22 September 2008 External T.I. 2008-0288691E5 - Real estate commissions and 12(1)(x) and 13(7.4)

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: Is a taxpayer able to make an election under subsection 13(7.4) of the Income Tax Act to reduce the capital cost of leasehold improvements, where the taxpayer received an amount, from a real estate agent, on signing a lease for office premises, with a landlord.

Position: No

Reasons: In the scenario described, the amount is not received in respect of a particular property acquired by the taxpayer.

XXXXXXXXXX 						2008-028869
L. Carruthers, CA
September 22, 2008

Dear XXXXXXXXXX :

Re: "Rebate" on real estate agent commissions received on lease signing

This is in reply to your letter of July 30, 2008, wherein you asked our assistance to clarify the tax consequences to a taxpayer of receiving an amount, from a real estate agent, on signing a lease for office premises, with a landlord. Specifically, you asked whether the taxpayer is able to make an election under subsection 13(7.4) of the Income Tax Act (the "Act") to reduce the capital cost of related leasehold improvements by the amount received and, therefore, not have an income inclusion pursuant to paragraph 12(1)(x) of the Act.

Your letter contained the following scenario: A taxpayer hires a real estate agent to assist in finding an office to lease. The agreement between the taxpayer and real estate agent stipulates a set amount of commissions that the real estate agent will receive on the transaction and indicates that any excess commissions received by the real estate agent will be given to the taxpayer as a "rebate". Once the real estate agent finds an office to lease and the lease agreement is signed between the taxpayer and the landlord, the landlord pays the real estate commission to the real estate agent. If the commission received by the real estate agent from the landlord exceeds the amount that was agreed upon between the taxpayer and the real estate agent, the real estate agent will pay the excess amount to the taxpayer. With respect to the "rebate" of real estate commissions, there are no restrictions in the agreement between the real estate agent and the taxpayer regarding the use of the funds. However, the taxpayer will use the funds received from the real estate commission "rebate" to make leasehold improvements on the office premises leased.

In your view, the amount received by the taxpayer will be included in the taxpayer's income by virtue of paragraph 12(l)(x) of the Act. Specifically, you noted that the amount received by the taxpayer is in the course of earning income, the amount is paid by the real estate agent in the course of earning income, and the amount can reasonably be considered to have been received as an inducement or as a refund/reimbursement in respect of an amount included as the cost of property (leasehold) or as an outlay/expense.

It appears that your view that the amount received by the taxpayer will be included in the taxpayer's income by virtue of paragraph 12(l)(x) of the Act, is based on the premise that the amount is not taxed as business income pursuant to subsection 9(1) of the Act and, that it meets the requirements of subparagraph 12(1)(x)(iv) of the Act.

Our Comments

The facts in your letter appear to relate to a factual situation involving specific taxpayers. As explained in Information Circular IC70-6R3, it is not this Directorate's practice to comment on proposed transactions involving specific taxpayers other than in the form of an advance income tax ruling. Furthermore, should your situation involve specific taxpayers and a completed transaction, you should submit all relevant facts and documentation to the appropriate tax services office for their views. Nevertheless, we offer the following comments in connection with your request. These comments are of a general nature only.

In the scenario you described, if the taxpayer's new landlord pays real estate commissions to the real estate agent, in excess of a set amount of commissions previously agreed to between the taxpayer and the real estate agent, the real estate agent will pay any excess amount to the taxpayer. We do not concur with your description of the excess amount as a "rebate". In our view, no amount has been refunded to the taxpayer, because the real estate commission was payable by the new landlord and not the taxpayer. Herein, we refer to the excess amount paid to the taxpayer simply as an amount received. Whether the nature of the amount received is that of commissions income, business income, an inducement, a receipt in respect of the cost of property or an outlay or expense, or other, is a question of fact and can only be determined after looking at all the relevant documents and surrounding circumstances.

The Canada Revenue Agency's position is that, in general, a taxpayer should apply generally accepted accounting principles ("GAAP"), or well-accepted business principles, consistent with the provisions of the Act (see Canderel v the Queen 98 DTC 6100) in determining profit, unless a provision of the Act permits a departure from GAAP or well-accepted business principles.

When an amount is received in the course of earning income from a business, the application of GAAP, or well-accepted business principles, for the purpose of calculating profit or loss under section 9 of the Act, commonly requires the amount to be included in income, or deducted in computing the balance of an undeducted outlay or expense. If the application of GAAP, or well-accepted business principles, does not require an amount received by a taxpayer to be included in income, or deducted from an outlay or expense, in our view, paragraph 12(1)(x) of the Act would generally apply to require the amount received to be included in the taxpayer's income. Paragraph 12(1)(x) of the Act will apply, pursuant to subparagraph 12(1)(x)(v), to an amount received by a taxpayer in the course of earning income from a business or property unless it was otherwise included in income, or deducted in computing any balance of undeducted outlays, expenses, or other amounts, for the year, or a preceding taxation year, under some other provision of the Act, such as section 9 of the Act.

Subparagraph 12(1)(x)(iii) of the Act applies to an amount received as an inducement of any form and subparagraph 12(1)(x)(iv) of the Act applies to an amount received in respect of the cost of property or an outlay or expense. In the scenario you described, the amount received by the taxpayer, in our view, is not received in respect of the cost of property or an outlay or expense. You stated that the amount received is used by the taxpayer to make leasehold improvements on the office premises leased, however, this does not constitute being received in respect of the cost of property or an outlay or expense.

Subsection 13(7.4) of the Act allows a taxpayer to elect to reduce the capital cost of a depreciable property by an amount received, in respect of the cost of the property, which would otherwise be included in income by virtue of paragraph 12(1)(x). As noted above, in our view, the amount received by the taxpayer from the real estate agent is not received in respect of the cost of property, and therefore, an election under subsection 13(7.4) of the Act, in our view, is not available.

We trust that these comments will be of assistance to you.

Yours truly,

R.A. Albert, CA
for Director
Financial Sector and Exempt Entities Division
Income Tax Rulings Directorate