News of Note
CRA may challenge alleged payments of dividends through book entries
Email this ContentIn response to a suggestion that a dividend to a sole individual shareholder was paid through a journal entry recording an increase in a loan owing to the shareholder or a decrease in a loan made to her, CRA stated:
The necessary documentation must be provided in a particular instance to corroborate that factually and legally a dividend has been paid by the corporation and received by the shareholder. In this regard, book entries are ancillary and serve only to report transactions [citing Hickman].
Sounds like a set-off agreement or written loan amendment would be a good idea.
Neal Armstrong. Summary of 30 January 2014 T.I. 2013-0515761E5 F under s. 82(1).
Canadian multinationals have a 26 June 2014 deadline to rewrite the history of their CFA distributions
Canadian corporate taxpayers can elect by June 26, 2014 to apply Reg. 5901(2)(b) (and various other provisions) retroactively, thereby effectively according a choice as to whether post-December 20, 2002 foreign affiliate distributions reduced surplus or instead ground basis. For example, this choice could resolve uncertainty where it was unclear whether an historic distribution was a capital or dividend distribution or inadvertently elevated taxable surplus. The taxpayer might also elect for a distribution to come out of exempt surplus before that surplus was eroded by exempt losses.
Neal Armstrong. Summaries of Geoffrey S. Turner, "June 2014 Election Deadlines for Retroactive Application of New Foreign Affiliate Reorganization Rules", CCH International Tax, No. 74, February 2014, p. 1 under Reg. 5901(2), s. 88(3.3), s. 95(2)(d.1) and s. 95(2)(e).
Descarries – Tax Court of Canada finds that using outside basis to step up outside PUC was contrary to s. 84.1's object
Some siblings would have realized a deemed dividend of $625,000 and a capital loss of $350,000 if they had wound-up a real estate company (Oka). Instead, they:
- did a dirty s. 85 exchange of their Oka shares for Oka shares with a stepped-up adjusted cost base
- transferred those shares to a Newco for Newco shares with a stepped-up paid-up capital
- redeemed most of their Newco shares (with cash derived from a previous loan from Oka to Newco), thereby realizing a capital loss to offset capital gain realized on the 1st step
- following a sale of the real estate, wound-up Oka, then Newco
so that they realized a deemed dividend of only $275,000 (i.e., $625,000-$350,000) and no net capital gain (or loss).
Hogan J found that these transactions abused the object of s. 84.1 (a general anti-avoidance rule analysis which the Crown had not suggested). The transactions were carefully designed to be well beyond the specific scope of ss. 84(2) and 84.1, but under the broader GAAR brush this didn’t matter.
Neal Armstrong. Summaries of Descarries v. The Queen, 2014 DTC 1143 [at 3412], 2014 TCC 75 under ss. 84(2), 245(4) and 171(1).
Income Tax Severed Letters 19 March 2014
This morning's release of 10 severed letters from the Income Tax Rulings Directorate is now available for your viewing.
Two-tier joint ventures are not accepted for GST/HST purposes
Where all the members of a real estate joint venture (JV-1) enter into a 50-50 joint venture (JV-2) with a seventh person respecting a further property, JV-1 and JV-2 will be treated as separate joint ventures, so that a decision to have a GST joint venture election in place for JV-2 and not JV-1 will be respected. Furthermore, all participants in JV-2 will need to make the JV-2 joint venture election.
Neal Armstrong. Summary of 12 July 2013 Interpretation 152393 under ETA - s. 273.
Intergeo (a Russian-controlled sub) is proposing a reverse takeover of Mercator (a CRIC) utilizing restricted board nominations rights and with puts being issued to the Mercator shareholders
Intergeo (a BVI subsidiary of Daselina, which is a BVI holding company of a Russian billionaire) which unsuccessfully attempted to go public two years ago, is now proposing effectively the same thing through a reverse (share-for-share exchange) takeover of TSX-listed Mercator, so that Daselina will own approximately 85% of the post-reorganization Mercator, which in turn will own Intergeo. The current Mercator shareholders might demur at minority status in a Russian subsidiary. Accordingly, they are to receive (under s. 86) a right to put their common shares to Mercator for $5 per share during an exercise window of 18 to 30 months following the arrangement's effective date, with $31.7M placed in escrow as security.
