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: Under what circumstances costs incurred for design and installation of ground-source heat pump can be renounced to shareholders of flow-through shares?
Position: Based on the applicable legislation
Reasons: Based on the applicable legislation
XXXXXXXXXX
2015-058798
Boriana Christov
(438) 992-7393
August 19, 2015
Dear XXXXXXXXXX,
Re: Expenses Incurred in Respect of a Ground-source Heat Pump System
This is in response to your email of May 22, 2015 wherein you enquire as to whether certain expenses incurred in respect of a Ground-source heat pump system ("GSHP") will qualify as "Canadian renewable and conservation expense" ("CRCE") as that term is defined in subsection 1219(1) of the Income Tax Regulations (the "Regulations").
You advised that the GSHP will be installed in XXXXXXXXXX (the "Project"). You have also submitted the opinion of Natural Resources Canada ("NRCan") concerning the technical eligibility of the proposed GSHP for inclusion in Class 43.1 or Class 43.2 of Schedule II to the Regulations.
BACKGROUND
You intend to install a GSHP which can be either a Distributed Heat Pump system with central geothermal field or an Integrated Piping System with a central GSHP system. A GSHP is a central heating and/or cooling system typically used to reduce operational costs of a conventional heating and cooling system by using the earth as a heat source in the winter and a heat "sink" in the summer. A typical GSHP system will include a heat pump, in-ground piping and one or more heat exchangers.
In the opinion of NRCan, most of the components with regard to either system will meet the scientific requirements described in subparagraph (d)(i) of Class 43.1, provided that at the time of installation, they also meet the standards set by the Canadian Standards Association for the design and installation of earth energy systems. In particular, subclause (d)(i)(A)(II) of Class 43.1 of Schedule II to the Regulations includes equipment that is part of a ground source heat pump system that transfers heat to and from the ground or groundwater and that, at the time of installation, meets the standards set by the Canadian Standards Association for the design and installation of earth energy systems. However, in NRCan's view, there are also certain components that do not meet the scientific requirements and, as such, will not be described in subparagraph (d)(i) of Class 43.1.
Generally, new property that is described in paragraph (d) of Class 43.1 and that is acquired after February 22, 2005 and before 2020 will qualify for inclusion in Class 43.2 which has a 50% CCA rate on a declining balance method. Generally, the capital cost of the property that is included as an addition to Class 43.2 will include the capital cost of eligible equipment described in subparagraph (d)(i) of Class 43.1, such as the purchase price of the property, costs related to the design, engineering and commissioning of the property that would not qualify as CRCE and legal and accounting expenses related to the acquisition of the property.
You request our opinion as to whether certain expenditures incurred in relation to the Project may also be renounced as CRCE to the shareholders of the taxpayer who own flow-through shares.
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 70-6R6 dated August 29, 2014 issued by the Canada Revenue Agency. A fee is charged for this service. Although, we are unable to provide any comments with respect to your particular fact situation otherwise than in the form of an advance income tax ruling, the following general comments may be of assistance.
Unless otherwise indicated, all references herein are to the Income Tax Act (footnote 1) (the "Act").
Canadian Renewable and Conservation Expense ("CRCE")
An expense incurred by a taxpayer, in respect of the development of a project for which it is reasonable to expect that at least 50% of the capital cost of the depreciable property to be used in the project would qualify for inclusion in either Class 43.1 or 43.2 of Schedule II to the Regulations, may qualify as CRCE as defined in subsection 1219(1) of the Regulations. Based on the NRCan opinion, eligible equipment of your GSHP will qualify for inclusion in Class 43.2 and should represent more than 50% of the capital cost of the depreciable property to be used in the project. Consequently, expenses that are eligible for inclusion as CRCE are start-up expenses incurred during the initial phases of the development of a qualifying project. These activities include engineering and scientific activities as well as other activities.
However, these expenses must not be:
1. payable to a person or partnership with whom the taxpayer is not dealing at arm's length, or
2. specifically excluded from CRCE under subsection 1219(2) of the Regulations.
In this regard, we note that, pursuant to subparagraph 1219(2)(b)(iv) of the Regulations, CRCE will not include the capital cost of the depreciable property that is described in subparagraph (d)(i) of Class 43.2.
The determination of whether a particular expense incurred by a taxpayer will qualify for inclusion in CRCE must be made based upon a review of all of the facts relevant to a particular situation. We direct your attention to the Technical Guide to Canadian Renewable and Conservation Expenses (CRCE) which can be found on: http://www.nrcan.gc.ca/energy/efficiency/industry/financial-assistance/5147.
In particular, Appendix II contains project development activities that are typically eligible as CRCE. For example, the following items may be of interest to you:
- Undertaking pre-feasibility studies;
- Obtaining and analyzing the regional soil and ground-water data;
- Determining the technology and capacity of the overall system;
- Identifying the options for horizontal ground collector or vertical wells;
- Negotiating and obtaining access to the site or building for testing and assessment;
- Undertaking feasibility studies;
- Undertaking the collection and preliminary analysis of the site data, such as, soil thermal response, ground water characteristics and soil profile; and
- Commissioning and start-up activities.
Expenses that qualify as CRCE are included in a taxpayer's Canadian exploration expense ("CEE") by virtue of paragraph (g.1) of the definition of that term in subsection 66.1(6) and may be deducted by the taxpayer in the taxation year that they are incurred or carried forward indefinitely for deduction in subsequent taxation years. Alternatively, CEE incurred by a "principal-business corporation," as defined in subsection 66(15) ("PBC"), may be renounced by that corporation to shareholders who have acquired a "flow-through share" as that term is defined in subsection 66(15).
In the context of renewable energy projects, paragraphs (h) and (i) of the definition "principal-business corporation" in subsection 66(15) include a corporation the principal business of which is any of, or a combination of,
1. the generation or distribution of energy using property described in Class 43.1 or 43.2, and
2. the development of projects for which it is reasonable to expect that at least 50% of the capital cost of the depreciable property to be used in each project would be the capital cost of property described in Class 43.1 or 43.2, or a corporation all or substantially all of the assets of which are shares of the capital stock or indebtedness of one or more principal-business corporations that are related to the corporation (otherwise than because of a right referred to in paragraph 251(5)(b) of the Act).
The determination of whether or not a corporation qualifies as a PBC depends on the facts of the particular situation.
We trust our comments will be of assistance.
Yours truly,
Fiona Harrison, C.A., C.P.A.
Manager
Resources Section
Reorganizations and Resources Division
Income Tax Rulings Directorate
FOOTNOTES
Note to reader: Because of our system requirements, the footnotes contained in the original document are shown below instead:
1 R.S.C. 1985, c. 1 (5th suppl.) as amended.
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