Section 123.3

See Also

Gladwin Realty Corporation v. The Queen, 2019 TCC 62, aff'd 2020 FCA 142

no CRA challenge to continuance to BVI to avoid s. 123.3 tax

Hogan J found that transactions - in which the taxpayer recognized two capital gains in connection with the sale of a property to a third party and then offset the second capital loss under s. 40(3.12), produced a resulting double-increase to its capital dividend account - were abusive for s. 245(4) purposes.

Before recognizing either of the two capital gains, the taxpayer was continued to the BVI in order to cease to be a Canadian-controlled private corporation and to not be subject to additional refundable taxes under s. 123.3. CRA did not challenge this planning.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 245 - Subsection 245(4) using the CDA and negative ACB rules to generate “over-integration” was abusive 594
Tax Topics - Income Tax Act - Section 89 - Subsection 89(1) - Capital Dividend Account - Paragraph (a) contrary to purpose of the capital dividend rules to fully exempt a capital gains distribution 300
Tax Topics - Income Tax Act - Section 40 - Subsection 40(3.1) purpose of s. 40(3.1) is to trigger gain on extraction of excess funds by passive partners 330

Administrative Policy

Income Tax Mandatory Disclosure Rules Consultation: Sample Notifiable Transactions (Finance Release Webpage), 4 February 2022

The notifiable transactions designated by CRA pursuant to draft s. 237.4(3) with the concurrence of Finance include:

Foreign continuance

  • A corporation holding assets that are or will become investment assets continues from Canada to the corporate laws of a foreign jurisdiction, so that it ceases to be a “Canadian corporation” and a CCPC (so that it is not subject to additional tax under ss. 123.3 and 123.4) – but maintains its central management and control in Canada so that it is not subject to the emigration rules or the foreign accrual property income regime.

Avoiding “Canadian-controlled” status

  • Alternatively it issues special voting shares, redeemable for a nominal amount, or options to acquire a majority of its voting shares, to a non-resident person or a public corporation so as to avoid CCPC status.

7 October 2021 APFF Roundtable Q. 4, 2021-0900921C6 F - Mind and management et statut de SPCC

use of foreign corporation with central management and control in Canada to avoid s. 123.3 tax could be GAARable

A corporation which will generate investment income is incorporated outside Canada (and, thus, is not a Canadian corporation, as per s. 89(1) and, therefore, is not a Canadian-controlled private corporation under s. 125(7)), but has its central management and control in Canada. As a non-CCPC, it is not subject to the refundable tax under s. 123.3, and is entitled to the s. 123.4(2) deduction. Would s. 245(2) apply? CRA stated:

In the circumstances, the incorporation of the Corporation under the corporate laws of a foreign jurisdiction is a transaction that would provide a tax benefit consisting of the avoidance of the refundable tax on investment income of a CCPC under section 123.3, and the general tax deduction under subsection 123.4(2).

… If the purpose of such a transaction were to avoid CCPC status in order to defeat the purpose and intent of various anti-avoidance rules applicable to investment income, including section 123.3 and subsection 123.4(2), the CRA would consider, depending on the circumstances, application of the GAAR under subsection 245(2).

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 245 - Subsection 245(4) using a foreign corporation with Canadian CMC to produce a lower tax rate on investment income could be GAARable 149

Articles

Allan Lanthier, "The latest Canadian tax scam has a Caribbean flavour", Canadian Accountant, January 21, 2022

Additional 23.67% tax rate on CCPCs’ taxable capital gains

  • With the additional refundable tax under s. 123.3 (introduced in 1995 at a rate of 6.675, later increased to 10.67%) and the denial of the general rate reduction under s. 123.4 (introduced in 2000), a CCPC now faces an additional tax of 23.67%t on its investment income, as compared to a non-CCPC.
  • A CCPC must be a private corporation incorporated in Canada.

Pending TCC appeals

  • There are at least two appeals sitting in the Tax Court involving a transfer of appreciated property on a s. 85(1) rollover basis to a CCPC followed by its continuance to the BVI, and realization of the capital gain after such loss of CCPC status, a third appeal involving such continuance and realization without a prior s. 85(1) rollover, and a fourth appeal where, shortly before disposing of an investment asset and realizing a substantial capital gain, the CCPC had issued voting, redeemable preferred shares to three non-resident family members giving them 50.89% of the votes (while retaining its Canadian incorporation).

Potential Finance amendments

  • It is quite unclear whether the Minister’s position in these appeals - that a deliberate flip out of the CCPC rules to avoid tax frustrates the rationale underpinning ss. 123.3 and 123.4 will prevail. Accordingly, the Minister of Finance should act immediately to:
    • amend GAAR “so that any transaction or series of transactions whose dominant purpose is the avoidance of tax is struck down, without giving taxpayers an exit ramp based on the fuzzy notion of ‘abuse’.”
    • “deny the capital dividend account to private corporations that are not CCPCs.”
  • In any event “taxpayers who are considering this scheme should at least be on notice that the CRA GAAR Committee has decided that these transactions should be challenged and reassessed.”

Anthony Strawson, Timothy P. Kirby, "Vendor Planning for Private Corporations: Select Issues", 2017 Conference Report, (Canadian Tax Foundation), 11:1-28

Continuance of a CCPC to a foreign jurisdiction may create better protection for assets (p. 11:16)

[A] corporation that is incorporated outside Canada or that is continued to a jurisdiction outside Canada cannot be a “Canadian corporation” or a CCPC at the relevant time. However, if a corporation that is not a Canadian corporation and that also is not resident in Canada earns investment income, the income generally is treated as foreign accrual property income…

[M]any foreign jurisdictions have more robust asset protection laws than Canada, which can be an important reason for establishing a corporation in a foreign jurisdiction.

Additional tax on aggregate investment income for CCPCs (p. 11:17)

[A]ggregate investment income consists of all taxable capital gains realized by the CCPC, plus the CCPC’s passive income (rents, interest, royalties, and dividends from portfolio investments in foreign corporations), other than dividends paid by taxable Canadian corporations. The two provisions that implement the anti-deferral regime are section 123.3, which provides for an additional 10 3/3 percent tax on aggregate investment income, and the “full rate taxable income” definition in subsection 123.4(1), which denies the general rate reduction in subsection 123.4(2) in respect of aggregate investment income of a CCPC. Section 123.3 provides that the tax is applicable to a corporation that is a CCPC throughout the relevant year, while the exclusion of aggregate investment income in the definition of “full rate taxable income” in subsection 123.4(1) is also applicable only to corporations that are CCPCs throughout the relevant year.

GAAR considerations re avoidance of CCPC status so as to reduce taxability of aggregate investment income (pp. 11:18-19)

First, CCPCs alone are entitled to numerous favourable rules under the Act. Nevertheless, it does not seem particularly controversial to structure legal and de facto control of a corporation as a CCPC in order to benefit from the favourable rules; indeed, such planning is both longstanding and very common. It is not obvious why the converse should not also be true; that is, it is not obvious why taxpayers should not be entitled to organize their affairs to cause a corporation not to qualify as a CCPC, thereby avoiding both the favourable and unfavourable rules that apply to CCPCs.

Second, and very much related to the first point, the Act is designed to readily strip a corporation of its CCPC status. Since CCPC status may be lost in a myriad of circumstances as a result of entirely non-tax-motivated transactions, the implication is that CCPC status is not the default treatment but rather an aberration.

Third…the Department of Finance turned its mind to extending the refundable tax regime to non-CCPC private corporations in July 2017. To date, there has been no suggestion that the department intends to move forward with such a change… .