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.
A sole practitioner has a professional practice with a fair market value in excess of $100,000 at February 22, 1994. The fiscal period ends on January 31.
a)Can the proprietor make an election in respect of the goodwill of the business and utilize the capital gains exemption?
An election can be made under paragraph 110.6(19)(b) of the draft legislation in respect of all the eligible capital property owned by the person filing the election, in respect of a business of that person. Therefore, since goodwill constitutes eligible capital property, an election can be made in respect of the goodwill of the business. However, if the elector owns more than one eligible capital property, the election should be made with respect to all eligible capital properties, since the elector can only designate one amount in respect of eligible capital property owned by him or her.
b)When does the election have to be filed in respect of the business?
According to paragraph 110.6(23)(a) of the draft legislation, where an election is made in respect of eligible capital property of a business of the elector, the election must be filed "on or before the individual's balance-due day for the taxation year in which the fiscal period of the business that includes February 22, 1994 ends". For proprietors with a January 31 fiscal year end, as it is the January 31, 1995 fiscal year which includes the day of February 22, 1994, the filing of the election must coincide with the balance-due date for the 1995 taxation year of the individual. Hence, the election must be filed on or before April 30, 1996.
c)In what circumstances will this election reduce taxes in the future?
Where an election is filed in respect of all eligible capital property in respect of a business of an individual, the taxable capital gain realized on the election is added to a special account called the "exempt gains balance". Any capital gain subsequently realized on a disposition of eligible capital property may be reduced by the balance of the amount in the "exempt gains balance" account, thus reducing the amount of tax payable, if any, on the capital gain.
Where an election is filed in respect of eligible capital property, subsection 110.6(19) of the draft legislation deems the eligible capital property to have been disposed of only for the purposes of section 110.6 and not for any other purposes, including section 14 of the Income Tax Act. Furthermore, since the draft legislation does not deem eligible capital property to have been reacquired after the election, the election does not give rise to a deemed eligible capital expenditure.
a)A partnership consisting of two individuals owns a commercial rental property (land and buildings) acquired in 1990. One of the partners has fully utilized his $100,000 capital gains exemption. The other partner has not. How can the one partner who has not fully utilized his capital gains exemption take advantage of the election provided for under proposed subsection 110.6(19) of the Act without impacting on the other partner?
In the case of partnerships, an election can be filed by a partner who is an individual in respect of the individual's partnership interest, pursuant to subsection 110.6(19) of the draft legislation. Subject to the penalty provisions, if such an election is filed by an individual, he or she will be deemed to have disposed of his or her partnership interest for proceeds of disposition equal to the greater of the amount designated in the election or the adjusted cost base of the partnership interest, as adjusted under subsection 110.6(22) of the draft legislation. This will give rise to a capital gain to the extent the elected amount exceeds the adjusted cost base of the individual's partnership interest.
However, the deemed capital gain does not give rise to a bump-up of the cost of the partnership interest by virtue of clause 110.6(19)(a)(ii)(A). Where the partnership interest constitutes "non-qualifying real property", subsection 110.6(21) of the draft legislation reduces the capital gain otherwise determined by the non-qualifying portion of the gain, as determined in accordance with the definition of "eligible real property gain" in subsection 110.6(1) of the Income Tax Act. The capital gain will be added to a special account defined in subsection 39.1(1) of the draft legislation as the "exempt capital gains balance". This account can be used for any taxation year that ends before 2005, to shelter both capital gains that may arise on a future disposition of the partnership interest by the individual and capital gains that are flowed out to the individual by the partnership in respect of the individual's interest in the partnership, such as, in this particular case, those that may arise on a disposition of the land and buildings by the partnership. Therefore, since the election is filed, not by the partnership, but by each individual partner, a partner can file an election in respect of his or her partnership interest without there being consequences for the other partners.
b)Would the answer to the above question be the same if the real property were held by two individuals as co-owners rather than in a partnership?
Where individuals own capital property as co-owners rather than as partners in a partnership, they are generally free to deal independently with their interest in the property. Therefore, each co-owner can dispose of his or her undivided interest in property independently of the other co-owners. Accordingly, a co-owner could file an election under subsection 110.6(19) of the draft legislation in respect of his or her interest in the property, independently of the other co-owners. However, unlike the partnership situation, where the election is in respect of a partnership interest, the election filed by the co-owners of the real property would be in respect of the land and buildings.
c)A disposition of depreciable property generally results in a recapture of capital cost allowance. Will the deemed disposition that arises as a result of filing an election to recognize accrued capital gains result in recapture?
Assuming that the election is in respect of the land and buildings, an election under subsection 110.6(19) in respect of a depreciable property will not result in recapture of depreciation because paragraph 13(7)(e.1) of the draft legislation ensures that subparagraph 13(7)(e)(i) of the Income Tax Act will apply to determine the capital cost to the elector on the reacquisition of the property that occurs because of an election made under subsection 110.6(19). Subparagraph 13(7)(e)(i) of the Act applies to certain transfers of depreciable property between non-arm's length parties, so that, generally, there is no bump on the capital cost of depreciable property on reacquisition. Accordingly, the amount included in the determination of F in the definition of "undepreciated capital cost" in subsection 13(21) of the Income Tax Act, as a consequence of the deemed disposition of the property, will be offset by the amount included in the determination of A in that definition, as a result of the deemed reacquisition of the property.
d)For purpose of filing the election, will it be necessary to allocate the fair market value between the land and buildings?
Where the property in respect of which the subsection 110.6(19) election is filed consists of land and buildings, an amount must be designated for each of the land and the buildings, so that an allocation of the fair market value will be necessary. However, the election may be filed in respect of only the land or the buildings, since they both qualify as capital property for purposes of the election.
