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CRA elaborates on the relationship between Part IV tax and s. 55(2) and related amended return filings
2017-0724071C6 indicated that where Holdco receives a dividend of $400,000 that was subject to Part IV tax of $153,333 (38.33% of $400,000) equalling the connected payer’s dividend refund and, in turn, pays a dividend to its individual shareholders resulting in a dividend refund (DR) of the Part IV tax – so that the dividend received by Holdco was subject to s. 55(2) there should be two returns filed by Holdco – one reporting the Part IV tax, and a second one reporting the capital gain under s. 55(2), thereby giving rise to refundable tax and an addition to Holdco’s RDTOH account which could only be used prospectively. CRA has now provided six detailed numerical examples going through variants on this scenario.
Respecting scenarios where Holdco did not pay a full dividend to its individual shareholder, CRA stated:
[A]ny future payment of a taxable dividend by Holdco that resulted in a refund of Part IV tax could result in the potential application of subsection 55(2) to the extent that this payment was part of the same series of transactions. The CRA would consider any future DR as a result of the payment of a dividend by a corporation, where the payment was part of the same series of transactions, as coming first from the Part IV tax paid on the taxable dividend.
Respecting when the amended return of Holdco should be filed, CRA indicated a preference for Holdco to wait until its original return was assessed. If Holdco wanted to avoid interest charges by paying at the time of the first return an amount that took into account its s. 55(2) liability to be reported in the second return, CRA described the procedures for avoiding having this overpayment refunded in the interim.
Neal Armstrong. Summary of 18 December 2017 External T.I. 2017-0714971E5 F under s. 55(2).
Immediately after its formation, Amalco dropped the business of a predecessor down to a partnership under s. 97(2) – except that it used the s. 22 election for the transferred trade receivables. The Directorate found that as a technical matter the s. 22 election was not available – effectively because s. 87(2)(g), which deemed Amalco to be a continuation of the predecessor for purposes of the ss. 20(1)(l) and (p) reserve provisions, did not go further to deem the Amalco receivables to have been includible in its income. Furthermore, it was at least somewhat doubtful that Amalco carried on the predecessor’s business given that the drop-down occurred within minutes of the amalgamation.
The Directorate nonetheless concluded that the s. 22 election was valid as denying the election “runs against the legislative scheme of section 87.”
Neal Armstrong. Summary of 24 October 2017 Internal T.I. 2017-0719531I7 under s. 22(1).
Where a taxpayer otherwise has realized a nil taxable capital gain under s. 38(a.1)(i) on the donation of shares, s. 40(12) provides that if those shares were included in a “flow-through share class,” then the taxpayer is deemed to have a capital gain generally equal to “exemption threshold” in respect of that flow-through share class (generally, the pool of actual (commercial) costs of flow-through shares issued to the taxpayer).
CRA indicated that non-flow through shares issued to a taxpayer are tainted as being part of a flow-through share class if any share in that class held by another person is a flow-through share. Although this sounds ominous, CRA went on to indicate that the taxpayer’s exemption threshold in this situation would be nil “it is necessary for the taxpayer to have acquired a flow-through share (or certain partnership interests …) in order for a taxpayer to have an exemption threshold in respect of a flow-through share class of property to which subsection 40(12) of the Act would apply.” Thus the capital gain on the donation of such shares to a registered charity would not be increased under s. 40(12).
Neal Armstrong. Summary of 19 January 2018 External T.I. 2017-0683501E5 under s. 40(12).
Hughes – Tax Court of Canada finds that care of a child with severe and stringent dietary requirements qualified for the disability tax credit
The taxpayer spent 13.5 hours per week carefully monitoring the amount of a particular amino acid (Phe) consumed by her daughter (who had been born with phenylketonuria (“PKU”)) in order to avoid severe brain damage. Boyle J rounded this up to meet the requirement in s. 118.1(1)(a.1)(iii) of 14 hours per week of “therapy,” stating that this treatment was “much more like administering a medication than it is like managing a diet.” There also clearly was “life‑sustaining therapy” supporting a “vital function,” so that he granted the disability tax credit.
Neal Armstrong. Summary of Hughes v. The Queen, 2018 TCC 42 under s. 118.3(1)(a.1).
