4 February 2010 Internal T.I. 2009-0336071I7 - Deductibility of GST

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: Deductibility for income tax purposes of GST reassessment under section 9 and paragraph 20(1)(p) of the ITA. Calculation of the GST adjustment under subsection 231(1) of the ETA.

Position: If the transactions that gave rise to the GST reassessment were made or incurred by the taxpayer for the purpose of gaining or producing income from a business, the GST and interest imposed on the transactions are also deductible for income tax purposes pursuant to subsection 9(1) of the ITA. If the supplier receives a GST reassessment and sets up a receivable to account for the GST they expect to recover from the recipient, if all or part of the receivable in respect of the supply becomes bad and the supplier writes-off the affected portion in their books of account, the supplier may claim a bad debt deduction under paragraph 20(1)(p) of the ITA for the amount of the uncollected receivable net of any GST adjustment under subsection 231(1) of the ETA.

Reasons: IC: 77-11, paragraph 20(1)(p) of the ITA and subsection 231(1) of the ETA.

								February 4, 2010

Ms. Carol Husack 					HEADQUARTERS
	Income Tax Technical Advisor			Income Tax Rulings
	Audit Division 	  				Directorate
	Hamilton Tax Services Office			Renee Sigouin
(613) 957-2128
								2009-033607

Deductibility of GST for Income Tax Purposes

We are writing in response to your email correspondence dated August 11, 2009 wherein you raised additional queries regarding our Technical Interpretation 2009-030929. Specifically, you have asked various questions regarding the deductibility of Goods and Services Tax ("GST") reassessments where a supplier erroneously fails to charge GST on a taxable supply and can not, or does not attempt to, collect the GST payable on the reassessment from its customer (referred to as a "recipient" under the Excise Tax Act ("ETA")). We note that the Income Tax Rulings Directorate is not responsible for questions specifically involving the GST and ETA. However, the comments below in that regard are provided in consultation with officials of the Excise and GST/HST Rulings Directorate.

Deduction under Section 9 of the ITA

The Canada Revenue Agency's longstanding position on the deductibility of a sales tax reassessment (which would include GST ) in computing income under the Income Tax Act ("ITA") is described in Information Circular IC 77-11: "Sales Tax Reassessments - Deductibility in Computing Income" ("IC 77-11"). In general terms, if the transactions that gave rise to the GST reassessment were made or incurred by the taxpayer for the purpose of gaining or producing income from a business, the GST and interest imposed on the transactions are also deductible for income tax purposes pursuant to subsection 9(1) of the ITA. We note that this position would specifically apply where a supplier erroneously failed to charge GST on a taxable supply, was subsequently reassessed for the GST not collected, and did not attempt to collect the GST payable from its customer (for example, to preserve the relationship with its customer or simply because the customer could not be located).

As outlined in paragraph 2 of IC 77-11, under normal circumstances, the GST reassessment is deductible for income tax purposes in the year in which it is payable. However, where the taxation year in which the transactions occurred is statute barred for income tax purposes, the CRA will generally allow the deduction in the year the liability and the amount are determined (i.e., in the year the reassessment notice is received).

Deduction under Paragraph 20(1)(p) of the ITA and GST Adjustments

Where a supplier receives a GST reassessment and pursues payment from the recipient, the supplier would likely set up a receivable for the GST they are attempting to recover from the recipient (for example, the supplier may issue a separate invoice to the recipient). If all or part of the receivable in respect of the supply becomes bad and the supplier writes-off the affected portion in their books of account, the supplier will claim a bad debt deduction under paragraph 20(1)(p) of the ITA for the amount of the uncollected receivable net of any GST adjustment under subsection 231(1) of the ETA.

Subsection 231(1) of the ETA provides relief where GST is written off as a bona fide bad debt by allowing the supplier to claim a GST adjustment equal to 5/105 of the amount of the bad debt written off. Subsection 231(1) of the ETA states as follows:

"If a supplier has made a taxable supply (other than a zero-rated supply) for consideration to a recipient with whom the supplier was dealing at arm's length, it is established that all or a part of the total of the consideration and tax payable in respect of the supply has become a bad debt and the supplier at any time writes off the bad debt in the supplier's books of account, the reporting entity for the supply may, in determining the reporting entity's net tax for the reporting period that includes that time or for a subsequent reporting period, deduct the amount determined by the formula

A × B/C

where

A is the tax in respect of the supply;
B is the total of the consideration, tax and applicable provincial tax remaining unpaid in respect of the supply that was written off at that time as a bad debt; and
C is the total of the consideration, tax and applicable provincial tax in respect of the supply."

