24 November 2011 Internal T.I. 2011-0406611I7 - Employer Paid Legal Expenses

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Principal Issues: Whether an employee's legal costs paid by an employer are taxable under the circumstances described.

Position: In this particular case no.

Reasons: Expenses were incurred by reason of employment and arose in part due to erroneous information being provided to the employee by the employer.

XXXXXXXXXX                                Andrea Boyle, CGA
                                          2011-040661
November 24, 2011

Employer Paid Legal Expenses

I am replying to your letter dated May 15, 2011 in which you asked for our views on whether legal costs paid by an employer on an employee's behalf would be a taxable benefit in the circumstances described below. We apologise for the delay in our response.

All statutory references in this letter are references to the provisions of the Income Tax Act, R.S.C. 1985 (5th supp.) c. 1, as amended ("the Act").

THE FACT SITUATION

You have provided the following fact situation:

1. XXXXXXXXXX . XXXXXXXXXX ("the Employee") continued as XXXXXXXXXX during the transition to and implementation of the XXXXXXXXXX ("the Employer").

2. The Employee agreed to the terms of a Letter of Offer received from the post-transition Employer in XXXXXXXXXX 2005. The Employee commenced employment in XXXXXXXXXX 2006.

3. The contract provided to the Employee subsequent to commencing employment contained a number of elements which were not included in the original offer letter. The Employee did not feel that she could sign the contract under the terms given.

4. Protracted negotiations of the employment contract ensued. During this time the Employee sought legal advice.

5. A contract was finally signed in XXXXXXXXXX 2008 more than XXXXXXXXXX years after the Employee commenced employment. This contract was based on the original terms that the Employee agreed to in the Letter of Offer from XXXXXXXXXX 2005.

6. During 2010 the Board of the Employer organization reviewed the circumstances and the Employee was reimbursed for her legal costs in the amount of $XXXXXXXXXX .

7. Relying on paragraph 32 of Interpretation Bulletin IT-99R5 (Consolidated) Legal and Accounting Fees, the Employer has included the $XXXXXXXXXX as a taxable benefit on the employee's T4 for 2010.

YOUR QUESTION

You have asked us whether the reimbursement of the legal fees would be considered to be a reimbursement of "personal" expenses of the Employee and therefore are properly characterized as a taxable benefit or, alternatively, whether the reimbursement would be considered a reimbursement of expenses incurred by reason of employment and would not be characterized as a taxable benefit to the Employee.

OUR COMMENTS

Paragraph 6(1)(a) of the Income Tax Act includes in computing the income of a taxpayer for a taxation year as income from an office or employment "...the value of board, lodging and other benefits of any kind whatever received or enjoyed by the taxpayer in the year in respect of, in the course of, or by virtue of an office or employment..."

In paragraph 32 of Interpretation Bulletin IT-99R5 (Consolidated) - Legal and Accounting Fees we have stated that: "Where personal legal expenses of an employee (or of his or her family) are paid or reimbursed by the employer, the amount paid is a taxable benefit to the employee." In our view reimbursements of personal expenses by an employer are considered to be "benefits of any kind whatever" received by an employee by virtue of office or employment and therefore these amounts have to be included in income under paragraph 6(1)(a).

An exception to the broad scope of paragraph 6(1)(a), is the concept that, in order for there to be a taxable benefit, the employee must be enriched, not merely reimbursed. If, on the whole, an employee's economic position is not improved by the reimbursement, the receipt is not a benefit, and the reimbursement is therefore not taxable under paragraph 6(1)(a). Therefore the reimbursement to an employee by an employer for expenses incurred by reason of the employment (in contrast with the reimbursement of expenses which are considered to be the ordinary, every day expenses of the employee) may not be a taxable benefit to the employee.

Whether specific legal fees reimbursed by an employer would be considered to be an employee's personal expenses is a question of fact that can only be determined after a complete review of the circumstances in each case.

Whether or not a taxable benefit is conferred on an employee from an expense reimbursed by an employer generally depends upon whether the expense was incurred primarily for the benefit of the employee or for the benefit of the employer. In the absence of evidence to the contrary, the payment of a "personal" expense of an employee is considered to benefit the employee first and foremost; however, where it is established that an expense incurred was necessary to fulfill a condition of employment, then it is more likely that the employer is the primary beneficiary of the expense incurred.

It seems likely in the circumstances described that both parties benefit somewhat from the legal fee expenses incurred: the Employee benefits from being reimbursed for the cost of receiving proper legal advice/representation in making sure that the contract of employment reflected the terms in the offer letter, and the Employer benefits because the provision of the legal advice is part of the process by which the parties were able to eventually arrive at a signed employment contact.

Additionally, in considering reimbursement cases, we examine whether there is a nexus between the expense reimbursed and the requirements of the job. In the present situation it seems that there is a fairly strong nexus between the expense outlay and the individual's position as an employee. In our view, the signing of the contract of employment in the circumstances described can be viewed as a necessary condition of employment.

Finally, amounts paid as damages to an employee to compensate an employee for a financial loss suffered due to the employer's negligence or wrongful actions are generally treated as a non-taxable receipt insofar as it is a reasonable compensation for the loss suffered. It is our view that a reimbursement to an employee for a financial loss suffered by the employee which arose as a consequence of a fault on the employer's part have the same character as damages. In this case, it appears that there was some fault on the part of the Employer in communicating the correct terms of employment in the offer letter and this miscommunication resulted in the Employee incurring legal fees.

Therefore, taking into account the facts in the given situation, it is our view that since the legal expenses here were incurred to fulfill a condition of employment, were incurred by reason of the employment, and arose due to erroneous information provided to the Employee, the reimbursement to the Employee by the Employer of these expenses would not be considered a taxable benefit to the Employee in this case.

Where it is determined that an employer has incorrectly included an amount on an employee's T4 slip, the employer should prepare an amended T4 slip a copy of which would then be sent to the CRA and to the affected employee. Where the taxpayer has already filed his or her return, the employee can request an adjustment for a taxation year by sending either a completed Form T1-ADJ - T1 Adjustment Request, or a signed letter with all the information with respect to the adjustment, to the employee's tax centre.

We trust that these comments will be of assistance.

Yours truly,

Guy Goulet CA, M.Fisc.
Manager
for Director
Ontario Corporate Tax Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch