if it were the owner of the shares of the capital stock of Opco to which the conversion right applied at that time. To calculate the conversion ratio upon exercise of the conversion right of the debenture at that time, and consequently the number of shares to be issued to the non-resident investor, the fair market value of the common shares of the capital stock of Opco then outstanding should be used.
The determination of fair market value can only be made after considering all of the relevant circumstances and facts relevant to a particular situation.
Official Response
Q.12 Whether two 50% shareholders are non-arm’s length with the corporation
The common shares of X Corp. and Y Corp. (which has no refundable dividend tax on hand) are held equally by two unrelated corporations (A Corp. and B Corp.). X Corp. also holds non-voting redeemable preferred shares of Y Corp. which, on their redemption (following the mutual agreement of A Corp. and B Corp. to cause the redemption), give rise to a deemed dividend.
1. Is Y Corp. connected to X Corp. for Part IV tax purposes?
2. Would A Corp. and B Corp. be considered to not deal at arm’s length with X Corp. for purposes of s. 186(2) considering that they jointly took the decision to proceed with the redemption?
CRA Preliminary Response
By virtue of paragraph 186(4)(a), a payer corporation, in this case Y Corp., is connected with a particular corporation, X Corp., at a particular time in a taxation year if the payer corporation is controlled, otherwise than by virtue of a right referred to in paragraph 251(5)(b), by the particular corporation at that time.
In determining whether X Corp. controls Y Corp. for the purposes of paragraph 186(4)(a), subsection 186(2) provides that a corporation is controlled by another corporation if more than 50% of its issued share capital (having full voting rights under all circumstances) belongs to the other corporation, to persons with whom the other corporation does not deal at arm’s length, or to the other corporation and persons with whom the other corporation does not deal at arm’s length.
In this situation, X Corp. does not hold any shares of the capital stock of Y Corp. with full voting rights under all circumstances. Consequently, it must be determined whether A Corp. and B Corp., which together hold more than 50% of the issued shares of the capital stock of Y Corp., with full voting rights under all circumstances, are not dealing at arm's length with X Corp.
We understand that A Corp. and B Corp. are unrelated persons and therefore do not form a related group of persons that controls X Corp.. We also understand that neither A Corp. nor B Corp. is related to X Corp. Consequently, paragraph 251(1)(a) would not apply in this situation.
That said, under paragraph 251(1)(c), the question of whether unrelated persons deal at arm's length at a particular time is a question of fact. Unrelated persons may or may not deal at arm's length depending on the facts and circumstances pertaining to a particular situation. Each file must be examined in the light of its own facts and circumstances. Consequently, we can only make the following general comments.
As indicated inter alia in paragraph 1.53 of Folio S1-F5-C1, "Related Persons and Dealing at Arm's Length”, "[a] person who is not related to a corporation is not considered not to deal at arm’s length with the corporation merely because he or she owns shares of the corporation. However, if a sufficient number of minority shareholders act in concert in order to direct the affairs of a corporation, they may be considered not to be dealing at arm's length with the corporation.”
In addition, paragraph 1.20 of Folio S1-F5-C1, Related Persons and Dealing at Arm's Length, states that “[i]n the case of a closely-held corporation (for example, where there are two or three unrelated shareholders, none of which individually controls the corporation) the CRA considers that there is a presumption that the shareholders of such a closely-held corporation will act together to control the corporation. In order to rebut this presumption, it would be necessary to show that no one is controlling the corporation and that the decision-making process in the corporation is effectively deadlocked.”
On the basis of the limited facts submitted, in a structure such as that described in this question, A Corp. and B Corp. could a priori be considered not to be dealing at arm's length with X Corp.
Consequently, X Corp. would be considered to control Y Corp. since more than 50% of the shares of the capital stock of Y Corp. would belong to persons not dealing at arm's length with X Corp., i.e. A Corp. and B Corp. Consequently, Y Corp. would be considered to be connected to X Corp.
Official Response
11 October 2019 APFF Roundtable Q. 12, 2019-0812711C6 - Part IV
Q.13 Timing of directors’ authorization re late election
Must the advance authorization (described in s. 83(3)(c)) by the directors be made before the declaration of the dividend or merely before the late election?
CRA Preliminary Response
The condition set out in paragraph 83(3)(c) is satisfied when the directors or other person or persons legally entitled to administer the affairs of the corporation have, before the time the election is made, authorized the election to be made. In that regard, we refer you to paragraph 1.21 of Income Tax Folio S3-F2-C1, "Capital Dividends".
Official Response
11 October 2019 APFF Roundtable Q. 13, 2019-0812721C6 F - Late-Filed CDA Election
Q.14 Theft or loss of cryptocurrencies
Could CRA provide guidance as to what a taxpayer (a miner or purchaser) must demonstrate in order to claim a loss respecting the theft or loss of cryptocurrencies?
CRA Preliminary Response
A written answer will be sent to the APFF after the conference as soon as possible.
Q.15 Flow through of split-income excluded debt to beneficiary
S. (d)(i) of the s. 120.4(1) “split income” definition excludes an amount in respect of a debt obligation of a mutual fund corporation or trust or of a corporation whose shares are listed on a designated stock exchange (an “Excluded Debt”). If the sole asset held by a trust is an Excluded Debt, would the interest thereon that is included in a beneficiary’s income under s. 104(13) be in respect of an Excluded Debt?
CRA Preliminary Response
By virtue of paragraph 108(5)(a), except as otherwise provided in Part I of the Income Tax Act, an amount included in computing the income for a taxation year of a beneficiary of a trust under subsection 104(13) or (14) or section 105 shall be deemed to be income of the beneficiary for the year from a property that is an interest in the trust and not from any other source. However, the post-amble of subsection 108(5) specifies that nothing in that subsection shall affect the application inter alia of subsection 120.4. Thus, for the purposes of section 120.4, the character of the amounts allocated by a trust will be maintained.
Paragraph (d) of the definition of "split income" in subsection 120.4(1) provides that an amount included in computing the income of a specified individual for a year is split income to the extent that the amount is in respect of a debt obligation that is of a corporation (other than a mutual fund corporation or a corporation shares of a class of the capital stock of which are listed on a designated stock exchange), partnership or trust (other than a mutual fund trust) and that is not a debt obligation described in subparagraph (d)(ii) of that definition.
The wording of the preamble to paragraph (d) of the definition of "split income" in subsection 120.4(1) includes the words "in respect of", which are very broad in scope. We are of the view that this subsection can apply to an amount of interest received from a trust and included in computing the income of a specified individual, to the extent that all other conditions for application of that paragraph are satisfied. However, where the amount of interest is in respect of an excluded obligation held by a trust, such amount does not constitute split income of a specified individual.
Official Response
11 October 2019 APFF Roundtable Q. 15, 2019-0812741C6 F - TOSI and interest income earned by a trust
Q.16 Effect of split income rules on s. 74.4(2) purpose test
Mr. X effects an estate freeze in favour of a family trust (entailing a s. 51 exchange by him of his shares of Holdco, which is not a small business corporation (SBC), for preferred shares under s. 51(1), and the family trust subscribing a nominal amount for common shares). The s. 74.4(4) exception is unavailable. Mr. X’s spouse and children do not participate in the business of Holdco and none of the split-income exceptions applies to the income received by the beneficiaries from the trust.
Given the application of s. 120.4(2), does s. 74.4(2) not apply in this situation since the main purpose test is not satisfied?
CRA Preliminary Response
First, for the purposes of this question, we have assumed that Mr. X, his spouse and their children resided in Canada at all relevant times.
Subsection 74.4(2) is a very broad corporate attribution rule. Briefly, subsection 74.4(2) can apply to a transfer or loan of property by an individual to a corporation other than an SBC, where one of the main purposes of the transfer or loan may reasonably be considered to be to reduce the income of the individual and to benefit, either directly or indirectly, by means of a trust or by any other means whatever, a person who is a designated person in respect of the individual.
The question of whether it is reasonable to consider that one of the main purposes of the transfer of a property is to reduce the income of the individual and to benefit, either directly or indirectly, a person who is a designated person (the "Purpose Test") is a question of fact which must be resolved in the light of all the circumstances and particulars of each case.