Proposed subsection 110.6(19) of the Act provides a mechanism for personal trusts as well as individuals to recognize capital gains accrued to February 22, 1994. A personal trust making the election will have a deemed disposition of capital property owned on February 22, 1994 giving rise to a deemed capital gain in the trust. The deemed capital gain may then be designated under subsections 104(21) and 104(21.2) in favour of the beneficiary. The beneficiary may then claim the unused portion of his or her capital gains exemption to offset the gain.
In a situation where there are two or more capital beneficiaries of a trust and only one beneficiary has not fully utilized his capital gains exemption, is it possible for the trust to elect on that particular beneficiary's share of the accrued capital gain to allow the individual to utilize his or her capital gains exemption without creating taxable income in the hands of either the trust or the other beneficiaries?
The facts given in the question as presented are not sufficient for us give an unqualified response. We cannot determine if a particular beneficiary would be able to use his or her remaining available capital gains exemption without knowing more about the terms of the trust indenture. However, we acknowledge that there appear to be problems in achieving the results intended by the draft legislation, in that the legislation is not entirely compatible with the Department's previously stated positions on preferred beneficiary elections and flowing capital gains out to beneficiaries.
It appears that in some cases, if a deemed capital gain is triggered by a trust on February 22, 1994 under subsection 110.6(19) of the draft legislation, all or a portion of the amount so designated may in fact get trapped and therefore taxed in the trust. This result will be reviewed with Department of Finance officials.
A husband and wife have jointly-owned both a house and a cottage since 1979. The accrued gain on the house is greater than the accrued gain on the cottage.
a)Which property should be designated as the principal residence?
It is not possible to comment on this question since the most appropriate method of splitting the capital gains exemption and the principal residence exemption between two or more properties will hinge upon the holding period for each property, the number of years each qualifies as a principal residence, the total accrued gain on each property, the average annual increase in the value of the properties, the potential for future increases in the value of the properties, both on an absolute and average basis, and the intended holding period for each of the properties.
b)Which years should the principal residence designation be made for the applicable property?
Where a taxpayer and his or her spouse own two or more properties that would otherwise qualify for the principal residence exemption, only one such property can be designated as a principal residence for any particular year after 1981. However, until December 31, 1981, each member of a married couple could elect in respect of a separate principal residence. Accordingly, a principal residence designation could be made in respect of both the house and the cottage for the 1979 to 1981 taxation years, but only as to each spouse's interest in the property.
c)If each spouse were to transfer his or her interest in each property to the other spouse under subsection 73(1) of the Income Tax Act, such that one spouse would have sole ownership of the house, and the other would have sole ownership of the cottage, would subsection 40(4) of the Income Tax Act entitle each spouse to claim the principal residence exemption, for the 1979 to 1981 taxation years, with respect to the property each would own?
Subsection 40(4) of the Income Tax Act applies on the disposition of a principal residence by an individual, only if that principal residence, or an interest therein, was previously acquired from a taxpayer in a transaction to which the rollover provisions of subsection 70(6) or 73(1) applied. Subsection 40(4) provides that, for the purpose of computing the gain under paragraph 40(2)(b) on the subsequent disposition of a property by an individual, the property is deemed to have been the principal residence of the individual for any year during which it was owned by the taxpayer, if, in respect of that year, it was the taxpayer's principal residence. Therefore, if the husband were to transfer his interest in the house to the wife, such that the wife was the sole owner of the house, the wife could designate the house as a principal residence for the 1979 to 1981 taxation years. Similarly, if the wife were to transfer her interest in the cottage to the husband, such that the husband was the sole owner of the cottage, the husband could designate the cottage as his principal residence for the 1979 to 1981 taxation years. Hence, if the spouses were to transfer their interests in each property to each other in order to become sole owners, they could each claim the principal residence exemption with respect to one property.
d)Should the values be obtained for both properties?
- if so - at what dates?
The fair market value of both the cottage and the house should be determined as at December 31, 1981 and February 22, 1994.
e)Should the election be made to realize capital gains?
Although this question is best answered on a case by case basis, after examining all of the facts, it is likely, in this situation, that the accrued capital gain on both properties could not be sheltered without the use of the capital gains exemption. Accordingly, an election under subsection 110.6(19) of the draft legislation should probably be filed.
Do the same years designated as principal residence when utilizing the election have to be designated on the eventual sale of the property?
We understand that the intent of subsection 40(7.1) of the draft legislation is that the principal residence designation that is made on the eventual sale of a property must coincide with the principal residence designation that was made at the time of the election with respect to that same property. However, for clarification, we understand that changes may be made to the draft legislation to support this interpretation by removing any advantages that might be gained from making different principal residence designations.
Will the "penalty grind" provision apply to a property designated as a principal residence where the elected price exceeds 110% of the fair market value of the property?
The penalty grind provision of the draft legislation will apply to a property designated as a
principal residence where the designated amount in respect of the property exceeds the fair
market value of the property by 10% and the property is not designated as a principal
residence for any taxation year ending after February 22, 1994.
Where a housing unit is situated on land that exceeds 1/2 hectare and such excess land does not qualify as part of a principal residence, can a separate election be filed in respect of the excess land?
Unless the excess land constitutes a separate capital property, as would be the case if the land had been severed, a separate election cannot be filed in respect of the excess land. However, an election could be filed in respect of the entire property, including the excess land. If the taxpayer designated the qualifying portion of the property as his or her principal residence, the gain on the qualifying portion would have to be calculated separately from the gain on the remaining portion of the property which does not qualify as a principal residence. This is because the gain on the portion of the property designated as the principal residence may be reduced or eliminated by the principal residence exemption, whereas the gain on the remaining portion of the property would result in a taxable capital gain which, according to the circumstances, might be sheltered by the capital gains election.
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