News of Note
CRA’s position that s. 84.1 dividends can be capital dividends and generate dividend refunds raises tax-deferral possibilities
Email this Content11 October 2019 APFF Roundtable, Q.1 and 3 December 2019 CTF Roundtable, Q.4 confirmed that a s. 84.1 deemed dividend can benefit from both the s. 129(l)(a) dividend refund and the capital dividend account (CDA) mechanism. This might facilitate share sale planning.
For example, Bob would realize a capital gain of $999,999 and around $240,000 of capital gains tax if he sold all the shares of Opco to a third-party purchaser for $1 million.
He could instead transfer ½ of his Opco shares on a rollover basis to newly-formed Holdco, with Holdco then realizing a $500,000 capital gain on those shares on an internal transfer, so that Holdco is subject to $127,000 of corporate tax, has a $250,000 addition to its CDA and generates $77,000 of non-eligible RDTOH. He then transfers his remaining Opco shares to Holdco in two tranches for two $250,000 notes, resulting in the receipt of a $250,000 capital dividend and in a second $250,000 (taxable) dividend that generates a full refund of the $77,000 of NERDTOH to Opco.
The result (leaving aside ss. 245(2) and 129(1.2)) is that Bob pays $102,500 in personal tax and Holdco bears net corporate tax of $50,000. The total of $152,500 is less than $240,000, because tax is deferred until further dividends are paid by Holdco.
Neal Armstrong. Summary of Aasim Hirji and Kenneth Keung, “Planning Possibilities Resulting from CRA Policy Reversal on Section 84.1,” Tax for the Owner-Manager, Vol. 20, No. 1, January 2020, p.9 under s. 129(1).
Planning for intercorporate dividends can now be more fraught
There is increased complexity associated with the payment of dividends by private corporations.
Where a subsidiary corporation has non-eligible refundable dividend tax on hand (NERDTOH), ERDTOH, or GRIP balances, attention is needed to ensure that dividends from the subsidiary result in additions to the same pools in the parent company. Eligible dividends may add to the parent company's GRIP and ERDTOH, but will not recover NERDTOH in the subsidiary. Non-eligible dividends can increase the parent company's ERDTOH, but not its GRIP.
In addition, the usual Pt IV tax considerations should be addressed including that shares held by a trust will not qualify for the votes and value test in s. 186(4)(b). Staggered year-ends create planning challenges.
Neal Armstrong. Summary of A.G. (Sandy) Stedman, “Intercorporate Dividend Planning: More Complexity,” Tax for the Owner-Manager, Vol. 20, No. 1, January 2020, p. 7 under s. 129(1).
5 more translated CRA interpretations are available
We have published a further 5 translations of CRA interpretations released in March, 2011. Their descriptors and links appear below.
These are additions to our set of 1,068 full-text translations of French-language Roundtable items and Technical Interpretations of the Income Tax Rulings Directorate, which covers all of the last 8 ¾ years of releases of Interpretations by the Directorate. These translations are subject to the usual (3 working weeks per month) paywall.
Morris – Court of Quebec finds that disclosure of part of a legal opinion in an audit report was not a waiver of privilege
The taxpayer, who faced tax evasion charges, argued that there had been waiver of the privilege attached to a legal opinion prepared by a notary working for the ARQ when part of that opinion was included in an audit report that had been provided to him. He claimed that this represented waiver of such privilege.
In finding that there had been no such waiver, so that the opinion continued to be protected by the privilege, Asselin JCQ stated:
Only the client can waive it. …
[T]he disclosure of part of the legal opinion does not constitute an implied waiver of the right to legal professional privilege. … [T]here is no evidence that the auditor … was authorized, in the course of her duties, to disclose it in whole or in part.
However, the taxpayer was successful in his claim that it was contrary to his Charter rights for his file to be disclosed to him on a USB key without the benefit of a search engine or electronic disclosure management system that would permit him to readily search the file, and the prosecution was ordered to provide this to him.
Neal Armstrong. Summaries of R. v. Morris, 2019 QCCQ 7635 under s. 232(1) – solicitor-client privilege and Charter – s. 7.
