News of Note
Proposed s. 104(13.3) undercuts use of Alberta trusts to shift income to Alberta
Email this ContentProposed s. 104(13.3) establishes that ss. 104(13.1) and (13.2) designations, to effectively retain income in a trust, can only be used after 2015 to the extent that the trust taxable income otherwise would be nil (through loss utilization). This undercuts the use of an Alberta trust to have income "inside" the trust taxed at a lower rate than if it were taxed in the hands of its beneficiaries resident in a higher rate jurisdiction.
Neal Armstrong. Summary of Gary I. Biasini, "The Trust is Dead, Long Live The Trust," Tax Topics (Wolters Kluwer CCH), Number 2227, November 13, 2014, p. 1 under s. 104(13.3).
Lyrtech – Federal Court of Appeal confirms that a public company had de facto control of an alleged CCPC which was economically captive and which it essentially managed
Favreau J in the Tax Court had found that the contingent right of each of the beneficiaries of a discretionary trust to receive all the shares of a corporation (the taxpayer) held by the trustees was too nebulous to qualify as a right to acquire those shares for purposes of s. 251(5)(b). However, that corporation was controlled de facto by the public corporation (Lyrtech) which was one of the discretionary beneficiaries (along with some Lyrtech subsidiaries), so that for that reason it did not qualify as a CCPC (and, therefore, was not eligible for enhanced SR&ED credits). In particular:
- the two individual trustees also were the key directors and officers of Lyrtech;
- the taxpayer had virtually no revenues, was under-capitalized, and depended on Lyrtech for financing; and
- Lyrtech determined what R&D work the taxpayer conducted.
This decision has been confirmed in the Federal Court of Appeal, which dealt only with the de facto control issue (with Scott JA noting that different persons can have the de facto and de jure control of a corporation in the face of a bold taxpayer argument to the contrary).
Neal Armstrong. Summaries of Lyrtech v. The Queen, 2013 DTC 1147, 2013 TCC 12, aff'd 2014 CAF 267 under s. 256(5.1) and s. 251(5)(b).
CRA indicates that a second mortgagee must exercise its legal (power of sale or foreclosure) remedies before writing off its mortgage
CRA concluded that a second mortgagee could not take a s. 50 write-down because, following failure to be paid in full, he had not pursued his legal remedies, i.e., selling the property under a power of sale, or foreclosing. There was no issue raised as to whether it would have been reasonable in the circumstances for the second mortgagee to have done this. (Since the first mortgagee must be paid off first, such collection action potentially could result in a further loss.)
Thus, no nod was given to the principles that deference should be given to taxpayer's judgment where its exercise was reasonable in the circumstances (Litowitz) and that there is no obligation to take collection steps if collection is not reasonably possible (Keating).
Neal Armstrong. Summary of 17 October 2014 Memo 2014-0535121I7 F under s. 50(1).
CRA is not yet assessing interest for failure of an inter vivos trust to make instalment payments
CRA has published its statement at the 2014 STEP Roundtable that, pending the "transparent" communication of changes to this policy, "the CRA does not assess penalties or interest where an inter vivos trust fails to make sufficient instalment payments."
Neal Armstrong. Summary of 16 June 2014 STEP Roundtable Q.9, 2014-0526591C6 under s. 156(1).
CRA states that failure to circularly calculate Part IV tax and dividend refund is carelessness
As a result of a tuck-under transaction, two CCPCs each held shares in the other. As one of them had an RDTOH balance, and each paid a deemed dividend or actual dividend to the other, this gave rise to a circular calculation of dividend refunds and Part IV tax: (1) the deemed dividend paid by Corp 1 generated a dividend refund to it which, in turn, generated Part IV tax to Corp 2 under s. 186(1)(b), thereby generating RDTOH to Corp 2; (2) this RDTOH of Corp 2 meant that it generated a dividend refund on the deemed dividend paid by it to Corp 1; which (3) generated Part IV tax and an increase to the RDTOH account of Corp 1, thereby increasing its dividend refund in step 1; and so on.
The Directorate noted that "in general, the circular calculation of the dividend refund and Part IV tax liability of the affected corporations ceases when the dividend refund of the corporation having paid the smaller dividend is equal to 1/3 of the taxable dividend which it is deemed to have paid in the year."
In finding that the transactions could be reassessed beyond the normal reassessment period for carelessness, the Directorate stated that "the necessity to effect the circular calculation…is well known."
Summaries of 30 June 2014 Memo 2013-0508411I7 F under s. 186(1) and s. 152(4)(a)(i).
CRA indicates that interest on a mortgage assumed by a beneficiary on a trust or estate distribution of a rental property generally will be deductible
Where an inter vivos trust (or estate) distributes a rental property charged with a mortgage (or hypothec in Quebec) to a beneficiary (A), CRA considers that the mortgage will represent an amount payable by the beneficiary for the property (so that the interest thereon will be deductible under s. 20(1)(c)((ii), subject to the usual conditions) provided "the assumption by A of the hypothec loan charging the property is a condition of the distribution."
This begs the question as to what happens if the beneficiary doesn’t do anything in particular to assume the mortgage, e.g., the mortgage continues as a charge on registered title held by a nominee. Furthermore, at common law, a devisee of real property of an estate takes the property subject to the charge without any requirement for the devisee to specifically assume the mortgage, in the absence of any contrary indication in the will.
Neal Armstrong. Summary of 10 October 2014 APFF Roundtable, Q. 8, 2014-0538141C6 F under s. 20(1)(c)(ii).
Reversing position, CRA finds that for s. 55 purposes a beneficiary includes a (potentially) “beneficially interested” person
S. 55(5)(e)(ii) provides that for s. 55 purposes a person is related to a trust if it is related to "each beneficiary (other than a registered charity) under [the] trust who is or may (otherwise than by reason of the death of another beneficiary under the trust) be entitled to share in the income or capital of the trust." In 2004, CRA stated (in 2004-0086961C6) that the expansive definition of "beneficially entitled" in s. 248(25)(a) "is irrelevant for the purposes of subparagraph 55(5)(e)(ii)."
After having studied Propep and reread s. 55(5)(e)(ii), CRA has now reversed position, so that the concept of who is a beneficiary under s. 55(5)(e)(ii) is expanded by s. 248(25)(a). This will make the interpretation of the exemptions in s. 55(3)(a) tricky where there is an inopportune presence or participation of a family trust whose trustees have a power to add beneficiaries - and CRA's cottoning onto the Propep dictum on "beneficiary" is generally fraught.
Neal Armstrong. Summary of 10 October 2014 APFF Roundtable, Q. 3, 2014-0538021C6 F under s. 55(5)(e)(ii).
CRA states that a s. 98(3) election will be invalid if it does not cover all the partnership property
CRA considers that an election under s. 98(3) (for the conversion of a partnership into a co-ownership on a rollover basis) is not available unless "the election is made in respect of all of the property of the partnership." Furthermore, as s. 98(3) is not listed in the election amendment provision (Reg. 600), "there is no discretion to permit an amended election."
This appears to indicate that if, for example, following the winding-up of a real estate partnership with $100 million of accrued recapture or capital gains, the election does not list the $1,000 of prepaid insurance, the election will be invalid, with no facility to later amend to correct this oversight.
Brilliant! This accords with the principle of statutory interpretation that the literal words of a provision should be applied mechanically, in the same way that a computer would run a piece of applications software [citation not available].
Neal Armstrong. Summary of 6 October 2014 T.I. 2014-0540611E5 under s. 98(3).
Income Tax Severed Letters 19 November 2014
This morning's release of 21 severed letters from the Income Tax Rulings Directorate is now available for your viewing.
Vocalspruce – English Court of Appeal broadly interprets a deeming provision
A UK sub (Vocalspruce) acquired zero coupon notes from its UK parent in consideration for its issuance of shares, and credited the discounts on the notes to its share premium account when received, with the targeted result that those discounts were tax-exempt. It unsuccessfully argued that a provision, which provided that loan transactions in which one group company replaced another were to be disregarded, only had the effect of requiring one to ignore that Vocalspruce had replaced its parent as the new owner of the discount notes, and did not require the subsequent realization of the note discounts in its hands as exempt share premium amounts to be ignored.
In rejecting this approach, Lewison LJ stated: "it is a well-known method of interpreting deeming provisions that one must treat as real the inevitable consequences flowing from the deemed state of affairs: DCC Holdings Ltd v HMRC [2010] UKSC 58, [2011] 1 WLR 44 at [38]." (See also La Survivance, East End, Derlago, Terrador.) Arguably, the narrow construction typically given by CRA to deeming provisions does not apply this well-known method.
Neal Armstrong. Summary of Vocalspruce Ltd. v. Revenue and Customs Commissioners, [2014] BTC 50, [2014] EWCA Civ 1302 (English CA) under Statutory Interpretation – Interpretation Provisions.