ARCHIVED - Capital Cost Allowance - Proceeds of Disposition of Depreciable Property

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NO: IT-220R2

DATE: May 25, 1990

SUBJECT: INCOME TAX ACT
Capital Cost Allowance - Proceeds of Disposition of Depreciable Property

REFERENCE: Subsection 13(21) and (21.1) (Also section 68, subsections 20(4), 39(1), 50(1) and 248(1) definition of "Cost Amount" and paragraphs 12(1)(i), 40(1)(b) and 54(c) and (h) of the Act; paragraph 1102(1)(c) of the Regulations and paragraph 20(1)(a) of the Income Tax Application Rules, 1971 (ITAR))

Application

This bulletin cancels and replaces Interpretation Bulletin IT-220R dated September 8, 1980 and the Special Release thereto dated June 5, 1984. Current revisions are designated by vertical lines.

Summary

This bulletin discusses the tax implications inherent in the disposition of depreciable property from the perspective of both the recapture of capital cost allowance and capital gains. The results of a disposition for proceeds in excess of the capital cost of a depreciable property are explained, as is the meaning of the terms "disposition of property" and "proceeds of disposition of property" and the effect thereon of various related deeming provisions of the Act. Also explained are the results that occur when a related debt becomes bad, the application of section 68 when a sale involves depreciable properties of two different classes or depreciable properties and something else with the total consideration expressed in one lump sum, and the deeming provisions of subsection 13(21.1) where a building is disposed of at a loss.

Discussion and Interpretation

1. A disposition of depreciable property made after December 31, 1971 is subject to the provisions of the Act dealing with capital gains and losses. Where any depreciable property is disposed of for proceeds in excess of the capital cost to the taxpayer, that disposition may give rise to a capital gain as determined by paragraph 39(1)(a) subject to the special transitional rules provided by section 20 of the ITAR. However, any loss on the disposition of depreciable property is specifically excluded from a taxpayer's capital loss by paragraph 39(1)(b) and as a result no deduction is permitted for such losses.

2. The terms "disposition of property" and "proceeds of disposition of property" are defined by subsection 13(21) for purposes of sections 13 and 20 and the regulations made under paragraph 20(1)(a) applicable to provisions dealing with depreciable property, and by section 54 for the purpose of subdivision c of Division B of Part I of the Act applicable to the disposition of capital property (including depreciable property). In both cases, a disposition includes any transaction or event entitling a taxpayer to proceeds of disposition of property. These provisions, which are not all-inclusive, do not exclude the possibility that there may be other circumstances in which a disposition takes place, nor do they exclude the possibility that there may be other forms of proceeds of disposition. In certain circumstances, the disposition or the proceeds of disposition of depreciable property may be determined by special provisions in the Act. The Appendix lists some of these provisions and the interpretation bulletins issued at this date that provide details of their application.

Bad Debts

3. Subsection 20(4) may be applicable in certain cases where a taxpayer has disposed of depreciable property (other than a timber resource property) and the proceeds of disposition have, pursuant to section 13, been credited to the relevant class. In the event that part or all of those proceeds is established by the taxpayer to have become a bad debt in the year, subsection 20(4) provides for a deduction in computing income for the year. In such cases, the taxpayer may deduct the lesser of

In addition, the bad debt itself is deemed by subsection 50(1) to have been disposed of at the end of the year and to have been reacquired immediately thereafter at a cost of nil. To the extent that the loss from the deemed disposition of the bad debt, calculated in accordance with the provisions of paragraph 40(1)(b), has not been deducted under subsection 20(4), that loss may constitute a capital loss. Where the debt arose from a non- arm's length disposition, see the current version of IT-159, Capital Debts Established to be Bad Debts. The provisions of subsection 20(4) apply only where an amount is uncollectible, not where it is merely a doubtful account. Where there is a later recovery of part or all of the bad debt for the former proceeds of disposition of the depreciable property, paragraph 12(1)(i) includes the amount so recovered in the taxpayer's income to the extent that this amount has been deducted under subsection 20(4) in computing the taxpayer's income for a preceding taxation year. Furthermore, the amount recovered constitutes a gain on a disposition of property having a nil cost base and, to the extent that the amount is not required to be included in income by paragraph 12(1)(i), it is a capital gain subject to the provisions of the Act dealing with such gains.

Combined Consideration

4. The provisions of section 68, as it affects depreciable property, can apply to consideration for,

This section commonly applies where the whole consideration is set forth in an agreement as a lump sum, or where part of the consideration is allocated in a lump sum to cover two or more things (property or services).

5. Even where a value is specified in an agreement for each class or kind of property or service and the total consideration for the whole sale is reasonable, a re-allocation of the consideration between the various kinds or classes of property or services, may, nevertheless, be made by the Department if some or all of the values specified are considered unreasonable. Where, however, the parties to the agreement are dealing at arm's length, the agreement is prima facie evidence of the reasonableness of the allocation specified therein. A taxpayer's allocation is further supported where there is evidence of hard bargaining between the parties involved in arriving at that allocation. However, see 9 to 16 below for comments on the application of subsection 13(21.1).