The 2017 OECD transfer-pricing guidelines mandate an “accurate-delineation approach” that is contrary to s. 247(2)
The approach taken in the 2017 OECD Guidelines of “accurately delineating” a transaction is, in fact, an approach of departing from the contracts and characterizing the cross-border transaction in accordance with its economic substance. This can be seen, for instance, in the example in para. 1.48 of the 2017 Guidelines respecting a parent which licenses IP to a subsidiary (Company S) but, under the OECD’s accurate-delineation approach, it is found that it “in fact controls the business risk and output of Company S such that it has not transferred risk and function consistent with a licensing agreement, and acts not as the licensor but the principal” so that the “actual transaction” differs from the written contract. It is suggested that:
In contrast, section 247 of the Act was never intended to permit transactions to be characterized or recharacterized on the basis of economic substance. As a result, the accurate-delineation approach under the 2017 guidelines is not permitted under Canadian law where it characterizes or recharacterizes transactions on the basis of economic substance. Nevertheless, the Canadian government has repeatedly stated that it has adopted the 2017 guidelines and that those guidelines merely clarify, and do not significantly change, the arm’s-length principle.
It would be problematic if CRA thus sought to apply an accurate-delineation approach to cross-border transactions with the U.S. For example, in the above example, it is understood that:
the United States would respect the licence and price it accordingly. If Canada treated the entire arrangement as an agency, the dispute would be difficult to resolve through competent authorities.
Neal Armstrong. Summary of Christopher J. Montes and Siobhan A.M. Goguen, “Recharacterization of Transactions Under Section 247: Still an Exceptional Approach,” 2018 Conference Report (Canadian Tax Foundation), 21:1-25 under s. 247(2).
There may be double taxation of FAPI under the TOSI rules
Where an individual shareholder has a foreign accrual property income (FAPI) inclusion respecting his or her shares of a controlled foreign affiliate, there typically will be double taxation if the individual also receives dividends from the CFA (corresponding, say, to the amount of the FAPI) that are subject to the tax on split income (TOSI). Even if a s. 91(5) deduction is available respecting the dividends received from the CFA, this deduction (or the more likely deduction claimed under s. 20(1)(ww)) are not relevant to the imposition of TOSI on those dividends.
A variant of the more obvious example of this situation is where Mr. A and Ms. B are the equal shareholders of both Passive Foreignco and Active Foreignco (the shares of which are not excluded shares for TOSI purposes because it earns only services fees). Active Foreignco earns fees from Passive Foreignco which are deemed to be FAPI of Mr. A and Ms. B under s. 95(2)(b) and in the case, say, of Ms. B are also subject to TOSI – thereby perhaps resulting (if she is an Ontario resident) in an effective tax rate of 107%.
Neal Armstrong. Summary of Stan Shadrin, Manu Kakkar and Alex Ghani, "FAPI and TOSI Overlap: 107 Percent Tax is Not Fair", Tax for the Owner-Manager, Vol. 20, No. 1, January 2020, p.5 under s. 120.4(1) – split income – (a).
The TOSI rules have resulted in the s. 48.1(1) election being less frequently desirable
An election under s. 48.1(1) (where available) deems the electing shareholders to have disposed of their shares of a small business corporation for proceeds equalling the amount specified in the election. Capital gains from dispositions of qualified small business corporation (QSBC) shares are not subject to the tax on split income (TOSI). However, it may be advantageous to trigger a capital gain under subsection 48.1(1) even if the shares are not QSBC shares—for instance, to utilize tax attributes such as expiring losses.
The expanded "split income" definition includes taxable capital gains from the disposition of all non-QSBC private corporation shares realized, or deemed to be realized, by most Canadian residents. Thus, it may no longer be beneficial to trigger a capital gain under s. 48.1(1) where the shares are not QSBC shares, unless one of the other excluded-amount exclusions applies.
Neal Armstrong. Summary of Martin Lee, Manu Kakkar, Thanusan Raveendran, “Section 48.1: TOSI Trap in Going Public,” Tax for the Owner-Manager (Canadian Tax Foundation), Vol. 20, No. 1, January 2020, p. 4 under s. 120.4(1) – split income – (e).
CRA has published a new GST/HST Memorandum on school cafeterias and university and public college meal plans
ETA Sched. V, Pt. III, s. 12 exempts:
a supply of food or beverages (other than prescribed food or beverages or food or beverages supplied through a vending machine) where the supply is made in an elementary or secondary school cafeteria primarily to students of the school, except where the supply is for a private party, reception, meeting or similar private event.