A supplier's claim for a GST adjustment is subject to the further restrictions outlined in subsection 231(1.1) of the ETA, which we discuss later.

The simple example that follows demonstrates how the income tax deduction under paragraph 20(1)(p) of the ITA and GST adjustment under subsection 231(1) of the ETA interact to account for the bad debt.

Example

Assume a supplier makes a taxable supply of $1,000 and issues an invoice to the recipient. The supplier erroneously fails to charge GST of $50 on the invoice. The supplier receives a GST reassessment for the $50 and issues a second invoice to the recipient for an additional $50. We understand that for GST purposes, the subsequent invoice issued by the supplier to recover the previously unbilled GST is considered part of the initial invoice on the taxable supply such that the total receivable is considered to be $1,050. Assuming the recipient of the supply ultimately paid $700 and the supplier was unable to recover the remaining $350 from the recipient, the income tax deduction and GST adjustment would be calculated as follows:

• Calculation of GST adjustment under subsection 231(1) of the ETA

GST adjustment is calculated as A x B/C or $50 x $350/$1050 = $16.67.

Therefore, the supplier may claim a GST adjustment on the GST relating to the uncollected receivable.

• Calculation of the bad debt deduction under paragraph 20(1)(p) of the ITA

Under this provision, the supplier may deduct the amount of the uncollected receivable that was included in income. This is determined is follows:

20(1)(p) deduction = total uncollected receivable x amount of receivable that was total receivable included in income

= $350/$1050 x $1,000

= $333.33

Accordingly, a bad debt deduction is only claimed in respect of the portion of the uncollected receivable that has been included in income. The bad debt deduction of $333.33 combined with the GST adjustment of $16.67 equates to the total uncollected receivable of $350.

We note that if the account includes an amount that can reasonably be attributed to a provincial sales tax (or any other provincial tax prescribed for purposes of section 154 of the ETA), that tax is included in the numerator and denominator of the calculation outlined above under subsection 231(1) of the ETA (i.e., B/C). A parallel calculation against provincial sales tax may also be available under provincial legislation. In Ontario, for example, see section 18 of Regulation 1013 under the Retail Sales Tax Act.

You had also asked us to comment whether the GST reassessment had to be paid in order for the supplier to claim an adjustment under subsection 231(1) of the ETA. In this regard we note that subsection 231(1.1) of the ETA states that:

"a reporting entity is not entitled to deduct an amount under subsection 231(1) in respect of a supply unless:

(a) the tax collectible in respect of the supply is included in determining the amount of net tax reported in the reporting entity's return under this Division for the reporting period in which the tax became collectible; and
(b) all net tax remittable, if any, as reported in that return is remitted." (emphasis added).

Our earlier Technical Interpretation stated that GST collected by a supplier from a recipient and remitted to the Receiver General is not deductible for income tax purposes. You asked that we confirm that the GST collected by the supplier should not be included in the supplier's income. In this regard we note that liability for the payment of GST is on the recipient of the supply. The supplier's responsibility is to collect the tax payable on a taxable supply on the Crown's behalf and to remit the net tax to the Receiver General. As such, and pursuant to section 221 of the ETA, the supplier is merely acting as an agent of the Crown in collecting the GST payable by the recipient. The supplier should not therefore deduct the GST remitted to the Receiver General or recognize as income the GST they collect from the recipient. The GST paid by the supplier represents funds held in trust for the Crown that was incurred by the recipient of the supply and does not represent income of the supplier.

We trust that these comments will be of assistance.

For your information a copy of this memorandum will be severed using the Access to Information Act criteria and placed in the Canada Revenue Agency's electronic library. A severed copy will also be distributed to the commercial tax publishers for inclusion in their databases. The severing process will remove all material that is not subject to disclosure, including information that could disclose the identity of the taxpayer. Should your client request a copy of this memorandum, they can be provided with the electronic library version, or they may request a severed copy using the Privacy Act criteria, which does not remove client identity. You should make requests for this latter version to Mrs. Jackie Page at (819) 994-2898. A copy will be sent to you for delivery to the client.

Renée Shields
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch