This translation was prepared by Tax Interpretations Inc. The CRA did not issue this document in the language in which it now appears, and is not responsible for any errors in its translation that might impact a reader’s understanding of it or the position(s) taken therein. See also the general Disclaimer below.
Principal Issues: [TaxInterpretations translation]
1. Tax consequences on immigration of a taxpayer owner of an undivided interest in depreciable property.
2. Tax consequences on immigration of a member of a partnership when depreciable property is owned by the partnership.
1. There is a deemed acquisition for the purposes of the taxable capital gains rules as per paragraph 48(3) of the Income Tax Act (the "Act"). At the time of immigration, there was no deemed acquisition for the purposes of the capital cost allowance rules.
2. There is a deemed acquisition of the interest in the partnership of the immigrating partner as per 48(3) of the Act.
Interpretation of the Act.
April 15, 2003
Subject: Tax consequences of immigration
This is in response to your email of May 8, 2002 on the above subject. In particular, you requested our opinion on two situations.
The facts of the first situation can be summarized as follows:
Mr. X immigrated to Canada in 1988. At the time of immigration, he held an undivided interest in a rental property located in the United States. The property was acquired in 1983 for US$300,000. At the time of immigration, the fair market value of the property was Cdn.$650,000 Canadian. After immigration, additions were made to the building. Mr. X's share of those additions were Cdn.$50,000. Since immigration, Mr. X has deducted Cdn.$50,000 as tax depreciation from his Canadian reported income in respect of the building. In 2001, Mr. X sold his property for Cdn.$550,000.
The facts of the second situation can be summarized as follows:
Mr. X immigrated to Canada in 1988. At the time of immigration, he held an interest in a partnership registered in the United States. The partnership owned a rental property located in the United States. Mr. X's interest in the partnership was acquired in 1983 at a cost of US$300,000. At the time of immigration, the fair market value of Mr. X's interest in the partnership was Cdn.$650,000. The partnership never incurred any debt and never held any assets other than the building.
After immigration, Mr. X invested an additional Cdn.$50,000 in the partnership. This amount was used to make additions to the building. In 2001, the partnership sold the building and Mr. X's share of the sale price was Cdn.$550,000. The partnership was wound up in 2002. The net income of the partnership had always been nil and no tax depreciation had been claimed.
The particular circumstances referred to in your request and on which you have sought our opinion appear to be an actual situation concerning a specific taxpayer. As explained in Information Circular 70-6R5, it is not the practice of this Directorate to provide comments on proposed transactions involving specific taxpayers otherwise than in the form of an advance income tax ruling. If your situation involved a specific taxpayer and a completed transaction, you should submit all relevant facts and documentation to the appropriate Tax Services Office for its opinion.
Regarding the above facts, you have addressed certain questions to us. In order to illustrate the interaction of the various applicable tax rules, we have retained the figures submitted in your hypothetical situations. Please note, however, that this letter represents an opinion and is not binding on the Canada Customs and Revenue Agency.
A - First situation
Question 1: What are the tax consequences to Mr. X on the disposition of the building in 2001? Specifically, does Mr. X realize a capital loss and recapture of depreciation, a capital loss only, or a terminal loss, and what are the amounts?
i) Capital gains and losses
Your question concerns the tax consequences to Mr. X of the disposition of the building in 2001. Under paragraph 3(b) of the Income Tax Act (the Act), Mr. X, who is now a Canadian resident, must include his net taxable capital gain in computing his income for his 2001 taxation year. Section 38 of the Act provides that a taxable capital gain and an allowable capital loss are one-half of the capital gain and one-half of the capital loss respectively.
Paragraph 39(1)(a) states inter alia that a taxpayer's capital gain from the disposition of a property is the gain as determined by sections 38 to 55 inclusive. In this regard, subsection 40(1) sets out the general rule that the gain is the amount, if any, by which the taxpayer’s proceeds of disposition exceed the total of the adjusted cost base to the taxpayer of the property and any outlays and expenses made or incurred for the purpose of making the disposition.
The loss is the amount, if any, by which the adjusted cost base of the property to the taxpayer and the expenses made or incurred for the purpose of making the disposition exceed the proceeds of disposition.
Section 54 defines the "adjusted cost base" of a depreciable property as the capital cost to the taxpayer of the property at the time. In order to determine the capital cost of Mr. X's undivided share of the building, we must take into account the specific rules for determining "cost" in subsection 48(3) as it applied at the time of Mr. X's immigration in 1988. Subsection 48(3) read as follows:
48(3) Deemed acquisition of property on becoming resident in Canada. For the purposes of this subdivision, where a taxpayer has become, at any particular time in a taxation year and after 1971, resident in Canada, he shall be deemed to have acquired at the particular time each property owned by him at that time, other than
(a) property that would be taxable Canadian property if he had disposed of it immediately before the particular time, or
(b) property described in paragraph (1)(c) in respect of which the taxpayer had previously made an election under that paragraph in respect of the last preceding time he ceased to be resident in Canada,
at a cost equal to its fair market value at the particular time.
Subsection 48(3) deemed a taxpayer to have acquired his property at a cost equal to its fair market value at the time he became resident. In the context of the application of subsection 48(3) to this situation, there is no difference between the words "cost" and "capital cost". That was recognized by Pinard J. in H.R. Gaynor v. The Queen,  2 C.T.C. 163 (F.C.T.D.), aff'd,  1 C.T.C. 470 (F.C.A.), when he stated at pp. 166-167 in the context of the interpretation of section 54 of the Act:
[…] I fully agree with the comments made by the following authors on the subject:
- in a paper entitled "The Meaning of Cost in Canadian Income Tax" (Canadian Tax Paper No. 60-C.T.F. September 1982) D. Keith McNair states, at pages 105 and 106:
The courts frequently define "capital cost" in terms of cost, actual cost, historical cost or similar terms. For example, in Ottawa Valley, Power Co. President Jackett of the Exchequer Court made the following statements:
There has been no suggestion that there is any difference between "cost" and "capital cost" in the circumstances of this case. I should have thought that where property is acquired as capital assets of a business there is probably no difference between the ideas of "cost" and "capital cost". The situation may be different where capital assets, such as goodwill or the supply contract in the appeal, arise as a result of the current operations of a business.
Subsection 48(3) is a deeming provision that applies only for the purposes of subdivision c of Division B of Part I of the Act, namely sections 38 to 55 of the Act, which deal with taxable capital gains and allowable capital losses. Subsection 48(3) has been replaced by, in particular, subsection 128.1(1), which now applies to the entire Act. The effect of that change is to reduce the distortions that existed in the Act at the time of immigration with respect to the capital cost for determining a capital gain or loss and the capital cost for claiming capital cost allowance.1
Mr. X was therefore deemed, pursuant to subsection 48(3), to have acquired his undivided interest in the U.S. property at fair market value when he became a Canadian resident in 1988.
You did not state Mr. X's proportionate interest in the building and the amount for which his interest was acquired. Consequently, we have assumed that Mr. X's undivided interest in the building was 50% and that it was acquired for US$150,000. Mr. X was therefore deemed to have acquired his undivided interest in the building for Cdn.$325,000 at the time he began to reside in Canada.
When the building was disposed of in 2001, the proceeds of disposition received were Cdn.$550,000. It is therefore reasonable to consider that Mr. X's undivided interest was disposed of for $275,000. The adjusted cost base of Mr. X's undivided interest was the capital cost as deemed pursuant to subsection 48(3) plus disbursements made for additions to the property following immigration, which brought the capital cost of Mr. X's undivided interest to Cdn.$375,000. Cost generally means the amount spent to acquire a good or service2, which must necessarily take into account the Act’s deeming rules. Consequently, the $50,000 must be added to the amount deemed to be the "cost" by subsection 48(3) since it was made or incurred subsequent to the immigration.
Since Mr. X's adjusted cost base exceeded the proceeds of disposition, Mr. X was in a capital loss position. However, there can be no capital loss on the disposition of depreciable property, as provided in subparagraph 39(1)(b)(i).
ii) Recapture of Depreciation
Since Mr. X disposed of depreciable property, we must determine whether that event gave rise to recapture of depreciation or a terminal loss. Recapture of depreciation must be included in computing a taxpayer's income for the year. In this regard, subsection 13(1) of the Act states:
13. (1) Recapture of depreciation - A taxpayer shall include in computing income for a taxation year the amount, if any, by which the total of all amounts determined for E to J in the definition "undepreciated capital cost" in subsection (21) exceeds the total of all amounts determined for A to D in that definition in respect of the taxpayer's depreciable property of a prescribed class.
Undepreciated capital cost ("UCC") is defined in subsection 13(21) of the Act as follows:
undepreciated capital cost to a taxpayer of depreciable property of a prescribed class as of any time means the amount determined by the formula
(A + B + C + D + D.1) - (E + E.1 + F + G + H + I + J + K)
A is the total of all amounts each of which is the capital cost to the taxpayer of a depreciable property of the class acquired before that time,
B is the total of all amounts included in the taxpayer’s income under this section for a taxation year ending before that time, to the extent that those amounts relate to depreciable property of the class,
C is the total of all amounts each of which is such part of any assistance as has been repaid by the taxpayer, pursuant to an obligation to repay all or any part of that assistance, in respect of a depreciable property of the class subsequent to the disposition thereof by the taxpayer that would have been included in an amount determined under paragraph 13(7.1)(d) had the repayment been made before the disposition,
D is the total of all amounts each of which is an amount repaid in respect of a property of the class subsequent to the disposition thereof by the taxpayer that would have been an amount described in paragraph 13(7.4)(b) had the repayment been made before the disposition,
D.1 is the total of all amounts each of which is an amount paid by the taxpayer before that time as or on account of an existing or proposed countervailing or anti-dumping duty in respect of depreciable property of the class,
E is the total depreciation allowed to the taxpayer for property of the class before that time,
E.1 is the total of all amounts each of which is an amount by which the undepreciated capital cost to the taxpayer of depreciable property of that class is required (otherwise than because of a reduction in the capital cost to the taxpayer of depreciable property) to be reduced at or before that time because of subsection 80(5),
F is the total of all amounts each of which is an amount in respect of a disposition before that time of property (other than a timber resource property) of the taxpayer of the class, and is the lesser of
(a) the proceeds of disposition of the property minus any outlays and expenses to the extent that they were made or incurred by the taxpayer for the purpose of making the disposition, and
(b) the capital cost to the taxpayer of the property,
G is the total of all amounts each of which is the proceeds of disposition before that time of a timber resource property of the taxpayer of the class minus any outlays and expenses to the extent that they were made or incurred by the taxpayer for the purpose of making the disposition,
H is, where the property of the class was acquired by the taxpayer for the purpose of gaining or producing income from a mine and the taxpayer so elects in prescribed manner and within a prescribed time in respect of that property, the amount equal to that portion of the income derived from the operation of the mine that is, by virtue of the provisions of the Income Tax Application Rules relating to income from the operation of new mines, not included in computing income of the taxpayer or any other person,
I is the total of all amounts deducted under subsection 127(5) or 127(6), in respect of a depreciable property of the class of the taxpayer, in computing the taxpayers tax payable for a taxation year ending before that time and subsequent to the disposition of that property by the taxpayer,
J is the total of all amounts of assistance that the taxpayer received or was entitled to receive before that time, in respect of or for the acquisition of a depreciable property of the class of the taxpayer subsequent to the disposition of that property by the taxpayer, that would have been included in an amount determined under paragraph 13(7.1)(f) had the assistance been received before the disposition, and
K is the total of all amounts each of which is an amount received by the taxpayer before that time in respect of a refund of an amount added to the undepreciated capital cost of depreciable property of the class because of the description of D.1;
The effect on Mr. X of the application of subsection 13(1) and the definition of UCC in subsection 13(21) is to result in recapture of depreciation to be included in his income for the year 2001. The computation of the UCC and recapture must be made on the basis of each depreciable property in each class. The post-immigration addition is part of the same property in the same class.3 Consequently, Variable E is $50,000, Variable F is $225,000 (proceeds of disposition4 equaling capital cost5), Variable A is $225,000. The amount to be included under subsection 13(1) is therefore $50,000.
