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) Several questions regarding work in progress cost determination. 2) How should the value of a professional’s work in progress be determined where the work is performed on a contingency basis? / 1) Plusieurs questions portant sur la détermination du coût des travaux en cours. 2) Comment détermine-t-on la JVM des travaux en cours résultant d’une entente mettant en cause des honoraires conditionnels?
Position: 1) The determination of cost is a question of fact. In our view, the direct costing method and the absorption method are two acceptable methods of costing. 2) Under paragraph 10(4)(a), the FMV means the amount that can reasonably be expected to become receivable by the business after the end of the year in respect of the work in progress. It may, in some cases, be nil. / 1) La détermination du coût est une question de fait. Nous sommes d’avis que la méthode des coûts variables et la méthode du coût complet sont toujours deux méthodes valables de détermination du coût des travaux en cours. 2) Selon l’alinéa 10(4)a), la JVM s’entend du montant dont on peut raisonnablement s’attendre à ce qu’il devienne à recevoir par l’entreprise après la fin de l’année à l’égard de ces travaux. Il peut, dans certains cas, être nil.
Reasons: Considering the principles developed in Canderel, a taxpayer has some flexibility as to which method he can choose for carrying out the valuation under subsection 10(1) provided that the method respects the provisions of the Act, the principles emerging from the case law, established “rules of law”, and recognized commercial principles. / Considérant les principes dégagés dans l’arrêt Canderel, un contribuable détient une certaine flexibilité quant à la méthode choisie pour effectuer l’évaluation prévue au paragraphe 10(1) à la condition que cette méthode respecte à la fois les dispositions de la Loi, les principes dégagés de la jurisprudence, les «règles de droit» établis et les principes commerciaux reconnus.
May 1, 2018
Re: Work in progress
Following your discussion with Costa Dimitrakopoulos, Director General of our Directorate, please find attached our answers to your questions regarding the treatment of designated professionals’ work in progress (hereinafter “WIP”) following the repeal of section 34 of the Income Tax Act (footnote 1) (“Act”).
Unless otherwise stated, all references to a statute are to the Act.
This technical interpretation provides general comments about the provisions of the Act and related legislation (where referenced). It does not confirm the income tax treatment of a particular situation involving a specific taxpayer but is intended to assist you in making that determination. The income tax treatment of particular transactions proposed by a specific taxpayer will only be confirmed by this Directorate in the context of an advance income tax ruling request submitted in the manner set out in Information Circular IC 70-6R7, Advance Income Tax Rulings and Technical Interpretations.
The Supreme Court of Canada examined the concept of profit in Canderel Ltd. v. The Queen (footnote 2) and stated, among other things, the following principles:
- The determination of profit is a question of law.
- The goal is to obtain an accurate picture of the taxpayer’s profit for the given year.
- The taxpayer is free to adopt any method which is not inconsistent with the provisions of the Act, established case law principles or “rules of law” and well-accepted business principles.
- On reassessment, once the taxpayer has shown that he has provided an accurate picture of income for the year which is consistent with the Act, the case law, and well-accepted business principles, the onus shifts to the Minister to show either that the figure provided does not represent an accurate picture, or that another method of computation would provide a more accurate picture.
In computing income from a business, a taxpayer must generally take their WIP into account. In this regard, subsection 10(5) provides that WIP of a business that is a profession is inventory. Consequently, under subsection 10(1), inventories of WIP shall be valued at the end of the year at the cost at which the taxpayer acquired the WIP or the fair market value (hereinafter “FMV”) of the WIP at the end of the year, whichever is lower, or in a prescribed manner.
When a taxpayer determines the cost or FMV of WIP, he must take into account the principles set out in Canderel.
Cost of work in progress
The determination of the cost at which the taxpayer acquired the WIP is a question of fact. The Act does not provide for any specific method to determine that cost.
In this regard, our position expressed in paragraph 12 of Interpretation Bulletin IT473R (footnote 3), has not changed.
Briefly, both methods of determining cost described in that paragraph, that is, direct costing and absorption costing, take into account variable overheads when determining the cost of WIP.
With respect to the cost of labour for professionals, it is our view that the total cost of professional labour including employee benefits should form part of the cost of WIP.
However, when a taxpayer chooses the direct costing method, fixed overheads do not have to be included in the cost of WIP. Consequently, in such a case, costs related to the rental of office space or premises would not have to be included in the cost of WIP because they constitute fixed overheads. Moreover, when a partner or owner of a business that is a profession contributes to WIP, no amount representing the partner’s or proprietor’s time needs to be included in the cost of the WIP.
Fair market value of work in progress
With respect to the FMV of WIP, paragraph 10(4)(a) provides, with certain exceptions, that the FMV of WIP at the end of a taxation year of a business that is a profession means the amount that can reasonably be expected to become receivable in respect thereof after the end of the year.
When a designated professional, as part of an agreement, undertakes to provide services in exchange for contingency fees, sometimes, a portion or all of these fees cannot be known or determined until after an event or a time occurring after the taxation year during which the designated professional provided the services under the terms of the agreement. In this situation, at the end of the taxation year, the FMV of such WIP of the designated professional would be nil. However, it was brought to our attention that, in certain situations, it is possible, at the end of the year, to establish an amount that can reasonably be expected to become receivable in respect of this WIP after the end of the taxation year. In this case, our view is that the FMV of this WIP should correspond to this amount.
The valuation of WIP is a question of mixed fact and law. Considering the principles set out in Canderel, a taxpayer is free to adopt any method for this type of valuation, so long as the method chosen is not inconsistent with the provisions of the Act, established case law principles or “rules of law,” and well-accepted business principles.
Ultimately, the goal of the method chosen is to obtain an accurate picture of the taxpayer’s profit for the given year. In the event of a reassessment, the taxpayer must be able to show that he has provided an accurate picture of profit for the year.
We trust this is satisfactory.
Michel Lambert, CPA, CA, M. Fisc.
Business and Employment Income Section
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs
En raison des exigences de nos systèmes, les notes de bas de page contenues dans le document original sont reproduites ci-dessous :
1 R.S.C. 1985, c. 1 (5th Supp.), as amended.
2 Canderel Ltd. v. The Queen  1 S.C.R. 147.
3 CANADA REVENUE AGENCY, Interpretation Bulletin IT-473R ARCHIVED, “Inventory Valuation,” December 21, 1998.
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