CRA finds a lump sum paid to a non-resident for granting an exclusive right to distribute its product in Canada was subject to s. 212(1)(i) (“restrictive covenant”) withholding
In consideration for a lump sum, a non-resident in a Treaty country (NRco) granted an arm’s length Canadian company (Canco) the exclusive right to distribute its product in Canada, with Canco agreeing not to acquire or sell competitive products. The Directorate found that the lump sum was not a royalty on general principles and, in light of Farmparts (which stated that an exclusive right to buy and sell could, “under no circumstances, be said to constitute the use or the right to use” the product) likely also was not caught by s. 212(1)(d)(i), nor did the Directorate recommend challenging the characterization under the agreement of the licence of a trademark as being gratuitous (as the “Distribution Agreement does not contemplate an extensive use of the trade-mark, but only limited use in connection with the distribution, promotion and advertising of the product.”) However, the exclusivity of the distributorship right granted by NRco was a “restrictive covenant,” so that the lump sum would be subject to Part XIII tax under ss. 56.4(2) and 212(1)(i).
But there was the Treaty, whose Royalty Article was similar to the OECD Model, the Commentary on which stated that that payments made in consideration for obtaining the exclusive distribution rights of a product in a given territory do not constitute royalties within the meaning of the Model Tax Convention as they are not made in consideration for the use of, or the right to use, an element of property included in the Royalty definition. Hence, the lump sum was withholding-tax exempt.
Rather than reviewing the quite complex jurisprudence on what is a timber resource property, CRA looked at a timber removal right that was effectively a renewal of some timber removal rights that had been granted by the Alberta government in 1967 and 2004, and simply stated:
Based on jurisprudence … and the facts and assumptions described above, the New Quota (whether it is viewed as a single property or a combination of two properties) would qualify as a timber resource property pursuant to the definition of that term in subsection 13(21).
As such, its sale would give rise to full income-account treatment rather than the potentially more favourable treatment accorded to timber limits or eligible capital property (or Class 14.1 properties).
Neal Armstrong. Summary of 6 February 2018 External T.I. 2017-0732151E5 under s. 13(21) – timber resource property.
The table below provides descriptors and links for a French technical interpretation released in November 2013 and five questions from the October 2013 APFF Roundtables, as fully translated by us.
These (and the other full-text translations covering the last 4 1/3 years of CRA releases) are subject to the usual (3 working weeks per month) paywall.
|Bundle Date||Translated severed letter||Summaries under||Summary descriptor|
|2013-12-04||11 October 2013 Roundtable, 2013-0495801C6 F - Dividend Paid to Trust and Schedule 3 of T2||Income Tax Act - 101-110 - Section 104 - Subsection 104(19)||s. 104(19) designation is not effective until year end of trust|
|Income Tax Act - Section 186 - Subsection 186(1) - Paragraph 186(1)(b)||s. 104(19)-designated dividend is not received for s. 186(1)(b) purposes until year end of trust|
|11 October 2013 APFF Roundtable, 2013-0495811C6 F - De Facto Control||Income Tax Act - Section 256 - Subsection 256(5.1)||statutory right of chair to tie-breaking vote does not per se confer de facto control|
|2013-11-27||29 October 2013 External T.I. 2013-0489771E5 F - Internal Reorganization - 55(3)(a)||Income Tax Act - Section 55 - Subsection 55(3) - Paragraph 55(3)(a) - Subparagraph 55(3)(a)(v)||relief under s. s. 256(7)(a)(i)(C) or (D) is relevant to s. 55(3.1)(b)(ii), but not to ss. 55(3)(a)(i) to (v)|
|Income Tax Act - Section 248 - Subsection 248(10)||estate distribution of corporation followed by transfer of assets from related corporation could be part of same series|
|Income Tax Act - Section 55 - Subsection 55(3.2) - Paragraph 55(3.2)(d)||s. 55(3.2)(d) application to estate distribution of corporation to 3 sibling beneficiaries does not deem them to be related to each other|
|11 October 2013 Roundtable, 2013-0495281C6 F - Question 9 - APFF Round Table||Income Tax Act - Section 146.3 - Subsection 146.3(6.1)||transfer of RRIF by executor to RRIF of surviving spouse|
|Income Tax Act - Section 212 - Subsection 212(1) - lParagraph 212(1)(q)||direct transfer to RRIF of surviving non-resident spouse|
|Income Tax Act - Section 212 - Subsection 212(1) - Paragraph 212(1)(l)||transfer to RRSP or RRIF of surviving non-resident spouse: SIN required; payment can be made directly to RRSP/RRIF of surviving spouse in accordance with joint instructions even where no specific non-will designation is made|
|Income Tax Act - Section 146 - Subsection 146(8.1)||deemed receipt of refund of premiums for amount paid to executor, with deemed benefit to recipient spouse|
|11 October 2013 APFF Roundtable, 2013-0493651C6 F - Affiliated persons and de facto control||Income Tax Act - Section 256 - Subsection 256(5.1)||holding of relatively large note where debtor has a iliquid business could give rise to de facto control|
|Income Tax Act - Section 40 - Subsection 40(3.61)||exception unavailable for inter vivos trust|
|11 October 2013 APFF Roundtable, 2013-0495781C6 F - GRIP Exceeds Safe Income||Income Tax Act - Section 89 - Subsection 89(1) - Excessive Eligible Dividend Designation||detailed review required to determine whether creation of preferred share dividend to flow out GRIP in excess of SIOH generatd EEDD|
In addition to broader questions about the scope and practicableness of the revised split income proposals, the Joint Committee has identified quite a number of technical anomalies and oddities respecting the rules, of which a sampling is listed below.
