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: Provide comments on 1) when certain items purchased, i.e, computer software and hardware, office equipment and furniture, should be expensed vs capitalized; and 2) Classes 12(o), 10(j) and 8(i)
Position: 1) Use criteria in par. 4 of IT-128R, and on page 12 and 13 of the 2003 Business and Professional Guide- can't provide comments on specific assets purchased; 2) general comments provided
Reasons: only general comments can be provided
XXXXXXXXXX Catherine Bowen
July 16, 2004
Re: Capital Cost Allowance on Computers and Office Furniture
This is in response to your e-mail dated April 2, 2004 wherein you requested our comments on the income tax treatment for the cost of various computer hardware and software, as well as office furniture and equipment.
Written confirmation of the income tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling request as described in Information Circular 70-6R5 dated May 17, 2002 issued by the Canada Revenue Agency. Where the particular transactions are completed, the inquiry should be addressed to the relevant Tax Services Office. Although we cannot provide any comments with respect to the specific assets described in your letter, the following general comments may be of assistance.
Current vs. capital expenditure
When a business incurs expenses related to a property, it is important to determine whether the expenses are capital or current in nature. Generally, there is a capital expenditure when depreciable property is acquired or improved, and a current expenditure that is deductible in the period when it is in respect of the maintenance or repair of a property. A summary of the guidelines to be used in determining whether an expenditure is capital or current in nature are as follows:
Some of the elements of a current expense are:
- it is a recurring expense for the replacement or renewal of a specific item;
- the useful life of the property is relatively short (generally does not exceed a year) and provides little long term benefits; and
- it repairs, maintains or restores an asset to its original condition.
Some of the elements of a capital expenditure are:
- it provides a lasting or enduring benefit;
- it improves or enhances the property beyond its original condition;
- a separate asset has been acquired;
- the amount of the expenditure in relation to the value of the whole property or in relation to previous average maintenance and repair costs is high;
- the costs were incurred to repair used property acquired so that it is in a suitable condition for use; and
- the repairs were made in anticipation of the sale of the asset.
For additional information, see paragraph 4 of IT-128R, Capital Cost Allowance - Depreciable Property, and the comments and chart on pages 12 and 13 of the 2003 Business and Professional Guide. As indicated on page 13 of the Business and Professional Guide, the value or amount of the expense test should only be used if you cannot determine whether an expense is capital or current after having considered the tests described in the first three bullets under the elements of capital expenditure indicated above. The above criteria apply to all expenditures including computer software and hardware, as well as office furniture and equipment.
Since we have already forwarded to you by e-mail the hyperlinks to the 2003 Business and Professional Guide (T4002), IT-128R, Capital Cost Allowance - Depreciable Property, and the 2003 T2 Corporation - Income Tax Guide (T4012) (referred to below), we have not included those publications with our response.
Our directorate is not involved in auditing or assessing taxpayers' income tax returns; however, it is our understanding that the Canada Revenue Agency has not established:
(a) a list which categorizes computer items as either hardware or accessories. However, we note that the determination as to whether an item should be capitalized or expensed should be based on the criteria indicated above, not on whether it is computer hardware or an accessory thereto,
(b) a specified dollar amount or threshold to be used in deciding whether an expenditure should be capitalized or expensed (such a determination would be based on the facts of a particular situation and decided on a case-by-case basis), or
(c) any guidelines for determining the enduring nature of computer software.
CCA classification of computer hardware and software
Some of the capital cost allowance ("CCA") classes in Schedule II of the Income Tax Regulations (the "Regulations") that deal with computer hardware and software are as follows:
a) Class 12
Paragraph (o) of Class 12 includes property that is not included in any other class that is "computer software ... but not including systems software...". Computer software is defined in subsection 1104(2) of the Regulations to include "systems software and a right or licence to use computer software". Computer software other than systems software usually refers to programs that instruct the computer to carry out specific applications related to managing and processing data and are often referred to as application programs or software. Examples of such programs are
(a) accounting programs designed to produce a general ledger and financial statements,
(b) spreadsheet tables, and
(c) word processing.
Normally, these programs are either acquired from a supplier or developed in-house by computer programmers. Where applications software comes pre-loaded with the purchase of the computer, the cost of such software would still be included in Class 12.
