8 September 2004 External T.I. 2004-0068501E5 - Farming business - custom working v. sharecropping

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Principal Issues: (1) Whether land used in a custom working arrangement is considered to be used in a farming business. (2) Whether land used in a sharecropping arrangement is considered to be used in a farming business. (3) Whether land is "qualified farm property" under ss. 110.6(1) of the Act.

Position: Question of fact in all cases.

Reasons: (1) and (2) Depends on the nature of the arrangements. In (1), the fact that another person may be engaged for a negotiated sum of money to undertake all or part of the work associated with the farming activity would not, in and of itself, mean that a property cannot be considered as being used in a business of farming in which the owner is actively engaged on a regular and continuous basis per IT-268R4. In (2), our position is generally that crop share received by a landlord in a sharecropping arrangement is rental income and not income from farming per IT-433R. There may however be other sharecropping arrangements where the owner of the land could be considered in the business of farming. (3) We do not have sufficient information to make that determination (not clear if farming business carried on, not clear if actively engaged on a regular and continuous basis, no information on gross income from farming and other sources, etc).

XXXXXXXXXX 2004-006850

P. Massicotte, CA, M.Fisc.

September 8, 2004

Dear XXXXXXXXXX:

Re: Farm Property - Custom Working v. Sharecropping

We are writing in reply to your letter of March 22, 2004 wherein you request our comments as to whether land you own would be considered to be used principally in a farming business where it is used as part of a "custom working operation". More specifically, you are concerned that the conversion from a "custom working operation" to a "crop sharing arrangement" with the custom worker may prevent the transfer of the land to your children on a rollover basis pursuant to subsection 73(3) or 70(9) of the Income Tax Act (the "Act"). Finally, you also ask whether the land you own is "qualified farm property" for the purposes of the $500,000 capital gains deduction described in section 110.6 of the Act.

Our Comments

Written confirmation of the tax implications applicable to particular transactions is given by this Directorate only if the transactions are proposed and are the subject of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R5 (a copy of which is enclosed). We have not been provided with sufficient information to determine whether you would be entitled to the rollover provisions in respect of the transfer of your property to your children or the $500,000 capital gains deduction in respect of the disposition of the property you own. Although we are unable to provide an advance income tax ruling, we can provide you with general comments that may be of assistance.

Rollover of Farm Property

Interpretation Bulletin IT-268R4 (a copy of which is enclosed) discusses the application of the rollover provisions found in subsection 73(3) of the Act. Subsection 73(3) of the Act essentially provides for the deferral of the tax consequences on the transfer of farm property from a parent to a child during the parent's lifetime. In general terms, in order for a farm property to be eligible for the subsection 73(3) rollover, the following conditions, among others, must be met:

? the farm property must be in Canada;
? the property must be transferred by the taxpayer to a child of the taxpayer who was resident in Canada immediately before the transfer; and
? before the transfer, the property must have been used principally in the business of farming in which the taxpayer, the taxpayer's spouse (or common-law partner) or any of the taxpayer's children, was actively engaged on a regular and continuous basis.

Similarly, IT-349R3 (a copy of which is enclosed) discusses the application of the rollover provisions found in subsection 70(9) of the Act. Subsection 70(9) of the Act provides for the deferral of the tax consequences on the transfer of farm property from a parent to a child as a consequence of the death of the parent. In order for the farm property to be eligible for the subsection 70(9) rollover, essentially the same conditions as the above must be met.

The determination of whether real property is used principally in carrying on a farming business is a question of fact. Where reference is made to an asset being used principally in the business of farming, the asset will meet this requirement if more than 50% of the asset's use is in the business of farming. Subsection 73(3) of the Act states, in part, that "... the property was, before the transfer, used principally in the business of farming...". Subsection 70(9) of the Act has similar requirements. In both cases, there is no requirement that the property be used immediately before the transfer in the business of farming. However, as indicated in paragraph 24 of IT-268R4, if the property is used for some purpose other than farming for some period of time, a question may arise as to whether the property was used principally for that other purpose rather than in the business of farming.

Whether a particular farming operation constitutes a farming business at any particular time is a question of fact. Some of the factors which should be considered in making this determination are set out in Interpretation Bulletin IT-322R (copy enclosed). In addition, the Canada Revenue Agency's ("CRA") general position with respect to the meaning of a farming business is outlined in paragraph 8 of Interpretation Bulletin IT-433R (copy enclosed). It is also a question of fact whether a taxpayer is actively engaged on a regular and continuous basis in the operation of a farm business. Paragraph 27 of Interpretation Bulletin IT-268R4, reflects the CRA's interpretation of the phrase "actively engaged on a regular and continuous basis".

In this regard, a taxpayer is considered to be carrying on a particular farming business when that person, to the extent that the circumstances of the particular farming operation allow, exercised general management and control of the overall farming operations, such as, for example, determining which fields will be planted, the type of crops to be seeded and the times for spraying and harvesting.

A person may be considered "actively engaged on a regular and continuous basis" when the person is "actively engaged" in the management and/or day-to-day activities of the farming business. Ordinarily the person would be expected to contribute time, labour and attention to the business to a sufficient extent that such contributions would be determinant in the successful operation of the business. Whether an activity is engaged on a "regular and continuous basis" is also a question of fact but an activity that is infrequent or activities that are frequent but undertaken at irregular intervals would not meet the requirement.

The fact that the services of another person may be engaged for a negotiated sum of money to undertake all or part of the work associated with the farming activity (a relationship commonly referred to as "custom working") would not, in and of itself, disqualify a farm owner from rolling farm property to a child under subsections 73(3) or 70(9) of the Act. In those circumstances, the farm property may still be considered to have been used by the owner in a business of farming. A review of the particular arrangements made in the context of your "custom working operations" would be required in order to make a determination of whether the land you own was used in a business of farming in which you were actively engaged on a regular and continuous basis.

With respect to the proposed conversion of your operations to a "crop share arrangement", it is generally our view, as indicated in paragraph 9 of IT-433R, that the crop share received by a landlord in a sharecropping arrangement is rental income and not income from farming. A "sharecropping arrangement" in that context means an arrangement where a taxpayer or landlord receives from a tenant a share of a crop in lieu of rent. The CRA considers that a lessor of farm property does not use such property in the business of farming. There may however be other types of sharecropping arrangements where the owner of the land could be considered in the business of farming. Interpretation Bulletin IT-434R (copy enclosed) provides general guidelines for distinguishing between rental income and business income. In the absence of any documentation providing details of your particular sharecropping arrangement we cannot determine conclusively whether you are a lessor of land or whether you are in the business of farming.

Capital Gains Deduction - Qualified Farm Property

Subsection 110.6(2) of the Act permits a lifetime capital gains deduction of $500,000 for an individual resident in Canada throughout the year who disposed of "qualified farm property" in the year, which is defined in subsection 110.6(1) of the Act. One of the conditions that must be met for real property of an individual to be considered a "qualified farm property" is that the property has been used in the course of carrying on the business of farming in Canada. The definition provides that property will not be considered to have been used in the course of carrying on the business of farming unless it meets the conditions in either subparagraph (a)(vi) or (a)(vii) of the definition.

Pursuant to subparagraph (a)(vi) of that definition, real property may be considered to be used in the course of carrying on the business of farming in Canada if it has been owned by, among others, the individual, or a spouse, child or parent of the individual, throughout a period of at least 24 months immediately preceding the disposition. In addition, clause (a)(vi)(A) of that definition provides that, in at least 2 years while the property was so owned, the gross revenue of such a person from the farming business carried on in Canada in which the property was principally used and in which such a person was actively engaged on a regular and continuous basis must have exceeded the person's income from all other sources for the year (the "gross-revenue test"). In our view, the person meeting the gross-revenue test above need not be the person who owns the property and may, for instance, be the spouse, child or parent of such a person. As a result, if a parent has met the gross revenue test in at least two years while he or she owned the property, and the parent later transfers the property to a child, the requirements of clause (a)(vi)(A) of the definition of "qualified farm property" in subsection 110.6(1) of the Act may be met even though the child has never farmed the property.

Alternatively, where the land you own was last acquired before June 18, 1987 (or after June 18, 1987 under an agreement in writing entered into before that date), subparagraph (a)(vii) of the definition of "qualified farm property" provides that the land may also be considered to have been used in the course of carrying on the business of farming in Canada and, therefore, be considered "qualified farm property" where the property was used by, among others, the individual, or a spouse, child or parent of the individual, principally in the course of carrying on the business of farming in Canada, either in the year the property is disposed of, or in at least five years during which it was owned by a such a person. Properties acquired before June 18, 1987 (or after June 17, 1987, under an agreement in writing entered into before that date) may satisfy the requirements of either subparagraph (a)(vi) or (a)(vii) of the definition.

However, the determination of whether real property was used principally by an individual in carrying on a farming business, whether a particular operation constitutes a farming business at any particular time, and whether an individual was actively engaged in the farming business on a regular and continuous basis are all questions of fact. The comments made above in the context of subsections 73(3) and 70(9) of the Act regarding these issues are also applicable for the purposes of the definition of "qualified farm property" in subsection 110.6(1) of the Act.

A review of all of the facts surrounding your situation would be required to conclusively resolve whether the land you own meets the requirements of "qualified farm property". In light of the complexity of the tax and legal issues involved in your situation, you may wish to consider consulting with a tax and/or legal advisor.

We trust the above comments are of assistance to you.

Yours truly,

Milled Azzi, CA
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Planning Branch