News of Note
The 2018 Budget s. 112(5.2) amendment resulted in cancellation of the outstanding SRP programs
An investment dealer holds a share of an issuer with a paid-up capital of $15, an original cost to it of $40 and a fair market value of $100. It previously realized $60 of aggregate mark-to-market gains on the share, offset by a $60 loss on a hedge. Under a private agreement with the issuer, it sells its share to the issuer for $95.
In reliance on 980394, its proceeds of disposition exclude its deemed dividend of $80. Old s. 112(5.2) only required these proceeds to be increased to its original cost of $40. Hence, it realized a loss of $60 for ITA purposes. The new s. 112(5.2) instead increases its proceeds by the full deemed dividend amount of $80; hence, no loss.
In January 2018, six financial institutions purchased $1.5B of their own shares held by other financial institutions pursuant to “share repurchase programs” ( “SRPs”) that permitted such private sales to occur for securities law purposes where a normal course issuer bid was in play. Following the February Budget announcement of the new s. 112(5.2) rule, the issuers of the outstanding SRPs issued press releases announcing their cancellation.
Neal Armstrong. Summary of Kevin Kelly and Sona Dhawan, “Share Repurchase Programs,” Canadian Tax Highlights, Vol. 26, No. 6, June 2018, p. 9 under s. 112(5.2).
CRA now accepts that legal expenses incurred to recover salary are deductible even if no right to the salary is established
S. 8(1)(b) permits a deduction from employment income for legal expenses paid in the year and incurred to collect (or to establish a right to collect) an amount owed to the taxpayer that, if received by the taxpayer, would be required to be included in the taxpayer’s employment income.
Although IT-99R5 states that if a taxpayer is unsuccessful in court and fails to establish that an amount is owed, then no deduction is allowed, CRA now accepts that these “comments are no longer accurate based on … Loo …[which] ruled that a taxpayer’s legal action need not be successful in order to deduct an amount under paragraph 8(1)(b).”
Legal expenses paid by an individual to reinstate the individual’s former employment position are not deductible under s. 8(1)(b) when employment is reinstated without retroactive pay:
While the legal expenses paid may have facilitated the reinstatement of the individual’s employment, the legal expenses were not incurred to collect (or establish a right to collect) an amount that was owed and required to be included in employment income … .
Neal Armstrong. Summary of 11 April 2018 External T.I. 2017-0699751E5 under s. 8(1)(b).
CRA confirms that the substituted loan exception in s. 18(9.1)(a) does not apply re a prepayment penalty incurred in refinancing with another arm’s length lender
S. 18(9.1) may deem a penalty that can reasonably be considered to relate to the amount of interest that would have been payable on a loan for subsequent taxation years to be deductible interest in those years – subject to an exception that applies where the penalty can reasonably be considered to have been made respecting the substitution of the debt obligation. In confirming that this exception did not apply where a taxpayer incurred an early repayment penalty on one loan from a financial institution on refinancing it with the proceeds of a loan from another arm’s length financial institution , CRA stated that it considers that:
a penalty incurred by a taxpayer who borrows money from one arm's-length party to pay a pre-existing debt owing to another arm's-length party would not constitute a substitution of a debt obligation for the purposes of paragraph 18(9.1)(a).
Neal Armstrong. Summary of 31 May 2018 External T.I. 2018-0755631E5 under s. 18(9.1)(a).
CRA is imposing GST on B.C. sales tax applicable to sales of expensive autos
In general terms, ETA s. 154 excludes provincial sales tax from the consideration on which GST/HST is imposed if the sales tax is imposed at no more than the general sales tax rate for the province. B.C. is now imposing sales tax at 20% on cars sold for more than $150,000 and at 15% between $125,000 and $150,000. Thus the effect of s. 154 is that GST is also charged on this B.C. sales tax.
Neal Armstrong. Summary of Excise and GST/HST News, No. 104, July 2018 under ETA s. 154(2).
CRA indicates that most new home warranties are GST/HST taxable
The ETA definition of an (exempt) insurance policy refers to “a policy or contract of insurance … issued by an insurer” but excludes “a warranty in respect of the quality, fitness or performance of tangible property, where the warranty is supplied to a person who acquires the property otherwise than for resale.” CRA has confirmed that the exclusion has the effect of rendering most new home warranties GST/HST taxable even where they are provided by an insurer.
Neal Armstrong. Summary of Excise and GST/HST News, No. 104, July 2018 under ETA s. 123(1) – insurance policy – (a).
Income Tax Severed Letters 11 July 2018
This morning's release of two severed letters from the Income Tax Rulings Directorate is now available for your viewing.
BCS Group – C Miller J disagrees with some of his colleagues in finding that a corporation can appear “in person” without counsel
In Masa Sushi, Graham J found that a corporation could not appear “in person” in a General Procedure matter and had to appear through counsel, so that a Rule purporting to permit a corporation to appear in person with the Court’s consent would be ultra vires. He considered that the concept of a corporation appearing “in person” was nonsensical, stating:
A human can be physically present in court. A corporation, being a creation of law with no physical substance, cannot.
