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.
Principal Issues:
Whether a settlement receipt relating to compensation to a client for the income tax, interest and penalties thereon as a result of poor professional advise concerning the disposition of a capital property is taxable?
Position TAKEN:
It is a question of fact that is dependent of the circumstances of the particular case. However, it may be a non-taxable capital receipt.
Reasons FOR POSITION TAKEN:
The view is based on the fact that income tax, and the interest and penalties thereon are not deductible amounts. Therefore, it would seem to follow that, unless specifically provided in the Income Tax Act, an amount paid to compensate an injured party for such taxes in the circumstances should not be included in income.
950414
XXXXXXXXXX B. Kerr
Attention: XXXXXXXXXX
June 26, 1995
Dear Sir:
Re: Receipt of a Settlement
This is reply to your letter of January 31, 1995, wherein you requested a ruling with respect to the tax treatment concerning the receipt of a Settlement.
The situation in your letter involved a taxpayer that disposed of a capital property, relying on the advice of a professional that no tax would be payable. However, the department reassessed the taxpayer on the disposition of the capital property resulting in the payment of taxes, interest and penalties by the taxpayer. The taxpayer successfully sued the professional to recover the amount paid.
In your letter you have outlined what appears to be an actual fact situation related to a past transaction. The review of such transactions falls within the responsibility of the District Taxation Offices and it is the practice of this Department not to comment on such transactions when the identities of the taxpayers are not known. However, we can provide the following general comments.
The characterization of damages received as either taxable or non-taxable is a question of fact to be determined after a review of all of the relevant circumstances in each case. However, a payment in settlement of a damages claim to avoid or terminate litigation will generally be accorded similar treatment as damages for tax purposes even though there was no admission of any wrongdoing. In reviewing the tax repercussions of certain receipts the courts have stated "With respect to purpose, the essential question is to determine what the compensation - whether paid pursuant to a contract, a court award of damages, or otherwise - is intended to replace.... it appears to me that whatever the source of the legal right to the compensation, be it the contract or the law of damages, the substantive issue is: what is this amount intended to replace?" (London and Thames Haven Oil Wharves Ltd. v. Attwooll (1967) 2 All. E.R. 124 (C.A.); followed in The Queen v. Manley (1985) 85 DTC 5150 (F.C.A.)).
Damages can be received either on account of income or on account of capital. Interpretation Bulletin IT-365R2, in paragraphs 8 and 9, discusses the distinction between an income receipt and a capital receipt in the context of non-performance of business contracts. We are of the view, given the limited information that you have provided in your letter, that the settlement amount for the income taxes, interest and penalties paid could be considered a receipt on account of capital and that the amount could indeed be a non-taxable capital receipt. This view is based on the fact that income tax, interest and penalties thereon are not deductible expenses and it would seem to follow that an amount paid to compensate an injured party for such taxes in the circumstances should not be included in income unless specifically provided in the Income Tax Act. However, this determination can only be made upon a complete review of all facts of the matter, as well as all documentation including the statement of claim and settlement agreement.
We caution you that these comments represent our opinion of the law as it applies generally and, as stated in Information Circular 70-6R2 dated September 28, 1990, are not binding on the Department. Nevertheless, we hope our comments will be of assistance to you.
Yours truly,
R. Albert
for Director
Business and General Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch
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