4 July 2013 External T.I. 2013-0494661E5 - XXXXXXXXXX Relief - business

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: Tax treatment of XXXXXXXXXX relief assistance payments.

Position: Various, see below.

XXXXXXXXXX
2013-049466
K. Robinson

July 4, 2013

Dear XXXXXXXXXX:

Re: Request for Comments – XXXXXXXXXX Relief (Businesses)

It was a pleasure speaking with you concerning the income tax treatment of payments to be made by the Government of XXXXXXXXXX to businesses in order to provide relief from XXXXXXXXXX. We understand and appreciate that the specific details of the financial relief to be provided to business owners are still evolving. We have tried to be as specific as possible in responding to your questions, however, our comments are necessarily somewhat general in nature.

There are specific rules in the Income Tax Act (the "Act") to determine the income tax consequences when a person carrying on a business receives government assistance to help offset the cost of certain outlays or expenditures or to replace destroyed or damaged business properties. Generally, government assistance received by a business to help offset the cost of current outlays or expenditures in circumstances such as flooding could either directly reduce the amount of business expenses incurred or be included in income and the business expenses deducted when incurred in the normal manner. In either case, the business would effectively have no net income related to the assistance.

Government assistance received in respect of expenditures that are considered to be capital in nature (i.e., where the expenditure creates a property or results in a betterment to an existing property), generally would reduce the capital cost of that property.

To the extent that the government assistance is considered to be compensation for property that has been lost or destroyed, the amount of the assistance is treated similarly to insurance proceeds so that the compensation is considered to be proceeds of disposition ("POD"). As such, the normal rules for computing gains or losses from a disposition of property that has been lost or destroyed would apply. However, there are special rules in the Act (the "replacement property rules") that may permit the deferral of a capital gain (or recaptured capital cost allowance ("CCA")) in such circumstances.

Very generally, the replacement property rules in section 44 and subsection 13(4) of the Act would allow a taxpayer to elect to defer the recognition of a capital gain or recaptured CCA, as the case may be, arising from a disposition of a property that is a former property (which includes rental property) where the taxpayer has received POD that are described in paragraph (b), (c) or (d) of the definition of POD in section 54 or in paragraph (b), (c) or (d) of the definition of POD in subsection 13(21) (commonly referred to as involuntary dispositions). A replacement property must be acquired within a specified time limit.

A property is considered to be a replacement property for a former property only if the conditions outlined in subsections 44(5) and 13(4.1) of the Act are met and the taxpayer specifically elects to have the replacement property rules apply. Interpretation Bulletin IT-259R4, "Exchange of Property" ("IT-259R4") provides a more detailed discussion of these rules.

As requested, Appendix A illustrates the application of the replacement property rules based on the example in paragraph 26 of IT-259R4, together with the modifications outlined in XXXXXXXXXX email to us dated June 26, 2013 and certain additional assumptions. As shown in Appendix A, the capital gain of $30,000 that the taxpayer would otherwise realize from the disposition of the former property could be fully deferred since the entire amount of the POD for the former property has been spent on the replacement property. Additionally, the potential recapture of CCA of $90,000 in respect of the disposition of the former property has been fully deferred as the undepreciated capital cost ("UCC") of the particular CCA Class is reduced to $35,000 (i.e., essentially the capital cost of the replacement property of $125,000 less $90,000).

You have also asked if the replacement property rules can apply to an involuntary disposition of a "personal-use property", in particular a house or cottage that is not otherwise designated as an individual's principal residence, where a taxable capital gain otherwise arises on its loss or destruction.

The term "personal-use property" is defined in section 54 of the Act. In summary, it is a property owned by a taxpayer that is used primarily for the personal use or enjoyment of the taxpayer or a person related to the taxpayer. For personal-use property, subsection 46(1) of the Act deems the adjusted cost base to be the greater of $1,000 and the amount otherwise determined and the proceeds of disposition to be the greater of $1,000 and the actual proceeds. Subparagraph 40(2)(g)(iii) of the Act contains a special rule that deems any capital loss from the disposition of a "personal-use property" to be nil.

Notwithstanding the above, we confirm that where a taxpayer receives POD described in paragraph (b), (c) or (d) of the definition of POD in section 54 from the disposition of a personal-use property and realizes a capital gain from the disposition of such property, the replacement property rules may be used by the taxpayer to reduce or eliminate the gain as long as a replacement property is acquired within the specified time limits and the appropriate election is made.

Should you have any questions or would like to discuss this further, please do not hesitate to contact me.

Yours truly

Mickey Sarazin
Director General
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch

Appendix A - Example

Assume:

(1) Original capital cost of the former property $100,000
(2) Date property was destroyed June 30, 2013
(3) Year-end of the taxpayer December 31
(4) Date replacement property acquired June 30, 2015
(5) Original capital cost of the replacement property $155,000
(6) Day on which the former property is deemed to
have been disposed of pursuant to subsection 44(2) June 30, 2016
(7) Proceeds of disposition determined as of the day
in (6) above(assumed to be government assistance) $130,000
(8) UCC of CCA class immediately before disposition $10,000
(9) The replacement property acquired is the same
CCA class as the former property

Application of Subsection 44(1)

(1) Gain on Disposition of Former Property determined under paragraph 44(1)(e) (year ending December 31, 2016)

Lesser of:

(a) Gain otherwise determined:

Proceeds of disposition 130,000
in excess of capital cost 100,000 30,000

(b) Amount by which:

Proceeds of disposition 130,000
Exceed the cost of the
replacement property 155,000 nil

Gain on disposal nil

(2) Capital Cost of Replacement Property determined under paragraph 44(1)(f) after June 30, 2016

Original cost of replacement property 155,000

Less: Amount by which (1)(a) above
Exceeds (1)(b) above 30,000

Replacement Cost 125,000

Application of Subsection 13(4) – ignore any additional CCA claims

Undepreciated Capital Cost (UCC) at December 31, 2016

(3) Subsection 13(21)

Capital cost of former property
(A of the definition of UCC in
subsection 13(21)) 100,000

Capital cost of replacement
Property (A of the definition of
UCC in subsection 13(21))
adjusted by paragraph 44(1)(f) 125,000
225,000

Less: CCA previously claimed
(E of the definition of UCC in
subsection 13(21)) 90,000
135,000

Less: Disposition of former property determined
under paragraph 13(4)(c) (Note 1 below) 10,000

Less: Disposition of a depreciable property
determined under paragraph 13(4)(d)
(Note 2 below) 90,000

UCC at the end of the year 35,000

Note 1

Disposition of former property determined under paragraph 13(4)(c):

Amount otherwise determined under
F of the definition of UCC in subsection 13(21) 100,000

Deduct: lesser of:

(i) amount otherwise determined under
F of the definition of UCC in subsection 13(21) 100,000
Deduct: UCC immediately before the time
the former property was disposed of 10,000
90,000 90,000

(ii) acquisition cost of replacement property 155,000
10,000

Note 2

Pursuant to paragraph 13(4)(d), the reduction determined under paragraph 13(4)(c) of $90,000 is deemed to be proceeds of disposition of a depreciable property that had a capital cost equal to that amount and that was property of the same class as the replacement property.