News of Note
Carvest Properties – Federal Court of Appeal confirms that the relevant valuation unit in an apartment building for ETA s. 191(1) self-assessment purposes was each rental unit
Email this ContentThe company (“Carvest”) constructed a 137-unit building in London, Ontario, for purposes of renting the units. Nonetheless, it registered each of the units under the Condominium Act in order to avoid paying property taxes at a commercial-building rate. The Tax Court had found that Carvest was required under s. 191(1) to self-assess HST on the FMV of each “condo” unit as each unit was occupied by its tenant, rather than self-assessing under s. 191(3) on the FMV of the whole building when the first tenant moved in (or on substantial completion, if later). Furthermore, it accepted that the best method for valuing condo units was comparable sales of condo units, and rejected the cost plus 6% method proposed by Carvest (in light inter alia of difficulties in allocating common-area costs to the individual units.) However, the resulting per-unit value was to be reduced by a 6% “absorption discount” to reflect the effect on the market of absorbing the sale of 137 condo units over a 16-month period.
Monaghan JA found that the Tax Court had made no reversible error. Among other submissions, she rejected the Carvest suggestion “that the proper approach is to first determine the value of the property and then decide which part of section 191 applies—subsection 191(1) or 191(3)” and stated:
I disagree. [C]onsistent with Nash … the first step is to identify the property to be valued [i.e., each “condo” unit].
Neal Armstrong. Summary of Carvest Properties Limited v. Canada, 2022 FCA 124 under ETA s. 191(1).
CRA indicates that s. 15(2) applies separately to accrued and unpaid interest on a shareholder loan, but s. 80.4(2) does not apply to such interest
CRA indicated that where a corporation with calendar taxation years makes an interest-bearing loan to its individual shareholder, and the accrued interest is still unpaid at the end of the following year, s. 15(2) will apply separately to such accrued interest amount (to include it in the individual’s income) regardless of whether the loan principal amount was also included in the individual’s income under s. 15(2).
Although on a literal reading, there also might be imputed s. 80.4(2) interest on such unpaid interest amount, CRA stated that "accrued interest such as …Interest in th[is] Particular Situation does not meet the meaning of ‘debt’ in the context of a textual, contextual and purposive interpretation of subsection 80.4(2),” so that no such imputation would occur whether or not the loan was repaid before the end of the corporation’s second taxation year.
Neal Armstrong Summaries of 25 February 2022 External T.I. 2020-0873761E5 F under s. 15(2) and s. 80.4(3)(b).
CRA discusses the application of s. 43.1 where a remainder realty interest is transferred to a personal trust and there is a subsequent life interest surrender
CRA ran through a simple example illustrating what happens if the life-estate-in-realty rules in 43.1 are partially or fully applicable.
Parent transfers a remainder interest, having an FMV of $200,000, in a residence having an FMV of $250,000, to a personal, inter vivos trust of which an adult child is the sole beneficiary and retains a life estate in the residence with an FMV of $50,000. Parent later moves out of the residence and disposes of the life estate to the Trust to enable the sale of the residence to a third party for $400,000.
CRA noted that by virtue of having disposed of the remainder interest in the residence to the trust and retained the life estate, Parent was deemed by s. 43.1(1) to have disposed of the life estate for proceeds of disposition equal to $50,000, and to have re-acquired it at a deemed cost of $50,000. S. 69(1)(b)(i) or (ii) deemed the proceeds of disposition of the remainder interest to be $200,000, and if the trust received the remainder interest by way of gift, it was deemed under s. 69(1)(c) to have acquired it at a cost of $200,000. Provided the usual conditions were satisfied, the capital gains realized from the deemed disposition of the life estate, and the disposition of the remainder interest to the trust, could be sheltered by the principal residence exemption.
Since the life interest of Parent was terminated by moving out rather than “as a result of an individual’s death,” so that the s. 43.1(2)(a) rollover did not apply, s. 69(1)(b) deemed Parent to receive FMV proceeds for the life interest, so that Parent realize a further gain if the life interest had appreciated in its FMV.
If (to vary the facts) Parent stayed in the residence until death, s. 43.1(2)(a) would deem Parent to have disposed of the life estate immediately before death for proceeds equaling the ACB of the life estate (being the deemed cost that had previously arisen under s. 43.1(1)(b)) and (since Parent and the trust were deemed not to deal with each other at arm’s length) s. 43.1(2)(b), on the termination of the life estate, would add an amount to the $50,000 ACB of the residence equal to the ACB of the life estate in the property immediately before the death (or a lesser amount if the fair market value of the residence as a whole has decreased since the initial transfer of the remainder interest).
Neal Armstrong. Summary of 15 June 2022 STEP Roundtable, Q.9 under s. 43.1.
CRA declines to state a s. 237.3 safe harbour for a financial planner who is unaware of the tax planning
A financial advisor (Ms. A), at the request of Mr. B’s tax advisor, sells a generally-available financial product to Mr. B and receives compensation directly from the issuer of the product based on the amount invested by Mr. B.
Subsequently, the tax advisor, without Ms. A’s knowledge, combines the financial product with certain other tax strategies where the existence and amount invested by Mr. B is used to obtain a tax benefit. Mr. B is reassessed on the basis that the purchase of the financial product was part of a series of transactions that included an avoidance transaction, so that such purchase (being part of the series) was a reportable transaction. Did Ms. A nonetheless have no reporting obligation under the current version of s. 237.3(2)?
CRA indicated that “[b]ased on the limited facts provided” it could not confirm that Ms. A had no such reporting obligation and that, in determining whether Ms. A has an obligation to file an information return under s. 237.3(2)(c) or (d), it would consider factors such as:
- whether Ms. A is an advisor or a promoter in respect of the sale of the financial product (notably whether she acted in a manner described in the definition of “advisor” or “promoter” in s. 237.3(1) in respect of the sale of the financial product);
- the terms of the sale of the financial product and the series of transactions, of the financial product, and of the consideration received by Ms. A from the financial services corporation;
- whether Ms. A is dealing at arm’s length with an advisor or promoter in respect of any transactions in the series; and
- who was entitled to a fee referred to in para, (c) of “reportable transaction” in s. 237.3(1).
Neal Armstrong. Summaries of 3 May 2022 CALU Roundtable Q. 3, 2022-0928721C6 under s. 237.3(2)(c) and s. 237.3(1) – Reportable Transaction – para. (a).
Income Tax Severed Letters 6 July 2022
This morning's release of four severed letters from the Income Tax Rulings Directorate is now available for your viewing.
Joint Committee comments on the draft hybrid mismatch arrangements proposals
Comments of the Joint Committee on the draft hybrid mismatch arrangements proposals include:
- Where a dividend is subject to the denial of the s. 113 deduction, by s. 113(5), for a dividend received from a foreign affiliate, no deduction is available under s. 113(1) for foreign withholding tax paid on the dividend, and the dividend remains “income from a share of the capital stock of a foreign affiliate of the taxpayer”, such that no foreign tax credit under s. 126(1) nor deduction under s. 20(12) is available for the foreign withholding tax paid on the dividend. It is recommended that relief be provided for foreign withholding tax paid on dividends that are subject to s. 113(5) by modifying it to allow grossed-up deductions for such withholding tax.
- Where, for example, a FAPI-earning controlled foreign affiliate has issued a financial instrument that is treated as debt from a Canadian perspective and as equity from a foreign tax perspective, it seems inappropriate to deny a deduction in computing such FAPI through an extension to such context of the proposed hybrid mismatch rules, given that if this instrument had instead been treated as equity from a Canadian perspective, such that there would not have been any deduction in computing FAPI for the “interest” payments, the existence of the instrument would have in any event resulted in a reduction of the Canadian taxpayer’s participating percentage in respect of the affiliate, and thus a corresponding reduction of attributed FAPI. It is recommended that s. 95(2)(f.11)(ii)(A) be expanded to exclude the application of ss. 12.7 and 18.4 in computing a foreign affiliate’s income from property, income from a business other than an active business and income from a non qualifying business.
- It should be clarified that there would not be considered to be a hybrid mismatch if, for example, a taxpayer borrows money at interest from a third party for the purpose of making an interest-bearing loan to a foreign subsidiary, i.e., the fact that the interest on this borrowing “shelters” the Canadian interest income should not be considered to give rise to a non-inclusion situation.
- There is potential double taxation under the draft rules through considering there to be a mismatch where the amount is deductible (but not actually deducted) in the foreign jurisdiction, e.g., under draft s. 18.4(9).
- S. 20(1)(yy) only relieves where the application of the hybrid mismatch rules results in the denial of a deduction under s. 18.4(4), and not where there is an income inclusion under s. 12.7(3), i.e., if a payment under a hybrid mismatch arrangement produces a foreign tax deduction in a particular foreign taxation year, and Canadian ordinary income in a taxation year beginning more than 12 months after the end of the particular year, the recipient of the payment is required to include an amount in its income under s. 12.7(3), notwithstanding that an amount is also included in Canadian ordinary income under the general Canadian income tax rules.
