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: One individual (“A”) is required to pay his former spouse (“B”) the amount of $XXXXXXXXXX (the “Payment”) as a result of a divorce. A is required to make the Payment pursuant to the relevant provincial legislation because B contributed work to the business of XXXXXXXXXX in respect of which A owns shares. The issue is the nature of the Payment.
Position: The Payment is not deductible by A or XXXXXXXXXX by virtue of paragraphs 18(1)(a) and (b) of the Income Tax Act (the “Act”) and is non-taxable in the hands of B.
Reasons The Payment relates to a division of property rights arising from their marriage.
February 15, 1999
Newfoundland & Labrador Tax HEADQUARTERS
Services Office M. Eisner
Appeals Division (613) 957-2138
Attention: Ernest Weir
983198
Settlement Following Divorce - Nature of Payment
This is in reply to your memorandum of December 3, 1998 in which you asked us about the income tax consequences of a payment made by an individual to a former spouse as a result of a court decision. In connection with your request, you have provided us with a copy of the decision (the “Decision”) rendered by the Supreme Court of Newfoundland (the “Court”).
The following comments are based on the copy of the Decision provided to us, although we acknowledge that we also obtained some additional information in several telephone conversations.
The issue you have asked us to consider relates to a divorce in respect of XXXXXXXXXX (“Individual A”) and XXXXXXXXXX (“Individual B”) and concerns a company known as XXXXXXXXXX which was incorporated in XXXXXXXXXX by Individual A. The issue concerns the amount that Individual A should pay Individual B pursuant to section 29 of the Family Law Act (Newfoundland) which is set out below:
“Where 1 spouse has contributed work, money or money’s worth in respect of the acquisition, management, maintenance, operation or improvement of a business asset of the other spouse, the contributing spouse may apply to the court and the court shall by order
(a) direct the other spouse to pay an amount that the court orders to compensate the contributing spouse; or
(b) award a share of the interest of the other spouse in the business asset to the contributing spouse in accordance with the contribution,
and the court shall determine and assess the contribution without regard to the relationship of husband and wife or the fact that the acts constituting the contribution are those of a reasonable spouse of that sex in the circumstances.”
The Court considered the extent that Individual B should be awarded a share of Individual A’s “business asset” under paragraph 29(b) of the Family Law Act. The business asset of Individual A was shares of XXXXXXXXXX in respect of which Individual B claimed to have contributed work. The Decision indicates that Individual B held one of the outstanding shares. It is not known how many shares Individual A owned although the Decision indicates that one share was issued to him in XXXXXXXXXX when XXXXXXXXXX was incorporated and that further shares were issued to him which diluted Individuals B’s interest in XXXXXXXXXX (i.e., the ownership of one share).
XXXXXXXXXX The concept of the business was developed by Individual A, who was also responsible for the technical and professional operation of the business. It could be said that Individual A was the driving force behind the business.
With respect to her claim, Individual B was considered by the Court to have provided assistance in the administration and marketing roles, maintained the company accounts, attended XXXXXXXXXX conventions and, from time to time, Individual B would discuss ideas in respect of the business with Individual A. Although Individual B worked full time with another employer until XXXXXXXXXX , she assisted with business activities XXXXXXXXXX during part of her evenings and weekends.
Individual A took the position that Individual B was an employee of the business who was remunerated for her services. However, while payments were made to Individual B by XXXXXXXXXX , the Court was not satisfied that the payments were solely for her benefit or that they represented agreed compensation for services.
On the other hand, Individual B was seeking an order for compensation of XXXXXXXXXX of the value of XXXXXXXXXX on the basis that she owned one of the XXXXXXXXXX shares that were initially issued, although that interest in XXXXXXXXXX was subsequently diluted when additional shares were issued to Individual A. The Court was also not prepared to accept that recommendation. In addition, the Court was not inclined to obtain a valuation of XXXXXXXXXX against which to apply a percentage representing Individuals B’s contribution to that company.
However, the Court was satisfied that XXXXXXXXXX opportunity to earn income had been enhanced by Individual B’s assistance and contribution and that her contribution was best reflected by the Court’s assessment of the value to the business of her efforts. Such an assessment would take into account that she was not formally compensated as an employee for her work, although at the same time, it was clear that she derived personal benefit from funds that were extracted from the company. The decision of the Court was that Individual A was required to pay Individual B the sum of $XXXXXXXXXX.
