News of Note
The split income proposals assume a model that is at variance with the reality of long-term family businesses
Email this ContentThe proposed expanded tax on split income will extend to split income of individuals over 17 to the extent that the amounts received are the “split portion” of the split income.
“The proposals imply that outputs are equal to inputs.” For example:
[A]ssume that in a successful family business, each individual receives appropriate salaries for the time and effort contributed to the business. After payment of these salaries, the business still has retained earnings and marketable goodwill. Under the proposals, all dividends and capital gains — to everybody — will be split income and taxed at the top rate.
Furthermore, “To be effective, measurement of input then must go back to inception, which is not practical.” In this context, consider this situation:
A family starts a business, which requires a great deal of time and effort from all family members for many years. Eventually the business becomes very successful and it is turned over to professional management. It runs for many years with little involvement of those same family members.
The Explanatory Notes state that “Generally, the split portion definition is intended to include amounts received by a specified individual which are not commensurate with the amounts that the individual would receive if they were dealing with the payor of the amounts at arm’s length." However, this proposition does not take into account that:
The nature of the small business financed by family is that the appropriate arm's-length return is almost impossible to calculate — in many cases, no arm's-length person would finance the operation on any terms.
Neal Armstrong. Summary of Kevyn Nightingale, “Private Company Income Splitting: Part 2 – Observations, Tax Topics (Wolters Kluwer), No. 2371, 17 August 2017, p. 1 under s. 120.4(1) – split portion - para. (b).
Transferring property to a Canadian trust in anticipation of emigration can result in a 55% combined tax rate on distributions of the related income
Generally, s. 104(4)(a.3) will trigger a deemed disposition of the property held by a personal trust if a taxpayer transferred property to the trust and it is reasonable to conclude that the property was transferred in anticipation that the taxpayer would subsequently cease to reside in Canada. Furthermore, the conversion of the trust's deemed disposition income into "designated income" for purposes of the 40% Part XII.2 tax will prevent departure tax gains, taxed under Part I of the Act, from being converted into trust income that is paid to non-resident beneficiaries at the end of the year and taxed only under Part XIII. In addition to the Part XII.2 tax paid by the trust, the designated income paid to the (now) non-resident beneficiary will be subject to Part XIII tax of 25% (or 15% if Treaty-reduced), resulting in a combined effective tax rate of 55% (or 49%).
Neal Armstrong. Summaries of Brian Kearl and Carl Deeprose, Leaving Canada's New High Tax Rate Regime: Considerations, Tips and Traps, 2016 CTF Annual Conference draft paper under s. 250(1)(a), s. 2(1), Treaties, Art. 4, s. 128.1(1)(d), Treaties – Art. 18 and s. 210(1) – designated income – s. (c)(ii).
Radelet – Tax Court of Canada finds that the threat of a gross negligence penalty imposition was not “duress” vitiating a waiver
In addition to rejecting the (self-represented) taxpayer’s largely unsupported allegations that he had lacked mental capacity when he executed a waiver (extending the normal reassessment period so that CRA could await his submissions respecting what it considered to be an unreported capital gain of $445,551 and a questionable business loss of $400,000), Bocock J also rejected the taxpayer’s submission that the waiver had been executed under the “duress” of a threat of a gross negligence penalty - which was not untoward in the context of an unreported capital gain.
Neal Armstrong. Summary of Radelet v. The Queen, 2017 TCC 159 under s. 152(4)(a)(ii).
Employer reimbursement of employees’ professional fees incurred in correcting errors in their returns attributable to employer error was non-taxable
On the basis of its policy that “compensation paid to an employee by their employer for financial loss incurred due directly to the employer’s error is not included in income since the employee is being restored to a previous economic position,” the Directorate indicated that employer reimbursement of employees’ costs of tax professional services incurred in sorting out and addressing the consequences of erroneous T4 slips issued by the employer did not represent a taxable benefit.
Neal Armstrong. Summary of 28 April 2017 Internal T.I. 2017-0699741I7 under s. 6(1)(b).
CRA indicates that a registrant cannot use ETA s. 296(2.1) to avoid having to file a GST/HST rebate claim
ETA s. 296(2.1) essentially requires CRA to allow claimable but unclaimed rebate claims when it assesses net tax for a reporting period. CRA considered this requirement to be inapplicable when a corporation, which had failed to self-assess itself, subsequently sent in a late return accompanied by a note to the effect that unclaimed GST/HST rebates existed – but without filing any rebate claim. CRA stated that this situation did not satisfy the implicit requirement that “the Minister must always be able in making the assessment to determine the fact that the amount of the rebate would be payable if it were claimed in a rebate application filed in accordance with the ETA.”
Neal Armstrong. Summary of 19 April 2017 Interpretation 183783 under ETA s. 296(2.1).
CRA confirms that a negative ACB gain of an LP will not boost a partner’s CDA
The addition to a private corporation’s capital dividend account does not include any portion of a “negative ACB” gain under s. 40(3.1).
