News of Note

Krumm – Federal Court of Appeal confirms the tax shelter rules’ application to a private purchase of “Class 12 available-for-use” software with tax deductions not further spelled out

The classic tax shelter provided a computation showing how much tax an investor in the top marginal bracket would save. Here, the taxpayer acquired a 50% interest in software after being provided with a valuation report that included a tax opinion indicating that the software was Class 12 property that qualified as being available for use – no tax savings or deduction numbers. Woods JA agreed with Visser J below that this was sufficiently tantamount to representing that the cost of the software could be written off over two years - so that there was an unregistered tax shelter, resulting in the CCA claims being denied under s. 237.1(6).

Woods JA also stated:

… [T]he valuation report makes it clear that the report was intended to influence prospective purchasers. As for the interpretation of the tax shelter definition, there is nothing in the text or context which suggests that the provisions are intended to be limited to publicly marketed transactions. … Finance has expressed concern about “abuses through aggressive tax shelter promotions” … Th[is]concern … would be frustrated if the legislation were applicable only to certain types of promotions.

Neal Armstrong. Summary of Krumm v. Canada, 2021 FCA 78 under s. 237.1(1) – tax shelter – (b).

CRA indicates that comparable sales of used MURCs for s. 191(3) purposes may reflect embedded GST/HST

In the context of an inquiry on determining the fair market value of a new apartment building (or other ”MURC”) when there is a self-supply at the time of substantial completion and first occupancy, CRA noted that where the cap rate used in applying the income approach to valuing the MURC was derived from comparable sales of occupied MURCs, such comparables may reflect “GST/HST that may be imbedded in the consideration for a supply as a result of the GST/HST having been imposed at an earlier time.” On the other hand, “where the consideration of a taxable supply of a residential complex is used as a comparable in a valuation methodology, the GST/HST imposed on that supply, even where the supply was ‘GST/HST included’, is excluded from the consideration.”

This might imply that where a newly-occupied Ontario apartment building had an FMV of $11M having regard to comparable sales of other apartment sales in the area, that same apartment building might have had an FMV of $10M immediately before the time of the deemed self-supply (treating the Ontario tax rate as being around 10% net of new rental housing rebates), i.e., a purchaser at that point in time would discount for the impending self-supply tax. S. 191(3) is unclear as to whether, in this example, the FMV of the building should be treated as $10M or $11M (and CRA did not address this issue), but one could confidently predict that it would go for the higher number.

Neal Armstrong. Summary of 27 February 2020 CBA Roundtable, Q.15 under ETA s. 191(3).

CRA indicates that whether receipts are gross REIT revenue is informed by their accounting treatment

A mutual fund trust is the limited partner in a subsidiary partnership, which is undertaking the development and construction of a new multi-unit residential rental property, funded with equity contributions and loans.

"Gross REIT revenue” of an entity is defined as “the amount, if any, by which the total of all amounts received or receivable in the year (depending on the method regularly followed by the entity in computing the entity's income) by the entity exceeds the total of all amounts each of which is the cost to the entity of a property disposed of in the year.”

CRA intimated that it generally would not consider various amounts received by the partnership to be gross REIT revenue for REIT-test purposes where the amounts “would not be considered ‘revenue’ within the ordinary meaning of the term nor under the well-accepted business and accounting practices.” Accordingly, the following receipts would generally be excluded:

  • loan proceeds and equity contributions to the partnership
  • input tax credits
  • the GST/HST new residential rental property rebate received on substantial completion and first occupancy
  • volume discounts and rebates from suppliers

CRA noted that “[f]or accounting purposes, ITCs, the HST Rebate and volume discounts and rebates from suppliers would normally reduce the amount of the expense or the capital cost or adjusted cost base of the related property.”

Neal Armstrong. Summary of 22 February 2021 External T.I. 2018-0784661E5 under s. 122.1(1) – gross REIT revenue.

102751 Canada Inc. –Quebec Court of Appeal finds that legal fees incurred to recover a misappropriation of substantially all the taxpayer's assets were currently deductible

After substantially all of the assets of a Canadian corporation (Mobile) owned by a German family were misappropriated by a Canadian director (Black), Mobile brought an action against him, with the action subsequently being settled in 2012 by the payment by Black of an agreed sum plus interest thereon at 5%. The Court confirmed the finding of Cameron JCQ below that the various legal and accounting fees incurred by Mobile were fully deductible rather than being capital expenditures: the fees had been incurred to preserve Mobile’s income-producing assets and there had been a resulting generation of the interest of 5%.

Neal Armstrong. Summary of Agence du revenu du Québec v. 102751 Canada Inc., 2021 QCCA 605 under s. 18(1)(a) – professional fees.

CRA is considering whether a GST/HST waiver can be restricted to a specific issue

ETA s. 298(7) provides that a person may waive the application of the time limits for being assessed in respect of a “matter” specified in a waiver made by it. CRA is mulling over whether, in the context, for example, of a CRA audit of taxable and exempt supplies made by a registered supplier, it should take the position that, since any assessment made by it would be only for the registrant’s global net tax number, therefore it would not be permissible for the supplier to limit a waiver to whether a particular supply was exempt or taxable – instead, the “matter” at issue must be regarded as the entire net tax calculation for the reporting period.

A similar spurious issue could be (but has not so far been) raised on the income tax side, given that a Part I tax assessment is for a single Part I tax number.

Neal Armstrong. Summary of 27 February 2020 CBA Roundtable, Q.14 under ETA s. 298(7).

Income Tax Severed Letters 21 April 2021

This morning's release of six severed letters from the Income Tax Rulings Directorate is now available for your viewing.

Allegro Wireless – Tax Court of Canada finds that software development qualified as SR&ED

Somewhat unusually, the development of software was found to be SR&ED. The taxpayer, which provided a software platform to its clients that permitted their workers to access the client systems through handheld devices, faced significant technological challenges in identifying ways to permit this to occur consistently. D’Arcy J stated:

I have concluded that when the Appellant conducted the projects at issue, it formulated hypotheses specifically aimed at reducing the identified technological uncertainty, followed appropriate procedures on testing, including the formulation, testing, and modification of hypotheses, and maintained a detailed record of the hypotheses tested and results achieved as the work progressed.

It also did not hurt that the projects “were the same or similar to projects in respect of which the Appellant received grants from the National Research Council of Canada.”

Neal Armstrong. Summary of Allegro Wireless Canada Inc. v. The Queen, 2021 TCC 27 under s. 248(1) - SR&ED.

CRA indicates that registrants generally have a right for communications with the ARQ on GST issues to be in English

CRA indicated that, based on the terms of an intergovernmental agreement, a registrant that is headquartered in Quebec and is dealing with the ARQ on a GST issue, generally has the same rights for the communications to be in English as if it were dealing with CRA.

Neal Armstrong. Summary of 27 February 2020 CBA Roundtable, Q.13 under ETA s. 296(1).

Tiessen Interior Design – Tax Court of Canada applies s. 256(2.1) to prevent a professional firm from multiplying the small business deduction

An incorporated firm of architects and interior designers restructured. Their practice was now carried on by a partnership between “Partnercos” owned by each of the principals. The principals were now exclusively employed by respective Servicecos controlled by them, which provided their services to the respective “paired” Partnerco for fees. These fees were deemed to be business income under s. 129(6). In their tax filings, each Serviceco treated itself as not being required to share the business limit with any other Serviceco - or with any Partnerco other than its paired Partnerco. As a result, the aggregate business limit claimed by the 15 Servicecos for their taxation years ending on January 1, 2013 was $4.6 million. CRA assessed on the basis that the Servicecos and Partnercos were associated with each other under the “one of the main reasons” test in s. 256(2.1), so that this multiplication of the business limit for small business deduction purposes was nullified.

Monaghan J confirmed these assessments (partly in light of a non-privileged presentation and spreadsheet provided at the planning stages by the tax advisor), stating:

Multiplication of the SBD was the reason the Reorganization was proposed and the resulting tax savings presented to the Principals led to the decision to undertake the Reorganization. Most of the reasons advanced by the Appellants for reorganizing were not convincing as main reasons. … They constitute benefits that the Principals enjoyed, to varying degrees, as a result of the Reorganization, but I have no doubt reduction of taxes was one of the main reasons for it.

Neal Armstrong. Summary of Nicole L. Tiessen Interior Design Ltd. v. The Queen, 2021 TCC 29 under s. 256(2.1).

CRA refers to an “ongoing review” of what is a participant in a JV for GST purposes

Medallion expanded the concept of a “participant” beyond CRA’s administrative definition of that term, by characterizing a person who contributed services to the joint venture to be a “participant” in the joint venture. P-106 only includes a person who has contributed property to the joint venture, or a person with no financial interest, who is responsible for the managerial or operational control of the joint venture.

When asked whether it has completed its review of Medallion, CRA stated:

Whether the Court’s decision in Medallion …would apply to another situation would require examination of all the relevant facts and documents. As part of our ongoing review of the policy, we will continue to consider similar cases as they arise.

Neal Armstrong. Summary of 27 February 2020 CBA Roundtable, Q.12 under ETA s. 273(1).