Subsection 56(4) - Transfer of rights to income

Upon a sale by A of leased land to a non-arm’s length corporation (Corporation A) in which A did not hold any shares, A and Corporation A agreed to a redistribution of income in which Corporation A undertook to pay to A all the related rental income. How might ss. 9(1) and 56(4) apply? After finding that the rentals received by Corporation A would probably not have the "quality of income” to it since it would not have “an absolute and unconditional right to these amounts,” CRA went on to state:

[S]ubsection 56(4) would apply to Corporation A… to include the rent amount in its income without a corresponding deduction for its payment to A.

and (quoting from IT-440R, para. 10):

where the transfer or assignment of the right to an amount that is income does not constitute a deliberate attempt to evade or avoid tax, the amount will be included only in the income of the transferor.”

Publico determined to grant stock options to its directors and consultants, as a result of which a private corporation ("Corporation") was entitled to receive a grant of options. However, such options instead were granted directly to Ms. X, the sole shareholder of Corporation, who subsequently exercised and sold the acquired Publico shares, reporting a capital gain. The option terms provided that they were non-assignable.

CRA found that s. 56(4) applied to Corporation on the basis that the Corporation, as the consultant, was the party entitled to the options, would have recognized business income on exercise of the options and on the facts of the situation it could be considered that the rights to such amount were transferred or assigned by it to Ms. X. Furthermore, as such amount would be business income to Corporation, the closing exception did not apply.

Such income inclusion to Corporation did not detract from there also being a taxable benefit to Ms. X under s. 15 (or 6(1)(a), if it was received by virtue of employment).

Father and Y were the trustees of a Quebec family trust, whose beneficiaries included father and his three children. Distributions made by the Trust to the children's bank accounts were, in large part, immediately "returned" out of the bank accounts to father, to reimburse him for expenses (both specific and general) which he claimed were their responsibility and for their benefit.

After finding that the amounts returned to the father were income to him under s. 104(13), CRA went on to indicate (TaxInterpretations translation) that such amounts should not be included in his income under s. 56(4):

Since Father is both beneficiary and trustee, the income that was allocated to the Children could have been allocated to him and paid (section XXXXXXXXXX of the trust deed provides that in the exercise of his discretion the trustee may designate Father to receive income). However, neither Father nor Y exercised this discretion in favour of Father. Thus Father had only a potential right to Trust's income. Therefore, subsection 56(4) does not apply.

As part of a general response respecting the transfer of rights by a musician to a corporation, CRA stated:

[I]n … F2002-0149781R3, the CRA took the position that subsection 56(4) would apply to the transfer to a corporation by an individual of royalty entitlements arising from contracts with a publisher, on the basis that the related copyright, no longer held by the individual, was not also transferred to the particular corporation. In this regard, the entering into of the publishing contract entailed the irrevocable assignment by the individual to the publisher of all copyright covered by the publishing contracts.

That said, the CRA took the position in … F2002-0149781R3 to not apply subsection 56(4) to the transfer of royalty rights under an agreement with the Society of Composers, Authors and Music Publishers of Canada (formerly the Society of Composers, Authors and Publishers of Canada Limited and hereinafter "SOCAN") in light of the particulars of such agreement.

CRA indicated that the renunciation of a capital interest in a discretionary family trust would not give rise to the application of s. 56(4), stating (per its summary) that "the individual renounced the entire property and not only the right to income.”

Mr. X who, in computing income from his construction business, used the percentage-of-completion method and excluded contract holdbacks each year, transferred that business on a rollover basis to a "Newco with which he does not deal at arm's length. After indicating that the construction lien holdbacks were eligible property that could be transferred at a nominal agreed amount under s. 85(1), CRA stated:

[T]he CRA's general position is not to apply subsection 56(4) to a situation similar to the Particular Situation where the transferee of the contract holdback amounts includes them in income from a business in the taxation year in which final certification of completion or expiry of the lien period under the relevant provincial legislation occurs.

Allocations made to the spouse of a retired partner pursuant to s. 96(1.1) would, depending on the circumstances, also be included in the income of the retired partner under s. 56(2) or (4). S.248(28) would not prevent this result.

Where self-employed BC real estate sales people purportedly incorporate their proprietorships, with the Superintendent of real estate allowing the licensing of the corporation in order to sell real estate but with a requirement that the individual realtor remain personally liable for any damages resulting from a sale, then the question as to whether s. 56(4) apply will turn on the factual determination whether it is the individual or the corporation who is carrying on the real estate sales business.

Although s. 56(4) could apply in some circumstances to a contractor transferring unapproved billings and unapproved holdbacks to a controlled corporation, RC generally will not apply this provision where the recipient of the transfer includes such amounts in its income as business income.

Where a farmer, who is guaranteed under the Gross Revenue Insurance Program ("GRIP") to receive a price of $4 per bushel of wheat, transfers his wheat inventory to a corporation at a time that he was already entitled to receive a GRIP amount, s. 56(4) would apply to include this amount in his income in the year of transfer.