- Where s. 18.4(4) denies a deduction for an amount paid as interest, s. 214(18) deems such amount to have been paid as a dividend for Part XIII purposes. Where a deduction is subsequently provided under s. 20(1)(yy) (i.e., because such amount is demonstrated to be foreign ordinary income that has not previously been taken into account), the draft rules do not currently provide for any refund or reduction of the withholding tax that would result from such deemed dividend treatment.
Neal Armstrong. Summaries of Joint Committee, “Hybrid Mismatch Arrangements Proposals,” 30 June 2022 Submission of the Joint Committee under s. 113(5), s. 18.4(1) – Canadian ordinary income – (a)(iii), specified entity, s. 18.4(3), s. 18.4(9), s. 12.7(3) and s. 227(6.1).
CRA tries to make sense of the Bill C-208 provisions
CRA has adopted a number of interpretations of s. 84.1(2.3), which modifies the rule in s. 84.1(2)(e) for exempting, from the application of s. 84.1, certain transfers of QSBC shares or family farm or fishing corporation shares by the taxpayer to a purchaser corporation that is controlled by one or more adult children or grandchildren of the taxpayer.
S. 84.1(2.3)(a) provides that, for the purposes of s. 84.1(2)(e):
(a) if, otherwise than by reason of death, the purchaser corporation disposes of the subject shares within 60 months of their purchase:
(i) paragraph [84.1](2)(e)] is deemed never to have applied, [and]
(ii) the taxpayer is deemed, for the purposes of [s. 84.1], to have disposed of the subject shares to the person who acquired them from the purchaser corporation … .
Regarding the meaning “by reason of death,” CRA stated that it:
would look for a causal link between the death and the subsequent disposition of the shares by the purchaser corporation. For example, the death of an individual may make it impractical or difficult to continue under the current ownership and may precipitate the subsequent sale of the subject shares.
It indicated that, for example, this causal link likely could be established if, following the death of the child wholly-owning the purchaser corporation, her estate sold the QSBC shares back to the taxpayer within the 60-month period.
Regarding how to apply 84.1(2.3)(a)(ii) if the “by reason of death” exclusion did not apply, CRA indicated that it would then determine whether s. 84.1 applied to the initial disposition to the child or grandchild corporation on the basis of whether s. 84.1 would have applied to the subsequent purchaser. Thus if the subsequent purchaser was a third party who dealt at arm’s length with the taxpayer or (to return to the example above) was the taxpayer himself, so that s. 84.1 could not have applied to such a purchaser, s. 84.1 will be considered not to have applied to the disposition by the taxpayer to the child or grandchild corporation.
CRA confirmed that the purported numerical limitation on the s. 110.6(2) or (2.1) capital gains deduction (based inter alia on the level of the corporation’s taxable capital employed in Canada) set out in s. 84.1(2.3)(b) is meaningless and has no application because it is stated to apply only for the purposes of s. 84.1(2)(e).
Regarding s. 84.1(2.3)(c), which provides that the taxpayer must provide the Minister with an independent assessment of the FMV of the subject shares and an affidavit signed by the taxpayer and a third party attesting to the disposal of the shares, CRA stated:
[T]he documentary requirements are integral to the application of paragraph 84.1(2)(e) of the Act. That is, these requirements must be met for paragraph 84.1(2)(e) to apply.
Neal Armstrong. Summaries of 3 May 2022 CALU Roundtable Q. 3, 2022-0928721C6 under s. 84.1(2.3)(a), s. 84.1(2.3)(b) and s. 84.1(2.3)(c).
We have translated 8 more CRA interpretations
We have published a further 8 translations of CRA interpretations released in October of 2004. Their descriptors and links appear below.
These are additions to our set of 2,125 full-text translations of French-language Technical Interpretation and Roundtable items (plus some ruling letters) of the Income Tax Rulings Directorate, which covers all of the last 17 ¾ years of releases of such items by the Directorate. These translations are subject to our paywall (applicable after the 5th of each month).
Sabex (a.k.a., 3295940) – Tax Court of Canada finds that a circular use of capital dividends abused s. 55(2) and the purpose of the CDA
The taxpayer (3295940) was a holding company holding a shareholding in a Target with a low ACB (even after using safe income on hand to step up such ACB), whereas the holding company (Micsau) holding shares in 3295940 had a high ACB for its shares. Unfortunately, the third-party purchaser (Novartis) was unwilling to acquire the shares in the capital of 3295940 (due to potential liabilities), and was only interested in acquiring shares from 3295940 itself.