Question 2: What was the amount that was required to be included in Variable A of the definition of "undepreciated capital cost" in subsection 13(21) at the time of immigration?
The amount that was required to be included in Variable A of the definition of UCC in subsection 13(21) at the time of immigration was the Canadian dollar equivalent of his interest in the building using the exchange rate in effect at the time of acquisition.6 Since we do not have the date of acquisition of the undivided interest in the building, we have assumed that that amount is Cdn. $175,000.
“Capital cost" for purposes of the definition of UCC in subsection 13(21) means the actual, factual and historical cost to the taxpayer of the property. The taxpayer is not subject to the deeming provision in subsection 48(3) because section 13 is not included in subdivision c of Division B of Part I of the Act.
Question 3: If Mr. X were to realize recapture of depreciation in both Canada and the United States, would he be able to claim a foreign tax credit against that income?
In Mr. X's situation, the rules of subsection 126(1) would have to be followed in order to claim a foreign tax credit, since the disposition of his interest in the building related to "non-business income tax". The tax credit is, however, limited by the fraction in paragraph 126(1)(b). The term "income" referred to in the latter paragraph must be determined according to Canadian tax law and not according to foreign law. Consequently, the numerator of the fraction in paragraph 126(1)(b) will include only the Canadian recapture determined under subsection 13(1). On the other hand, the "non-business income tax" in paragraph 126(1)(a) could be attributable to the foreign recapture.
Question 4: Would the answers to Questions 1 and 2 differ if the taxpayer had immigrated to Canada in 1993? If so, how would they differ and why?
Assuming that Mr. X had begun to reside in Canada in 1993, the answers to Questions 1 and 2 would be different since section 128.1 would have been applicable. The capital cost of Mr. X's share of the building for capital cost allowance purposes would, pursuant to paragraphs 128.1(1)(b) and (c), be the fair market value of that property immediately before Mr. X became resident in Canada. This follows from the fact that subsection 128.1(1) applies to the Act as a whole, while subsection 48(3) applied only for the purposes of subdivision c of Division B of Part I of the Act, i.e., sections 38 to 55, which deal with taxable capital gains and allowable capital losses.
Question 5: Assuming that the sale price was Cdn. $250,000, what would be the tax consequences to Mr. X of his disposition of the building?
The disposition of the building for $250,000 resulted in a terminal loss to Mr. X. The deduction of a terminal loss is determined in accordance with the method set out in subsection 20(16) which reads as follows:
(16) Notwithstanding paragraphs 18(1)(a), 18(1)(b) and 18(1)(h), where at the end of a taxation year,
(a) the total of all amounts used to determine A to D in the definition undepreciated capital cost in subsection 13(21) in respect of a taxpayer’s depreciable property of a particular class exceeds the total of all amounts used to determine E to J in that definition in respect of that property, and
(b) the taxpayer no longer owns any property of that class,
in computing the taxpayer’s income for the year
(c) there shall be deducted the amount of the excess determined under paragraph 20(16)(a), and
(d) no amount shall be deducted for the year under paragraph 20(1)(a) in respect of property of that class.
Since the sum of the descriptions of Variables A to D in the definition of "undepreciated capital cost" in subsection 13(21) is $50,000 greater than the total of the descriptions of Variables E to J in the same formula, this results in a terminal loss for Mr. X. In this formula, the amounts for Variables A and E remain unchanged at $225,000 and $50,000 respectively. Variable F is $125,000, which represents the proceeds of disposition of Mr. X's undivided interest in the property.
B - Second Situation
We must point out that the statement of facts for the second situation is incomplete in order to answer your questions accurately. We have tried to fill in the gaps, if any, in order to present you with a situation that will clarify the interaction of the various rules of the Act. In addition, we would like to point out that the existence of a partnership is determined in accordance with the principles established by Canadian law.
Question 1: What are the tax consequences to Mr. X of the disposition of the building by the partnership in 2001?