In connection with the award of $XXXXXXXXXX, you have advised that XXXXXXXXXX paid the amount to Individual B and issued a T4A slip on the basis that the amount represented self-employment income to Individual B. However, Individual B initially deducted legal fees of $XXXXXXXXXX, which were subsequently disallowed on the basis that they were related to the divorce. As an appeal has been filed by Individual B, you have asked us whether the payment of $XXXXXXXXXX (the “Payment”) is in the nature of business income, salary, or relates to the division of property rights arising from the marriage. You have also asked us whether the Payment is deductible by XXXXXXXXXX.
At the outset, it would appear that there is some confusion because the Court has considered, among other factors, the services provided by Individual B to XXXXXXXXXX with respect to its resolve of matrimonial property issues under the Family Law Act. The fact that the Court considered such criteria does not change the nature of the Payment. That is, the Court awarded Individual B an amount in accordance with paragraph 29(a) of the Family Law Act. The Payment, in the hands of Individual B, is simply a receipt in partial settlement of her rights arising out of their marriage. The Payment would not be taxable in Individual B’s hands. Had the Court decided instead to award Individual B with a certain number of Individual A’s shares of XXXXXXXXXX in accordance with paragraph 29(b) of the Family Law Act, no tax implications would have likely arisen under that scenario either. That is, the receipt of matrimonial assets would not have been a taxable event with respect to Individual B and the rules in paragraph 73(1)(b) of the Income Tax Act (the “Act”) would apply. Subject to an election under subsection 73(1) of the Act not to have the spousal rollover rules apply, tax implications generally will not arise until the matrimonial property received because of the marriage breakdown is finally disposed.
With respect to a tax deduction for XXXXXXXXXX, the decision of the Court was that Individual A was required to pay Individual B the sum of $XXXXXXXXXX . The Payment was not required to be made by XXXXXXXXXX and clearly is not deductible by the corporation. Also, since the payment is with respect to the settlement of rights of a marriage, it would not be deductible to Individual A.
In the event Individual A’s obligation to Individual B, that is, the $XXXXXXXXXX award provided by the Court, is paid directly to Individual B by XXXXXXXXXX, that payment would be considered to be for the personal benefit of Individual A (i.e., it reduced his debt obligation) and would not be deductible to XXXXXXXXXX. Subsection 15(1) of the Act would have to be considered where the transaction was not structured as a shareholder loan, dividend, employment remuneration or return of capital.
For your information, a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the legislation Access Database (LAD) on the Department’s mainframe computer. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, they can be provided with the LAD version or they may request a copy severed using the Privacy Act criteria which does not remove client identity. Requests for this latter version should be made by you to Jackie Page at (613) 957-0682. The severed copy will be sent to you for delivery to the client.
We trust our reply will be of assistance in this matter.
Jim Wilson
Section Chief
Business, Property & Employment Section II
Business and Publications Division
Income Tax Rulings and
Interpretations Directorate
Policy and Legislation Branch
- 4 -
All rights reserved. Permission is granted to electronically copy and to print in hard copy for internal use only. No part of this information may be reproduced, modified, transmitted or redistributed in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, or stored in a retrieval system for any purpose other than noted above (including sales), without prior written permission of Canada Revenue Agency, Ottawa, Ontario K1A 0L5
© Her Majesty the Queen in Right of Canada, 1999
Tous droits réservés. Il est permis de copier sous forme électronique ou d'imprimer pour un usage interne seulement. Toutefois, il est interdit de reproduire, de modifier, de transmettre ou de redistributer de l'information, sous quelque forme ou par quelque moyen que ce soit, de facon électronique, méchanique, photocopies ou autre, ou par stockage dans des systèmes d'extraction ou pour tout usage autre que ceux susmentionnés (incluant pour fin commerciale), sans l'autorisation écrite préalable de l'Agence du revenu du Canada, Ottawa, Ontario K1A 0L5.
© Sa Majesté la Reine du Chef du Canada, 1999
Email this Content