- The definition of an excluded shares excludes shares of a corporation which derives significant income directly or indirectly from a related business. This means that a holding company that annually receives its income as dividends from an Opco in whose business the parents are actively involved will be tainted (so that dividends paid by Holdco to their over-24 inactive child will also be tainted) whereas there likely would not be a problem it there were no Holdco and the family held all their shares in Opco directly.
- The exclusion in para. (b) of the excluded amount definition for spousal separation transfers described in s. 160(4) is quite narrow so that, for example, property transferred indirectly to the separated spouse through a s. 55(3)(a) spin-off transaction would not qualify, nor would an extraordinary discretionary dividend paid on one of her existing shares.
- The definition of “arm’s length capital” for adults who have not attained the age of 24 before the year excludes any borrowing by the specified individual under a loan or other indebtedness including from arm’s length sources – even where there is no security or guarantee provided by a “source individual” (related family member).
- The s. 120.4(1.1)(d)(iii) rule – which deems an amount to be derived from a business to include an amount that is “derived from an amount that is derived directly or indirectly from the business” – will be problematic if interpreted broadly. For example, an Opco dividend is received by a specified individual in respect of Opco’s business, who invests it in shares of Opco 2, which does not carry on any “related business” respecting the individual, with the shares subsequently generating income or a capital gain.
[I]t seems particularly inappropriate for the rule to apply in situations such as [this], where amounts could be deemed to be derived from a related business “through” amounts that have already been received by, and taxed in the hands of an individual.
- The definition of “related business” does not exclude listed corporations or mutual fund trusts or corporations. For example, a specified individual is a beneficiary of a trust holding shares of a listed arm’s length corporation of which a Canadian-resident sibling is a full-time employee, such that this public corporation is carrying on a “related business” in respect of the specified individual, and so that any income or taxable capital gain of the specified individual included under s. 104(13) or 105(2) in respect of the trust would seem to be subject to the tax.
Neal Armstrong. Summaries of Joint Committee, “Legislative Proposals to Address Income Sprinkling Released December 13, 2017,” 8 March 2018 Joint Committee Submission under s. 120.4(1) – “excluded shares,” “excluded amount,” para. (b), para. (a), “arm’s length capital,” “related business” - para. (c), “excluded business,” and s. 120.4(1)(d)(iii), and s.120.4(3).
Parliamentary Budget Office estimates that most TOSI revenues will be generated in Ontario and Alberta
The Parliamentary Budget Officer has estimated that the split income proposals will generate $589M in additional tax revenues for the 2018-19 fiscal year, of which $356 million will go to the federal government. Families in Ontario, Alberta and Quebec would pay $224M (or 63%), $46M (or 13%) and $23M (or 6.5%) of this amount, respectively. This estimate is based on a scenario where all spouses over 24 would not be subject to the new rules:
The rationale behind this scenario is that it is likely that most spouses have assumed some risk in the family business (for example, using the house as collateral for a bank loan to start the business). Therefore, we assume they would pass the reasonableness test and see the dividends they received as being exempt from the TOSI.
Neal Armstrong. Summaries of Govindadeva Bernier and Tim Scholz, “Income Sprinkling Using Private Corporations,” Office of the Parliamentary Budget Officer (with thanks to “Finance Canada officials for their helpful technical discussions”), 8 March 2018 under s. 120.4(3) and s. 120.4(1) - Excluded Amount - para. (g).