Although Class 12 has a 100% CCA rate, it is subject to the half-year rule (also referred to as the 50% rule) that, in effect, allows a write-off of only 50% of the cost of the purchase in the year the property is acquired and available for use, and 50% in the following year. There is no special election required to claim this write-off. The CCA claim is made on Schedule 8 of the T2 Corporation Income Tax Return. For information on the 50% rule and the available for use rules, see pages 36 and 33, respectively, of the 2003 T2 Corporation - Income Tax Guide and pages 29 and 25, respectively, of the 2003 Business and Professional Guide.
b) Class 10
Paragraph (f) of Class 10 includes property that is not included in any other class that is "general-purpose electronic data processing equipment and systems software therefor, including ancillary data processing equipment...". However, it does not include "... property that is principally or is used principally as
(i) electronic process control or monitor equipment,
(ii) electronic communications control equipment,
(iii) systems software for a property referred to in subparagraph (i) or (ii), or
(iv) data handling equipment unless it is ancillary to general-purpose electronic data processing equipment".
"General-purpose electronic data processing equipment" is defined in subsection 1104(2) of the Regulations to mean "electronic equipment that, in its operation, requires an internally stored computer program that
(a) is executed by the equipment,
(b) can be altered by the user of the equipment,
(c) instructs the equipment to read and select, alter or store data from an external medium such as a card, disk or tape, and
(d) depends upon the characteristics of the data being processed to determine the sequence of its execution".
"Systems software" is defined in subsection 1104(2) of the Regulations to mean "a combination of computer programs and associated procedures, related technical documentation and data that
(a) performs compilation, assembly, mapping, management or processing of other programs,
(b) facilitates the functioning of a computer system by other programs,
(c) provides service or utility functions such as media conversion, sorting, merging, system accounting, performance measurement, system diagnostics or programming aids,
(d) provides general support functions such as data management, report generation or security control, or
(e) provides general capability to meet wide-spread categories of problem solving or processing requirements where the specific attributes of the work to be performed are introduced mainly in the form of parameters, constants or descriptors rather than in program logic,
and includes a right or licence to use such a combination of computer programs and associated procedures, related technical documentation and data".
In general, systems software refers to the general operating system that enables application programs to be run and directs and coordinates the different operations of the computer, including all of the input and output between the keyboard, the monitor, the printer, the disk drives and other peripheral equipment. Without this software, it would not be possible for the computer to carry out any operations. This software is normally provided to customers by the computer hardware supplier at the time the hardware is purchased.
Class 10 has a 30% CCA rate and is subject to the available for use rules and the 50% rule.
c) Class 8
Paragraph (i) of Class 8 includes "a tangible capital property that is not included in another class in this Schedule ...".
If the general-purpose electronic data processing equipment falls within the exclusions in subparagraphs (f)(i), (ii), (iii), or (iv) of Class 10 (see above), then this equipment and its systems software will fall into Class 8 pursuant to paragraph (i) thereof.
It should be noted that a licence to use software (including a license to allow users to use the same software) will be included in Class 12 in the case of computer software other than systems software, or in Class 8 or 10, as the case may be, in the case of computer software that is systems software.
While there are other CCA classes into which computer hardware and software may be included depending on its use (such as when it is a component part of a building), your queries do not appear to relate to these uses, so no comments have been provided on this subject.
Class 8 has a 20% CCA rate and is subject to the available for use rules and the 50% rule.
Office furniture and equipment
Office furniture (e.g., desks, photocopiers, fax machines, etc.) that is not used for a special purpose (e.g., manufacturing and processing or scientific research and experimental development) is included in Class 8 by virtue of paragraph (i) thereof. A portable air conditioning unit will also be included in this class. As noted above, Class 8 has a 20% CCA rate and is subject to the available for use rules and the 50% rule.
Separate class election
An election is available (under subsections 1101(5p) and (5q) of the Regulations) to allow certain property costing $1,000 or more to be put in a separate CCA class for up to 5 years. This election recognizes that the following properties included in Class 8 or 10:
(a) office equipment that is electronic communications equipment (e.g., a facsimile transmission device or telephone equipment);
(c) computer software; and
(d) property described in paragraph (f) of Class 10 (see comments above)
can become obsolete before their cost is fully deducted for income tax purposes. While the CCA rate doesn't change, if an election is made to put such property in a separate class and the property is disposed of within 5 years, any terminal loss arising on the disposition of the property can be recognized at the time of disposition. Additional information concerning this election is available on page 30 of the 2003 Business and Professional Guide and page 33 of the 2003 T2 Corporation - Income Tax Guide.
2004 Federal Budget
In Finance Canada's News Release 2004-021 dated March 23, 2004 (the 2004 Federal Budget Plan), it is proposed that the CCA rate for computer equipment currently included in paragraph (f) of Class 10 will increase from 30% to 45% for such equipment acquired after March 22, 2004. The separate class election (described above) will not be available for such equipment. However, where computer equipment is acquired before 2005, taxpayers may still elect to have the property included in Class 10 (at the 30% rate) and be eligible to file the separate class election.
We trust our comments are of assistance.
Reorganizations and Resources Division
Income Tax Rulings Directorate
Policy and Planning Branch
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