The disposition of the building in 2001 may result in a capital gain. However, you failed to indicate the "capital cost" of the building at the time of purchase by the partnership as well as the proceeds of disposition of the building. Assuming that the building was acquired by the partnership for Cdn.$700,000 in 1983, that additions were made to the building at a cost of $100,000, and that the same building was disposed of for Cdn.$1,100,0007, a taxable capital gain resulted. This consequence is explained by the use of the original cost or the cost incurred by the partnership to determine the "capital cost" as illustrated in Duncan v. R.,  4 C.T.C. 1 (F.C.A.).8
The taxable capital gain must be calculated as if the partnership were a separate person resident in Canada and the partner must include his share of the taxable capital gain in income pursuant to section 3 and subsection 96(1). Based on the figures in the previous paragraph and assuming that the partnership has two partners with equal interests in the assets and profits, Mr. X's share of the taxable capital gain on the disposition of the building was $75,000.
The tax consequences of the disposition would have been quite different if subsection 96(8) had applied at the time of Mr. X's immigration.
Question 2: What are the tax consequences to Mr. X of the disposition of his partnership interest in 2002?
The building was not deemed to have been acquired by the partnership at the time of the immigration of the partner, Mr. X, in 1988. Nevertheless, Mr. X was deemed to have acquired his partnership interest at fair market value at the time of immigration pursuant to subsection 48(3) since the term "taxpayer" in that subsection refers to the member of the partnership. Consequently, Mr. X was deemed to have acquired, at the time of immigration, his interest in the partnership for Cdn. $650,000. The adjusted cost base of Mr. X's interest was increased to $700,000 as a result of his $50,000 contribution made subsequent to immigration.9
In order to determine the tax consequences in 2002 of the disposition of Mr. X's interest following the dissolution of the partnership in 2002, it is necessary to determine the adjusted cost base of Mr. X's interest at the time of its disposition. The capital gain attributable to Mr. X on the disposition of the building had the effect of adding to the cost, in computing the adjusted cost base of the property that was Mr. X's interest, the full amount of his share of the $150,000 capital gain.10 Assuming that Mr. X's share of the capital gain was distributed to him, the $150,000 was required to be deducted in computing his adjusted cost base.11 If, as a result of the application of section 53, the adjusted cost base of Mr. X's interest was Cdn.$700,000 and the proceeds of disposition of his share were less than that amount, the tax consequence of the disposition would be a capital loss.
Question 3: How would the tax consequences differ if Mr. X had claimed Cdn.$50,000 of tax depreciation as a deduction from his partnership income reported in Canada?
Assuming that capital cost allowance had been claimed against Canadian income, this would result in a recapture of capital cost allowance to the partnership equal to the amounts deducted as capital cost allowance.
for the Director of the Division
International Operations and Trusts Division
Income Tax Rulings Directorate
Policy and Legislation Branch
1 Paragraph 10 of Interpretation Bulletin IT-285R2 - Capital Cost Allowance – General Comments.
2 D. Keith McNair, The Meaning of Cost in Canadian Income Tax, Canadian Tax Paper No. 60 (Toronto: Canadian Tax Foundation, 1982), p.3.
3 See Class 1 of Schedule II of the Regulations.
4 The total proceeds of disposition are divided by Mr. X's percentage interest in the building.
5 For the purposes of this exercise, we have assumed that the Canadian dollar equivalent of his interest in the building at the time of acquisition was $175,000 and we added the amount of the additions for a total of $225,000. That amount represents the amount paid by Mr. X to acquire his interest in the building.
6 Gaynor (H.R.) v. M.N.R.,  1 C.T.C. 470 (F.C.A.).
7 Merely stating the share of the proceeds of disposition of the building attributable to a partner does not determine the proceeds of disposition of the building where the number of partners and the partner's share of the assets and profits is not specified.
8 Application for leave to appeal to the Supreme Court of Canada dismissed, file number 29392.
9 Subparagraph 53(1)(e)(iv) of the Act.
10 Clause 53(1)(e)(i)(A) of the Act.
11 Subparagraph 53(2)(c)(v) of the Act.
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