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Tax Shelters

Update, November 2000

Canada Customs and Revenue Agency Reminds Investors of Risks Associated with Tax Shelters

Investments in tax shelters are permitted under the Income Tax Act. However investors should be aware of the potential risks of using tax shelters, including the possibility that the projected losses or other deductions may not qualify for deduction, resulting in unexpected taxes, interest or penalties.

What is a Tax Shelter?

A tax shelter is defined in the Income Tax Act as any property for which a promoter represents that an investor can claim deductions or receive benefits which equal or exceed the amount invested within four years of its purchase.

What should investors watch out for?

Investors should be wary of any tax shelter promotion where the anticipated net return to the investor in the first few years is predominantly due to projected income tax refunds. Investors should be particularly concerned with any tax shelter promotion if there is a suspicion that one or more of the following situations exists:

• no real business activity will be carried on;
• the business has no reasonable expectation of profit;
• the assets of the business are overvalued;
• the expenses are inflated or unreasonably high;
• losses for tax purposes will exceed the amount of the investment actually at risk; or
• verbal assurances of income tax consequences from the promoter or others are different from, or are not confirmed by, professional opinions contained in the investment documents.

Investors should also be aware that there may be other requirements in the Income Tax Act that must be met for specialized tax shelter investments such as oil and gas shelters.

What happens if the CCRA determines that the following situation exists?

• If no real business activity is carried on or there is no reasonable expectation of profit, all losses claimed by the investor will be disallowed.
• If assets or expenses have been inflated, the inflated part of the losses claimed by the investor for these items will be disallowed.
• If losses claimed by an investor exceed the amount that the investor has paid or owes (the "at-risk amount"), the losses will be reduced to the at-risk amount.

In all cases, interest on the amounts owing as a result of reassessments will also be payable.

In addition, if an investor knowingly, or under circumstances amounting to gross negligence, makes a false statement or omission relating to the tax shelter investment when filing a tax return, the law provides for an additional penalty of 50% of the taxes payable as a result of the reassessment. The investor could also face criminal prosecution if the CCRA determines there was criminal intent involved in the false statement or omission.

How many tax shelters are audited each year?

The CCRA reviews all tax shelters to ensure that losses claimed by investors are properly deductible for tax purposes. In the last five years, the investors in approximately 1,100 tax shelters were reassessed for additional taxes owing of approximately $335 million.

How many criminal prosecutions have resulted from tax shelter promotions?

There have been 14 criminal convictions for tax fraud against tax shelter promoters . These convictions have resulted in fines of almost $10.6 million, and jail terms in 12 cases.

What can investors do to avoid future problems associated with tax shelters?

• Know who you are dealing with. Ask for the prospectus or offering memorandum and any other documents available for an investment and read them carefully.
  
  
• Pay particular attention to any statements or professional opinions in the documents that explain the income tax consequences of the investment. Often, these opinions will tell the investor about the problems that can be expected and suggest that the investor get independent legal advice.
  
  
• Get any verbal assurances from the promoter or others in writing.
  
  
• Ask the promoter for a copy of any advance income tax rulings for the investment given by the CCRA (or Revenue Canada prior to Nov. 1, 1999). Read the ruling and any exceptions in it.
  
  
• Get competent, independent professional advice from a tax advisor before signing any documents.

Tax shelter identification numbers do not legitimize investments

Under the Income Tax Act, the promoter of any tax shelter has to get an identification number from the CCRA before selling the tax shelter. The number does not indicate that the CCRA guarantees an investment or authorizes any resulting tax benefits. The CCRA uses this identification number later to identify unacceptable tax avoidance arrangements.

For more information on tax shelters and the general anti-avoidance rule, contact your CCRA tax services office, or see Information Circular 89-4, Tax Shelter Reporting, and Information Circular 88-2, General Anti-Avoidance Rule - Section 245 of the Income Tax Act. Both information circulars are available at tax services offices or visit our website at www.cra-arc.gc.ca/menu/ICSC-e.html.

For media information:

Colette Gentes-Hawn
Media Relations
(613) 957-3522

For technical information, contact the following officer:

David Duff
A/Manager
Special Audits Section, CCRA
Analysis Section
(613) 952-5186

Date modified:

2000-11-28