Mercator currently has paid-up capital of $400 million, so that even if the foreign affiliate dumping rules apply to Mercator’s investment in Intergeo (and to a Daselina-funded injection of working capital in existing foreign affiliates), Daselina, through PUC averaging, will end up holding common shares with full PUC. However, the effect of Special Shares to be issued to each of Daselina and a BVI mystery company (Kirkland), is that Daselina and Kirkland will have the right to nominate only three of the nine Mercator board members (but with the other six being nominated by the board itself) – but they also will have veto rights on major decisions. These shares might result in Daselina not controlling Mercator so as to insulate against application of the FAD rules. See s. 212.3 - Example 1-E.
Appendix T of the Circular explains that "taxpayers and the Russian tax authorities often interpret tax laws differently."
Neal Armstrong. Summary of Mercator Circular under Mergers & Acquisitions - Cross-Border Acquisitions - Inbound - Reverse takeovers.
CRA will not provide voluntary disclosure relief from interest if the taxpayer has been insufficiently naughty
In IC 00-1R3, CRA stipulates that "a [voluntary] disclosure must involve the application, or potential application of a penalty." Esmail Bharwani asserts that "many accountants complain that CRA has decided in many of the cases that they would not have applied a gross negligence penalty, therefore the non-filer taxpayer would not qualify. So what was supposed to have been a VD request with possible waived penalties and cancelled partial interest arrears has now become subject to regular filing, with penalties and interest."
Neal Armstrong. Summary of Esmail Bharwani, "Voluntary Disclosures", CGA Magazine, March – April, 2014, p. 48 under s. 220(3.1).
Vine Estate – Tax Court of Canada finds that filing an amended return will not solve the statute-barring problem for the poorly-reviewed original return
Campbell J found that quickly filing an amended return, which corrects an error in a return which the taxpayer did not properly review, will not prevent CRA from reassessing the taxpayer after the normal reassessment period. This issue arose because CRA did not process the correction until after that period had passed and failed to get a waiver for the particular error-related issue.
A practice point: this case suggests that if a client carefully reviews a return but does not spot anything odd that merits following-up with her "expert" accountant, the return will become statute barred in due course even if the error would have been obvious to a properly-briefed expert. Therefore, insist that your client read it!
Neal Armstrong. Summaries of Vine Estate v. The Queen, 2014 TCC 64 under s. 152(4)(a)(i) and General Concepts - Evidence and Fair Market Value - Land.
CRA is reassessing Deans Knight for avoiding the loss-streaming rules
CRA is proposing to reassess Deans Knight for $22.7M by denying use of pre-2009 tax losses (mostly SR&ED credits and deductions to be more precise) which Deans Knight deducted from the profits of its new business as a bond investor. CRA is alleging that there was an acquisition of control in 2009, or that GAAR should be applied.
In 2008 and 2009, all of the (publicly-listed) shares in the capital of Deans Knight, and all of its assets, were transferred to a new holding company (Forbes), and it issued a debenture for $3 million to a private company (Matco) which was mostly convertible into non-voting rather than voting shares, presumably to avoid a control change. It then issued $100M of voting common shares under a public offering (now representing most of its shares), with the proceeds used in its newly-established bond business. The existing shareholders at the time of the IPO (Matco and Forbes) effectively received part payment for the tax losses through dilution of the new investors.
Deans Knight now is distributing all its assets as a stated capital distribution other than the tax reassessment amount and $1.2 million to pursue a tax appeal. Minor changes to the 2009 reorganization would have complied with the additional technical requirements of new draft s. 256.1 (re 75% FMV deemed control blocks), so that any resulting Tax Court decision likely would be of current interest.
Neal Armstrong. Summaries of Deans Knight Circular for winding-up distribution under Spin-Offs & Distributions – Liquidations and of Arrangement Circular of Forbes Medi-Tech Inc. and Prospectus of Deans Knight under Other – Loss Utilization.
CRA clarifies that a qualifying s. 94(2)(t) sale of Canadian shares effects an immediate change in trust residency
If a non-resident trust is "tainted" as a resident trust under s. 94(2)(g) by being issued shares by a resident corporation, it potentially can re-acquire non-residency status under s. 94(2)(t) if it makes a qualifying sale of the shares. When this occurs, it changes its status immediately, so that it is non-resident for the stub period beginning with the sale, is resident for the stub period before the sale, and has a potential deemed disposition of its property under the emigration rule (s. 128.1(4)) as a result of the status change.
Although all this is clear enough after plowing through the provisions, the wording of the Finance Explanatory Notes is confusing – so that effectively CRA has issued an interpretation of the latter.
Neal Armstrong. Summary of 24 February 2014 T.I. 2013-0509111E5 under s. 94(2)(t).