The tax consequences to a designated person arising from a distribution from a trust received in a situation similar to that described in the statement of this question, including the fact that such distribution may constitute split income to the designated person, are not relevant for the purpose of determining whether the Purpose Test is satisfied. In fact, the part of the Purpose Test related to the designated person only turns on the question of whether it is reasonable to consider that one of the main purposes of the transfer made by the individual was to benefit, either directly or indirectly, the designated person, regardless of the tax treatment to the designated person of any income that is part of the benefit the individual was seeking to confer.
Furthermore, where the designated person is a specified individual, as defined in subsection 120.4(1), paragraph 74.4(2)(g) only mitigates the impact, resulting from the application of subsection 74.4(2), on the transferring individual by reducing the amount that the transferring individual is deemed to have received as interest. That reduction is the amount to be included in computing the designated person's income for the year as a taxable dividend that the designated person received, if it is reasonable to consider that it is part of the benefit that the taxpayer sought to confer and is included in computing the designated person’s split income for any taxation year.
Official Response
11 October 2019 APFF Roundtable Q. 16, 2019-0812751C6 F - 74.4(2) and 120.4 interaction
Q.17 Meaning of “business”
Based on the Act, technical interpretations and the jurisprudence, it is difficult to ascertain what constitutes a business. Could CRA provide guidance on its interpretation of “business”?
CRA Preliminary Response
Subsection 248(1) provides an inclusive definition of the word "business". It states that "business includes a profession, calling, trade, manufacture or undertaking of any kind whatever and, except for the purposes of paragraph 18(2)(c), section 54.2, subsection 95(1) and paragraph 110.6(14)(f), an adventure or concern in the nature of trade but does not include an office or employment." This definition is intended to clarify and extend the ordinary meaning of the word "business".
In that context, the courts have proposed certain definitions that are of a general nature.
The Supreme Court of Canada, in Stewart v. Canada, considered how to determine whether or not there is income from a source for the purpose of section 9. In that context, it provided guidance that can also be used to determine whether or not a business exists.
Because Parliament and the courts have given "business" a very broad meaning, the CRA does not intend to give specific guidance.
Ultimately, the question of whether the activities of a taxpayer constitute a "business" remains a question of fact which, for each particular situation, can only be resolved after a review of all relevant facts.
Official Response
11 October 2019 APFF Roundtable Q. 17, 2019-0812761C6 F - Entreprise - Business
Q.18 TOSI effect of maternity or sickness/disability leave
Individual B is a source individual in respect of Individual A. Individual A holds only 5% of the shares of Aco but has been “actively engaged on a regular, continuous and substantial basis” (“Involved”) in the active business of Aco for 2017 through 2019, so that the dividends received by her on her shares of Aco are excluded amounts.
If Individual A were on maternity leave throughout 2020, or could not work during that period because of an accident, but thereafter returned to work on the same Involved basis as before, would she be considered to be Involved during 2020? What if the accident rendered her permanently disabled?
CRA Preliminary Response
Subparagraph (e)(ii) of the definition of "excluded amount" in subsection 120.4(1) provides that an amount is excluded in respect of an individual for a taxation year if the amount is derived directly or indirectly from an excluded business of the individual for the year.
Subsection 120.4(1) defines the expression "excluded business" of a specified individual for a taxation year as a business if the individual is actively engaged on a regular, continuous and substantial basis in the activities of the business in either the taxation year (except in respect of an amount described in paragraph (e) of the definition of “split income” in subsection 120.4(1)), or any five prior taxation years of the individual.
The question of whether an individual is actively engaged, on a regular, continuous and substantial basis, in the activities of the business for a particular taxation year, is a question of fact that can only be resolved as a result of an exhaustive analysis of all the facts and circumstances of a particular situation, including the nature of the individual's interest in the business and the nature of the business itself. The fact that an individual is actively engaged in a business in a particular taxation year will generally depend on the amount of time, work and energy the individual devotes to the business during that year. The more an individual is involved in the management and/or day-to-day operations of the business, the more likely it is that the individual will be considered to be actively engaged in the business, on a regular, continuous and substantial basis. Similarly, the more an individual's involvement is integral to the success of the business, the more it would be considered important.