C Miller J disagrees, stating:
Yes, there is common law jurisprudence to the effect that “in person” can only mean by the presence of a visible person … but there has been no such jurisprudence, until Masa Sushi, from the Tax Court of Canada.
…Surely we can give the drafters of the legislation and the drafters of the Rules credit for recognizing the uniqueness of the Court, unencumbered by the traditional common law findings of other Courts.
He went on to permit the corporate taxpayer to appear in person through its individual shareholder/director. He noted that this issue has been appealed in another case (Suchoki) to the Federal Court of Appeal.
Neal Armstrong. Summary of BCS Group Business Services Inc. v. The Queen, 2018 TCC 120 under Rule 30(2).
Automodular – Supreme Court of Ontario finds that there was no implied term in a settlement agreement for grossing up a settlement amount for ETA s. 182 tax
Counsel to the parties in an action for wrongful termination by the defendant of an agreement for the long-term supply of parts to it by the plaintiff agreed by exchange of emails on the weekend before the trial that the action would be settled by the payment by the defendant of a $7M sump sum. Dunphy J, in dismissing a motion by the plaintiff for a declaration that there was an implied contractual term that the $7M should be grossed up for HST remittable out of the settlement amount by the plaintiff under ETA s. 182, stated:
It cannot be said here that the agreement lacks commercial efficacy without the implied term. It cannot be said that term the plaintiff seeks was so obvious as to “go without saying” in the eyes of an objective person. …
The simple fact of the matter is that the plaintiff stipulated the sum it was prepared to accept and did not seek to allocate it in any way.
Neal Armstrong. Summary of Automodular Corporation v. General Motors of Canada Limited, 2018 ONSC 1640 under ETA s. 182(1).
CRA treats the application of the purpose test, respecting the acquisition by a private foundation of an indirect interest in a private corporation through a trust, as a question of fact
Where a private foundation or persons with whom it does not deal at arm’s length own more than 20% of the shares of any class of shares of a corporation (the “excess corporate holdings percentage” as defined in s. 149.1(1)), it is obligated to divest itself of the excess shares (the “divestment obligation percentage.” Mr. A, who does not deal at arm’s length with private foundation, settles his freeze shares of a private corporation on an alter-ego trust under s. 73(1), with the trust terms providing that the residue of the trust will be distributed to the private foundation on his death. Will the private foundation will be subject to s. 188.1(3.5) such that it will be treated as owning a portion of the freeze shares?
Along with conditions of a more mechanical nature, CRA noted the purpose test in s. 118.1(3)(d) and (e) – which applied inter alia if it may reasonably be considered that a purpose of the acquisition of a property by the trust was to hold shares and such shares, if they were held by Mr. A, would cause the private foundation to have a divestiture obligation percentage. Perhaps in recognition of potential ambiguities as to how to apply this purpose test to what essentially is a donee, CRA gave the following somewhat muffled response:
…Whether subsections 188.1(3.3) to (3.5) apply to a particular situation is a mixed question of fact and law … . Given the broad nature of these provisions, where a private foundation is a beneficiary under an alter-ego trust, consideration must be given to subsections 188.1(3.3) to (3.5) for the purposes of determining the private foundation’s excess corporate holdings percentage and divestment obligation percentage for a taxation year.
Neal Armstrong. Summary of 8 May 2018 CALU Roundtable Q. 5, 2018-0745861C6 under s. 188.1(3.3).
The adoption of IFRS 9 raises the potential that loan impairment amounts for ITA and IFRS purposes will differ
The s. 20(1)(l) reserve for doubtful loans for a money-lending business of a financial institution is in essence the lesser of a reasonable amount and 90% of the reserve or allowance for impairment determined in accordance with GAAP. IFRS 9, which replaced IAS 39 effective after 2018 (which, in the case of public entities, in turn replaced s. 3015 of the CICA Handbook, as it used to be called), adopts a risk-weighted approach, and unlike the old accounting standards, it incorporates predictive elements.
The expected-credit-loss model comprises the following three stages:
- Stage 1. An allowance is recorded on the initial recognition of a non-credit-impaired financial asset The allowance under this stage is measured on the basis of the expected lifetime cash shortfalls that would result if a default occurs within 12 months after the reporting date, weighted for the probability of a default
- Stage 2. The allowance is recorded relating to a financial asset or a group of financial assets where there has been a significant increase in credit risk since the initial recognition. In this stage, the amount of loss allowance is equal to the expected credit loss over the life of the financial asset
- Stage 3. The allowance for credit-impaired loans is recorded. In this stage, one or more events have taken place to cause the financial asset to become impaired.
There is some concern that only stage 3 amounts will be recognized by CRA as impaired as required by s. 20(1)(l)(ii)(D).
Neal Armstrong. Summary of Arthur Driedger and Stephen Wong, “IFRS 9: Financial Instruments,” Canadian Tax Highlights, Vol. 26, No. 6, June 2018, p.6 under s. 20(1)(l)(ii).