6. The prime requirements for a determination under section 68 are, therefore, that it

7. In making a determination under section 68, the matter is to be considered from the viewpoint of both the vendor and the purchaser. For example, where land and a building are sold for a lump sum, the fact that the purchaser demolished the building shortly after the sale is taken into account. However, the demolition alone is not regarded as conclusive evidence that the sale price was solely in consideration of land. Where this situation exists and the total sale price is not in excess of the fair market value of comparable land, it may be reasonable to conclude that the sale was essentially one of land and that the price was in consideration only of land, even though the building was still usable and may have had some value to the vendor. Where such a demolition took place and the total selling price exceeded the fair market value of comparable land because the purchaser had a special reason for wanting that particular property, it may be reasonable to conclude that the vendor received for the building an amount equal to the excess over the fair market value of the land alone, and that the purchaser is deemed to have paid that amount for the building. If in these circumstances the purchaser demolished the building without using it for the purpose of gaining or producing income, it is not depreciable property in the purchaser's hands by reason of paragraph 1102(1)(c) of the Regulations and the purchaser is not entitled to capital cost allowance nor a terminal loss in respect of it. In these latter circumstances, the demolition of the building is considered a disposition and may result in a capital loss in the purchaser's hands. See also the comments in the current version of IT-128.

8. Where the buildings are not demolished shortly after the purchase, again the facts of each case will determine whether any part of the price was in respect of those buildings and whether the property was depreciable property. In this connection, the Department will consider various factors including

Deemed Proceeds of Disposition of a Building

9. When a building is sold for proceeds that are less than its proportionate share of the undepreciated capital cost of its class, subsection 13(21.1) provides special rules to allocate proceeds of disposition between land and buildings, to restrict the potential terminal loss and possibly recapture capital cost allowances previously taken. Where the proceeds from the building (including proceeds determined by the application of section 68) are less than the lesser of the "cost amount" (see 11 below) and the capital cost to the taxpayer of the building immediately before its disposition, the rules in paragraph 13(2.1)(a) or (b) apply. However, these rules do not apply where the land on which the building is situated has always been owned by a person dealing at arm's length with the owner of the building.

10. The special rule under paragraph 13(21.1)(a) applies where both the disposition of the building and the land subjacent to, or immediately contiguous to and necessary for the use of the building (the "related land"), takes place in the same taxation year, although not necessarily simultaneously. Where the related land is disposed of by a person not dealing at arm's length with the building owner, this rule applies when the disposition occurs within a period coinciding with the duration of the building owner's taxation year that encompasses the time of disposition of the building. Under this rule, combined proceeds are compulsorily allocated between land and building, primarily to ensure that no loss will be claimed in respect of the disposition of the building unless it is determined that no gain is reported on the land component.

11. In applying this rule it is first necessary to compute the cost amount of both the land and the building. Cost amount is defined in subsection 248(1) to mean, in the case of land, its adjusted cost base and, in the case of a building, such building's proportionate share of the undepreciated capital cost of the class that the capital cost of the building is of the capital cost of all buildings in the class.

12. The proceeds of disposition of the related land are then deemed to be the amount by which the combined proceeds of disposition of the land and building exceed the deemed proceeds of disposition of the building (as computed in 13 or 14 below). The cost to the purchaser of the land is determined without reference to subsection 13(21.1).

13. With respect to dispositions before May 10, 1985 (including a disposition at any time made pursuant to the terms of an agreement in writing entered into before that date), the proceeds of disposition of the building, calculated immediately prior to the disposition, are deemed to be the lesser of

14. With respect to dispositions occurring at a particular time after May 9, 1985 the proceeds of disposition of the building are deemed to be the lesser of

15. Where the land area disposed of exceeds that necessary for the use of the building, paragraph 13(21.1)(a) is considered to apply only in respect of the portion that is necessary for the use of the building. In such cases, a reasonable allocation of the total proceeds and the total cost for tax purposes of the land between the necessary and the superfluous portions of the land is required for the calculations described above.

16. Where the related land is not disposed of in the same taxation year as the building but was owned at any time before the disposition of the building by the taxpayer or by a person with whom the taxpayer was not dealing at arm's length, paragraph 13(21.1)(b) provides a second rule. In this case, where the taxpayer is an individual, the deemed proceeds of disposition of the building for purposes of determining the remaining undepreciated capital cost of the class (or the terminal loss if the building is the last property in the class) are the proceeds otherwise determined plus one-quarter (one-half for fiscal periods ending before 1988 and one-third for fiscal periods ending in 1988 and 1989) of the excess of the cost amount (see 11 above) of the building (or its fair market value, if that is greater) over the proceeds otherwise determined. Where the taxpayer is a corporation, the coming-into-force provisions of 1988, c. 55, S.6(19) for subparagraph 13(21.1)(b)(ii) should be referred to in order to determine the deemed proceeds of disposition of the building for the purposes of the second rule mentioned above. The proceeds of disposition of the land are not reduced under this rule.

APPENDIX

Date modified:

2002-09-04