Comments made by CRA on s. 12 in its new GST/HST Memorandum on school cafeterias and university and public college meal plans include:
- “primarily” means that “more than 50% of the supplies must be to students of the particular school” – and if the test is met, food and beverages sold at the cafeteria to the minority of non-students generally are exempted.
- where the school does not have a cafeteria, classrooms, gymnasiums or other designated areas can be treated as cafeterias
- a fast-food chain could supply the lunches served at the school cafeteria
ETA Sched. V, Pt. III, s. 13 exempts:
a supply of a meal to a student enrolled at a university or public college where the meal is provided under a plan that is for a period of not less than one month and under which the student purchases from the supplier for a single consideration only the right to receive at a restaurant or cafeteria at the university or college not less than 10 meals weekly throughout the period.
CRA accommodates the use by universities or public colleges of declining balance cards for meal plans and will treat the payments made under this card for the on‑campus meal plan account as contrasted, say, to the portion applied to an off‑campus meal plan account, or a mini‑mart or non‑food account such as for laundry or bookstore purchases, as qualifying for the above exemption if there is appropriate separate accounting and the other conditions are satisfied.
Neal Armstrong. Summaries of GST/HST Memorandum 20-5 “School Cafeterias, University and Public College Meal Plans, and Food Service Providers” December 2019 under ETA Sched. V, Pt. III, s. 12, s. 13, s. 14.
Dare Human Resources – Ontario Court of Appeal finds that placement agencies were the workers’ employers
Two Ottawa placement agencies supplied temporary workers to the Public Service of Canada and federal agencies. When these clients put out a call for temporary workers, the agencies identified appropriately qualified and willing candidates from their inventory, and negotiated an hourly rate of pay for the placement that exceeded what they paid to the workers. The agencies’ primary function during the assignment was to provide the payroll on the basis of time sheets signed off by the client, whereas the client managed and directed the workers. However, both dealt with performance and discipline issues.
In dismissing the agencies’ appeal of a decision of Hackland J that they were liable for Ontario employer health tax on the basis that they were the workers’ employers, the Court stated that Hackland J had appropriately taken into account “that the appellants are the only parties with contractual relationships with the workers and that the contractual documentation with the Government of Canada makes it clear that it was the government’s intention that the workers be the employees of the placement agencies.”
Although the situation arguably was not one of secondment, this decision provides some support for considering that seconded employees can remain employees of their original employer notwithstanding that they become subject to the superintendence and control of the organization with which they are placed.
Neal Armstrong. Summary of Dare Human Resources Corporation v. Ontario (Revenue), 2019 ONCA 549 under Reg. 100(1) – employer.
CRA ruling contemplates that a perpetual note whose interest payments were optional had non-deductible but withholding-exempt interest
The Rulings Directorate has published a 2017 ruling dealing with the issuance by a public company (ACo) of unsecured subordinated Notes, whose more unusual terms were that:
- ACo may in its discretion elect by notice in writing to cancel the payment of the interest coupons on a going-forward basis, but recognizing that it thereupon loses its right to pay dividends (or the equivalent such as share repurchases) until it recommences interest payments.
- On the occurrence of a specified event (presumably, some sort of financial difficulty), the Notes will be converted into a number of common shares based on a formula-determined conversion ratio (such that the shares' value could be well below that of the converted principal amount).
- “The Notes have no scheduled maturity or redemption date. ACo is not required to make any repayment of the Principal Amount except in the event of an event of default.”
The Ruling “Additional Information” states:
The Interest paid or payable by ACo on the Notes will not be deductible under paragraph 20(1)(c) or any other provision of the Act in computing the income of ACo for any taxation year.
CRA ruled that the interest amounts paid to an arm’s length Noteholder will not be subject to Part XIII tax under s. 212(1)(b). Thus, CRA accepted that the Interest on the Notes was interest, but perhaps did not consider that the Interest was paid “pursuant to a legal obligation to pay interest” as required under s. 20(1)(c). 2017-0732001R3 (which was issued subsequently but published last year) is quite similar (and perhaps even relates to the same ACo).
Neal Armstrong. Summary of 2017 Ruling 2016-0649061R3 under s. 212(1)(b).