Under the plan to try to address this:
- Micsau created a sister company (4244) to 3295940 to which it transferred newly-created pref shares of 3295940 having full ACB in exchange for full-ACB shares of 4244.
- 3295940 then transferred its Target shares to 4244 on a partial s. 85 rollover basis, so that it effectively realized a capital gain corresponding to high-ACB prefs received by it from 4244, and also took back common shares of 4244 with a high FMV and nominal ACB.
- 3295940 redeemed the prefs held by 4244 for a $31.5M note, and elected for the resulting $31.5M deemed dividend to be a capital dividend paid to 4244.
- 4244 redeemed $31.5M of the low-ACB common shares that it had issued to 3295940 in Step 2 for a $31.5M note, and elected for the resulting $31.5M deemed dividend to be a capital dividend paid to 3295940.
- Then the two notes were set off, Micsau transferred its shares of 4244 to 3295940, and 3295940 sold the shares of 4244 to Novartis at no further capital gain.
Favreau J noted that the total capital gain realized by 3295940 (on Step 2) was $31.5M lower than if 3295940 had simply sold its shares of Target outright to Novartis. He considered that, normatively, 3295940 should have been caused by s. 55(2) to have realized a capital gain of $31.5M on Step 4. However, this result was avoided because the resulting deemed dividend paid to 3295940 was a capital dividend (representing a recycling of CDA that had originated with it) rather than a taxable dividend that would then have been converted by s. 55(2) to a capital gain. This represent a GAAR abuse of ss. 55(2) and the capital dividend system. He stated:
The capital dividend was used in a way that is not consistent with its purpose: instead of allowing tax-free amounts to flow upwards in the corporate group, the amount circulated back to its starting point, in the hands of 3295940.
This recycling of the capital dividend prevented subsection 55(2) from applying and converting the deemed dividend paid by 4244 to 3295940 into a capital gain. The application of subsection 55(2) would have allowed the entire appreciation in value of the Holdings shares to be taxed, thereby preserving the integrity of the capital gains tax regime.
Regarding the taxpayer’s submission that it was appropriate for it to effectively access the high ACB of Micsau in the shares of 3295940, Favreau J noted that, in light of s. 88(1)(d.2), Micsau could not have used s. 88(1)(d) to bump the low ACB of the shares of Holdings to 3295940, and stated that 3295940 “reached the same result as if there had been a bump of the shares held by it, but without having to satisfy the required conditions.”
Regarding the submission of the taxpayer that (but for commercial roadblocks) it could have achieved a similar result by more directly using the high ACB of Micsau in 3295940, he stated:
[I]t was demonstrated that the sale of [the Target] shares was paramount. That being the case, the alternative transactions involving the sale of 3295940 shares cannot be submitted for comparison … .
Neal Armstrong. Summary of 3295940 Canada Inc. (formerly, Sabex Inc.) v. The Queen, 2022 CCI 68 under s. 245(4).
Grewal – Federal Court of Appeal confirms that a voluntary disclosure which included loans did not stop CRA from later applying s. 163(2) for failure to include them in income
A voluntary disclosure included a description of various loans, but did not volunteer that they gave rise to taxable benefits. After the voluntary disclosure was accepted through reassessments, a subsequent audit of one of the taxpayer’s companies caused CRA to conclude that these loans gave rise to additional income under s. 246(1) of over $14M to the taxpayer for years that had been covered by the voluntary disclosure, and CRA not only reassessed for these s. 246(1) benefits, but also for significant gross negligence penalties.
In confirming the Federal Court’s dismissal of the taxpayer’s application for judicial review of the decision to impose the penalties, Laskin JA stated:
[T]he appellant’s submissions, if accepted, would place this taxpayer in a better position than that of other taxpayers who did not avail themselves of the VDP. When a taxpayer makes use of the VDP, the taxpayer can still be audited and the taxpayer’s filings can still be assessed like those of any other taxpayer. Additional tax, interest, and penalties arising from the failure to disclose income may be due. The appellant’s submissions, if accepted, would restrict the Minister’s ability to assess penalties in these circumstances. …
Neal Armstrong. Summary of Grewal v. Canada (Attorney General), 2022 FCA 114 under s. 163(2).