Furthermore, and without limiting the generality of the foregoing, paragraph 120.4(1.1)(a) provides that an individual is deemed to be actively engaged on a regular, continuous and substantial basis in the activities of a business in a taxation year of the individual if the individual works in the business at least an average of 20 hours per week during the portion of the year in which the business operates.
Based on the statement in this question, Individual A has been working full-time for the Aco business since January 2017. We therefore have assumed that Individual A works for Aco for an average of at least 20 hours per week for each of its 2017, 2018 and 2019 taxation years. Therefore, Individual A is deemed, pursuant to paragraph 120.4(1.1)(a), to be actively engaged on a regular, continuous and substantial basis in the activities of Aco. Thus, Aco's business is an excluded business for Individual A, for each of those taxation years, under paragraph (a) of the definition of "excluded business" in subsection 120.4(1).
According to the statement in this question, Individual A will be absent for her entire 2020 taxation year (with the exception of part of the day on January 1 in the leave scenario for temporary or permanent disability). Assuming that, during this period of absence, Individual A will not have engaged in any way in the Aco business, Individual A's time during such a period cannot count towards being actively engaged on a regular, continuous and substantial basis in the activities of Aco. As a result, Aco's business will not be an excluded business in respect of Individual A for her 2020 taxation year, as well as for subsequent taxation years in the permanent disability scenario.
That said, the various exclusions, including those respecting an excluded business, are not intended to apply in all circumstances. Where the exclusions do not apply in a particular situation, the underlying logic is that, in such circumstances, the most appropriate test, in determining whether the income from a related business respecting a specified individual should be excluded from the calculation of split income, should be based on the general test as to whether the amount constitutes a "reasonable return" based on the specific criteria applicable in the circumstances, including the work performed, the property contributed, the risks assumed, the total amounts paid or payable and such other factors as may be relevant.
Given that the statement in this question only briefly describes a hypothetical particular situation, it is impossible for us to make a final determination as to whether Individual A could benefit from the exclusion respecting reasonable returns.
Official Response
11 October 2019 APFF Roundtable Q. 18, 2019-0812771C6 F - TOSI Actively Engaged
Q.19 DTS update
Could CRA provide an update on its new dedicated telephone service (DTS) for income tax service providers?
CRA Preliminary Response
The ITRD is pleased to announce that the DTS is now a service it is providing on a permanent and nationwide basis to tax service providers operating in small to medium sized organizations. Although CPAs are the majority of its participants, the service is now available to other tax professionals, such as tax preparers, lawyers and notaries.
Briefly, this free telephone service allows professionals, who register, to access an agent to whom they can address their questions regarding the interpretation of the Income Tax Act. The officer conducts research on the issue as discussed in letters of interpretation already issued by the ITRD and the CRA's public documents. The officer then sends the results of that research to the applicant and communicates with the applicant in the following days to discuss the information sent. On average, an applicant receives the documentation within three business days of their initial call.
Although DTS is an excellent information resource, the service provides no new interpretations. In the event that an officer determines that the tax issue presented has never been discussed in a CRA public document, the officer may assist a claimant in forwarding that question to a specialized section of the ITRD in order to obtain a technical interpretation or advance ruling as described in Information Circular IC70-6R9, Advance Income Tax Rulings and Technical Interpretations.
In conclusion, the results of a recent DTS satisfaction survey revealed that most respondents were satisfied with the advice and information provided by the DTS officers, which helped them to resolve their questions respecting the interpretation of the Income Tax Act. That survey also provided valuable information on the needs and expectations of professionals. These will shape the future of the DTS so as to serve you better.
To find out more about the DTS and to register, we invite you to consult the following address: https://www.canada.ca/en/revenue-agency/campaigns/dedicated-telephone- service.html.
Official Response
11 October 2019 APFF Roundtable Q. 19, 2019-0825031C6 F - Service téléphonique réservé