31 July 1989 Income Tax Severed Letter 7-4143

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.

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

Vince Renda Specialty Rulings
A Centre for Career Development Directorate
D. Turner
957-2094

SUBJECT: Technical Review of Training 7-4143
Material CCD File # HBI 3933-9

We are writing in reply to your request of July 14, 1989 asking that we review your training material. The training material relates to subsections 13(5.1), 13(5.2) and (5.3) and 13(5.4) and (5.5) of the Income Tax Act (the "Act"). Our comments related to the training material as follows:

• 1) Subsection 13(5.1) of the Act:

We propose no changes to the training material.

2) Subsections 13(5.2) and (5.3) of the Act:
• a) Introductory section, second paragraph:

The paragraph states that "The purpose of subsection 13(5.2) is to transform the potential capital gain ... into recaptured depreciation". This is not always correct. In many cases only a portion of the potential capital gain would be transformed into recaptured depreciation. Where the potential capital gain exceeds the total outlays or expenses incurred to use the property, only the portion of the capital gain equal to the total outlays or expenses will be transformed into recaptured depreciation. See example "A" attached.

• b) page 16-2, situation paragraph:

Part way through the paragraph it states "the depreciable property or real property and the capital cost", this should actually be "the depreciable property or real property and the cost or the capital cost".

• c) page 16-4

In the last paragraph reference is made to paragraph 13(5.2)(b) of the Act. This reference should actually be to paragraph 13(5.2) of the Act.

• d) page 16-6, solution:

The reference to 13(5.2)(a)(i) contains a typing error in that one of the brackets is reversed.

• e) page 16-6, example:

We recommend an additional example similar to example "A" attached which shows that only a portion of the capital gain is converted to recaptured depreciation in some circumstances.

3) Subsections 13(5.4) and (5.5) of the Act:
• a) Introductory section, third paragraph:

As outlined in 2(a) above, subsection 13(5.4) of the Act will not always transform all of the capital gain into recaptured depreciation. See example "B" attached.

• b) Page 17-5, example:

Again, we recommend an additional example which would show that only a portion of the capital gain is covered to recaptured depreciation in some circumstances.

We trust our comments will be of assistance to you.

A. Cockell
Director
Technical Interpretations Division
Legislative and Intergovernmental
Affairs Branch

Example "A"

Same facts as the example on page 16-6 except that the monthly lease is $1,000 or $36,000 for the duration of the lease:

Solution:

The capital cost of the equipment is determined as follows:

The lesser of:

13(5.2)(a)(i)FMV of the equipment                 $125,000
13(5.2)(a)(ii) The aggregate of:
  Capital cost of equipment
    ($75,000 + $5,000)                  $80,000
  Total monthly payments                $36,000    $116,000

A Ltd. is deemed to have acquired the equipment at a capital cost of $116,000.

As the U.C.C. would be $80,000, if the asset were sold subsection 13(5.2) of the Act would cause a recapture of $36,000 and leave a capital gain of $9,000 ($125,000 - $116,000):

Conclusion:

Subsection 13(5.2) of the Act was designed to transform all or a portion of the potential capital gain into recaptured depreciation.

Example "B"

Same facts as the example on page 17-5 except:

• a) land is leased for $1,000 per month.
• b) monthly rent on the building is $2,000 ($240,000 for the duration).
• c) fair market value on December 31, 1993 is $600,000.

Solution:

The capital cost of the building is determined as follows:

The lesser of*:

13(5.4)(a)(i) Total monthly payments                   $240,000*
13(5.4)(a)(ii) FMV of building          $600,000
  which exceeds
Capital cost of building                $200,000       $400,000

The amount of $240,000 will then be added to the capital cost of the building increase the capital cost to $440,000.

Thus on disposal the taxpayer will have recapture of $240,000).

Conclusion:

Subsection 13(5.4) of the Act was designed to transform only that portion of the potential capital gain which relates to the total rental payments into recaptured depreciation.