A taxpayer unsuccessfully submitted that a negative ACB gain realized by an upper-tier LP on its units in a lower-tier LP should not be treated, when allocated to the upper-tier LP’s partners, as a s. 40(3.1) gain for CDA purposes. CRA stated that a partnership’s income, when allocated to its partners, “will generally retain its nature and characteristics.”
Neal Armstrong. Summary of 21 June 2017 External T.I. 2016-0678361E5 Tr under s. 89(1) – capital dividend account - s. (a)(i)(A).
CRA discusses double application of s. 80(15) partner debt-forgiveness allocation rule on the winding-up of a partnership where one of its partners is a partnership
A bottom partnership (BP) is wound-up into its partners including an upper-tier partnership (TP) in the same year that BP realizes debt-forgiveness income under s. 80(13).
CRA considers that s. 80(15) would apply to TP, so that it would have a deemed debt forgiveness equal in amount to the s. 80(13) income of BP that was allocated to it for the year. If TP was unrelated to BP (meaning, broadly, that it had a minority interest), TP would be able under s. 80(9) to apply its deemed forgiven amount first against the ACB of its BP partnership interest that was disposed of on the winding-up and which was increased by the amount of the s. 80(13) income allocated to it – so that there would be a reduced, or no, amount of remaining s. 80(13) debt forgiveness income to be allocated by TP to its partners.
If TP was related to BP, it could not utilize s. 80(9), and a larger amount of s. 80(13) income would be allocated to TP’s partners.
Either way, s. 80(15) would also apply at the level of TP’s partners, so that they could apply their own tax attributes to absorb any s. 80(13) income which was allocated to them.
Neal Armstrong. Summary of 22 March 2017 External T.I. 2016-0666481E5 under s. 80(15).
CRA considers the HST questions of who has acquired a service or property, and who is the recipient of a supply, to be cognate
The definition in the ETA of the “recipient” of a supply refers to the person who, under the agreement for a supply, is liable to pay the consideration therefor. CRA indicated that it did not consider someone to be the recipient of a supply merely because that someone was contractually liable to pay the consideration for the supply.
In particular, an ATM provider (the Vendor) agreed that X’s acquisition of the Vendor’s ATMs would be financed by Vendor selling the ATMs to Lessor, with Lessor then leasing the ATMs to X. Lessor was not licensed the related software by Vendor but nonetheless agreed to pay the software licence fees of the Vendorr. CRA stated:
In determining who the recipient of a supply is, and who may therefore be entitled to an ITC for any tax payable on the supply, it is necessary to determine whether the supply is acquired by a person on its own behalf or as an agent on behalf of another person. The [recipient] definition refers to ‘consideration for the supply’. However, in the present case, the [Lessor] has not acquired any supply of software licences, and is therefore not entitled to claim any ITC for the tax paid for them.
Neal Armstrong. Summary of 28 April 2017 Interpretation 154249 under ETA s. 123(1) – recipient.
Income Tax Severed Letters 23 August 2017
This morning's release of four severed letters from the Income Tax Rulings Directorate is now available for your viewing.
Flow-through share issues may need to be addressed in an M&A transaction with a principal business corporation
Flow-through share (FTS) issues arising in an M&A context include:
- Where a merger agreement has been signed between the target principal business corporation (PBC) and an acquiror and the target thereafter issues FTS, those FTS could be prescribed shares under Reg. 6202.1(1)(d).
- Somewhat similarly, given an apparent CRA position that s. 84(9) can apply to deem FTS to be disposed of, on an amalgamation, to the PBC, FTS which are issued after the announcement of a long-form amalgamation may result in a prescribed share issue under Reg. 6202.1(1)(d).
- It could be argued that since a corporation is not wound up until it is dissolved rather than the earlier time that it makes a winding-up distribution of its business to its parent, the continuity rule in s. 88(1.5) does not work during this gap in time.
- It is unclear whether the continuity rule in s. 87(4.4) works where, on an amalgamation, the amalco issues a replacement share to someone who had acquired the “old” FTS from someone who, in turn, had acquired the FTS from the original subscriber, i.e., there are two subsequent purchases of the FTS rather than only one.
In private discussions, CRA:
confirmed that the subscription agreement need not restrict damages to additional federal and provincial taxes payable, as the CRA considers a general common law right to sue for damages otherwise available as not constituting a prescribed share issue.
Some Alberta decisions effectively confirm that the FTS holder's contractually-provided right to damages for addition taxes disappears on a CCAA compromise.
Neal Armstrong. Summaries of Gregory M. Johnson and Wesley R. Novotny, “An Update on Flow-through Shares in the Energy Sector” 2016 CTF Annual Conference draft paper under s. 66(15) - flow-through share, Reg. 6202.1(1)(d), s. 88(1.5), s. 87(4.4)(d)(i), Reg. 6202.1(1.1)(c), Reg. 6202.1(5) - excluded obligation, s. 66(12.73), s. 163(2.21).