cga richmond/south delta chapter corporate and personal tax update january 19, 2013

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CGA Richmond/South Delta Chapter

Corporate and Personal Tax UpdateJanuary 19, 2013

Lori A. Mathison(604) 443-7118

[email protected]

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Agenda

CorporatePersonalTrustsAdministrationDirector’s LiabilityInternational IssuesCRA Audit Activity

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Legislative Activity Announcements• BC Budget – February 2, 2012• Federal Budget – March 29, 2012• Bill C-45 – Jobs and Growth Act, 2012

– Introduced October 18, 2012– Standing Committee on Finance October 30, 2012– Budget 2012

• Bill C-48 – Technical Tax Amendments– First Reading on November 21, 2012

• December 31, 2012 Outstanding Federal Tax Legislation

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Corporate

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Combined Federal – BC Rates for CCPCs (January 1, 2012)

Active BusinessIncome

General Active Business Income

InvestmentIncome

13.5% 25% 44.7%

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Personal Services Business (“PSB”)• Historical disincentives to being a PSB• Drop in corporate rates created planning opportunities

around the use of PSBs• Amended subs. 123.4(1) – PSBs no longer eligible for

general rate reduction effective October 31, 2011– Effective 13% increase in tax rate

• Review existing PSBs and restructure

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PSB

• Main element is whether employee can reasonably be regarded as an employee of the client– Look at degree of subordination– Look at ownership of tools, integration and attitude

• Only obligation was to deliver product in budget– No subordination so no PSB

Pragma Services – Conseils Inc. v. Agence du Revenu du Québec, 2011

QCCA 12977

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Deductions – Business Expenses• What is a Business Expense?

– Paragraph 18(1)(a) of the Income Tax Act (the “ITA”) provides that no deduction shall be made for:

• 18(1)(a) – an outlay or expense except to the extent that it was made or incurred by the taxpayer for the purpose of gaining or producing income from the business or property

– What is the purpose of the expenditure?– Does the ITA have a specific restriction against the expense?

• CRA Document 2012-0432621E5– Business expenses incurred by real estate agent (including incentives

paid to buyers)• Deducible if arm’s-length and all other deductibility criteria met

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Deductions – Business Expenses

• Para. 18(1)(b) prohibits a capital outlay or loss– except as expressly permitted

• CRA Document 2012-0446521M4– Capital improvements to a rental property not immediately

deductible

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Deductions – Business Expenses

• Personal expenses not allowed – para. 18(1)(h)• CRA Audit Manual – watch for the following:

– Purchases from suppliers that do not carry goods that would normally be used in the normal business activity

– Purchase invoices made out to the taxpayer/registrant personally or to another family member

– The delivery address is the taxpayer/registrant’s residence– Personal purchases may be paid by credit card. Scan the credit card

statements to determine whether the purchases include personal items. Ensure that the taxpayer/registrant has not claimed personal travel as a business expense.

– Where the business activity includes selling or purchasing products that are general household items – the risk of personal use of products increases.

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Deductions – Business Expenses• Expense must be reasonable (s.67)

67 In computing income, no deduction shall be made in respect of an outlay or expense in respect of which any amount is otherwise deductible under this Act, except to the extent that the outlay or expense was reasonable in the circumstances.

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Deductions – Business Expenses• Evidence of expenses

– The ITA provides no specific requirement to keep records– CRA Audit Manual states as follows:

There are no specific statutory requirements as to the precise nature of the books and records that a taxpayer/registrant must keep. The auditor, together with the advice and assistance of the team leader, has to make this determination using professional judgment.

– CRA Audit Manual:

Where expenditures are not supported with the appropriate documentation, the expense should be disallowed unless there is other satisfactory evidence to support the amount claimed. Indirect audit techniques may be used to determine the reasonableness of expenses without supporting documentation…

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Deductions – Business Expenses• Subsection 67.1

– 50% of amount paid for food or beverage or enjoyment of entertainment

• Exceptions– Food, beverage or entertainment in ordinary course of business

carried on by that person– Exception for restaurants, hotels and airlines that incur expenses for

paying customers

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Deduction – Business Expense

• Subsection 67.1• Stapley v. R., 2006 FCA 36

– Mr. Stapley gave vouchers for food, beverages, and entertainment to clients in hope of securing referral clientele. The taxpayer did not even attend with the clients when vouchers were used. The taxpayer claimed 100% of voucher cost as meals and entertainment expense deduction from business income. The FCA held that the vouchers were, on their face, intended for use as meals and entertainment. Subs. 67.1 clearly restricted deduction of meals and entertainment expenses to 50%.

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• CRA Document 2001-0114993– Intercorporate management fees paid from Opco to Holdco– CRA reserves the right to challenge reasonableness

Deductions – Management Fees

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Les Enterprises Réjean Goyette Inc., 2009 DTC 1214 (T.C.C.)


124660

Canada Ltée

Réjean

27442870

Québec Inc.$80,000

Management Fee

Construct residences Acquire and develop propertiesServices

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Les Enterprises Réjean Goyette Inc., 2009 DTC 1214 (T.C.C.)– $80,000 management fee disallowed– appeal dismissed

• no legal obligation to pay as no formal management agreement


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• Bonusing down to SBD limit no longer standard planning– Consider paying GRIP dividends instead

• Best way to proceed depends on each fact situation– e.g. when funds will be used by individual

• Bonusing down creates an immediate taxable event in hands of recipients (which could be deferred if dividends paid later)

Deductions – Shareholder/Manager Remuneration

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Shareholder/Manager Remuneration – Integration

Savings in Corp. Deferral

Small Business Income(Up to $500,000)

1.04% 30.20%

General Active Income -0.64% 18.70%

Investment Income -1.94% -0.97%

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• Remuneration will not be challenged on reasonableness if paid:– To an active shareholder/manager– By a CCPC– To a resident of Canada

• Acceptable if shares are held through a holding company• Section 67 concerns if payments made to non-active

shareholders• Active shareholders can receive non-active business income


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• Policy will not apply in the following circumstances:– Earnings from unusual activities– Pre-CCPC earnings– Complex corporate structures

• Technical Notes No. 30:– Income from a major sale of a business asset is not earned during the

normal course of business operation and CRA may challenge reasonableness

• Income derived from management fees or dividends is beyond the intent of the policy


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Bruno v. R., 2012 TCC 316• Deducts $18,000 + $7,000 during 2 taxation years as salaries

(paid personal expenditures)• Court accepted that amounts reasonable

– Deduction may be claimed if owed wages (even though expenses are for luxury items).

Deductions – Salaries to Children

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Scientific Research and Experimental Development (“SR&ED”)

• Eligible Activity– Scientific or technological advancement– Scientific or technological uncertainty– Scientific and technical content

• Eligible Expenditures– Salaries or wages directly engaged in SR&ED– Cost of materials consumed or transferred– Certain lease costs

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SR&ED

• Eligible current and capital expenditures are fully deductible when incurred in connection with SR&ED

• Expenses incurred in Canada are eligible for an investment tax credit (“ITC”) of 20% (will be 15%) or 35% for a small Canadian-controlled private corporation (CCPC)

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SR&ED• The 35% ITC is available on up to $3.0m of qualified

expenditures incurred each year by a CCPC• ITCs are fully refundable on the first $3.0m of current

expenditures by a CCPC

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SR&ED Developments• Budget 2012 and Draft Legislation

– Decrease in general rate for ITCs (20% → 15%)– Decrease in proxy rate for overhead expenses (65% → 60%

→ 55%)– Exclusion of capital expenses– Payments to arm’s length third parties

• 80% inclusion rate• Third party capital expenses

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SR&ED Developments• CCPC Planning

– Need CCPC status to maximum SR&ED credits– TCC decision in Bagtech considered impact of provision in

unanimous shareholders agreement (“USA”) that enabled Canadian residents to vote for the majority of the Board, even though non-residents owned majority of voting shares

• TCC found CCPC status– Use of USA needs to be balanced against impact on control

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SR&ED Developments• Federal Government Consultants on contingency fees• Public Consultations commenced August 2, 2012

– Why hire third-party tax preparers on a contingency fee basis– Why are contingency fee charged– How prevalent is the practice– What amounts are charged– Impact on the SR&ED program

• Deadline to respond was October 1, 2012

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SR&ED - CRA Service Standards• Refundable claims – 120 days from receipt of

completed forms• Non-Refundable claim – 365 days from receipt of

completed forms• Claimant – requests adjustments to non-refundable

claim – 365 days

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• Deemed year end• Filing requirements• Unrealized losses (inventory, capital losses, terminal

losses and eligible capital property) must be recognized

• Restricted CCA on depreciable property acquired in preceding 12 months

• Restrictions on losses, ITCs, SR&ED

Red Flags – Change of Control

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• No specific form of resolution, but include– Effective date– Record date– Payment date– Amount of dividend and how it will be paid– Whether it is an eligible dividend or not

• Must be signed by all directors

Red Flags – Legally Effective Dividends

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• Cannot be backdated• Tip: if amount of dividend is unknown at the time, it

needs to be declared, declare the amount based on a formula

• Can also make dividend subject to certain steps occurring

Red Flags – Dividend Effective Date

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• Definition of “eligible dividend” amended in subs. 89(1) and subs. 89(14)– Only a portion of a dividend can be designated as eligible

• Although dividend can be split between eligible and ineligible, dividend cannot be segregated among shareholders– E.g. cannot pay eligible dividend only to certain shareholders– Need to follow usual corporate law requirements

Red Flags – Eligible Dividends

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• Previously no late designations permitted• New subs. 89(4.1) allows a late dividend designation

– Must be made within 3 year period following date on which designation was required to be made; and

– MNR must view late designation as “just and equitable”

Red Flags – Eligible Dividends

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• CRA Document 2012-0435381E5

• Repurchase of Xco’s P/S is a disposition of properties to an unrelated person– 55(2) could apply to the extent deemed dividend exceeds

safe income (55(3)(a) not available)• Repurchase of Yco’s P/S – 55(3)(a) will apply

Red Flags – Deemed Dividends

Opco

Xco Yco

49% P/S51% P/S

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• Amount of dividend cannot exceed CDA– Note CDA dividends paid– Capital losses in previous year will reduce the CDA– Trap – addition to CDA on disposition of eligible capital

property only at end of taxation year

• Subs 83(2) requirements (elect in prescribed form at or before time when dividend is paid)

Red Flags – Capital Dividends

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Personal

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Combined Top Marginal Tax Rates(Federal & BC)

Regular CG Eligible Dividends Non-Eligible Dividends

43.7% 21.9% 25.8% 33.7%

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Employment Income

Caruso v. H.M.T.Q., 2012 TCC 233 • Issue if Caruso could deduct fees paid to agent for services in

negotiating contract with Florida Panthers• Caruso loses

– Must be “legal expenses” to “collect or establish a right to salary”

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Samipal Dhaliwal v. The Queen, 2012 TCC 84

Facts:• Taxpayer had lent money to his employer, which became a

bad debt during 2007.• Taxpayer claimed an ABIL upon e-filing his 2007 tax return but

there was no means of indicating that he was “electing” to have s. 50 apply.

• ABIL was rejected on initial assessment. Taxpayer submitted a T-1 Adjustment request, but this was denied.

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Issue:• Whether Taxpayer elected in his 2007 e-filed tax return to have s.50(1)

apply to a debt which became bad during the 2007 taxation year.

Decision of Boyle J:• [34] The text of subsection 50(1) does not describe a form or otherwise

dictate how the taxpayer makes his or her election and chooses in his or her tax return to have the subsection 50(1) apply… I agree with the sensible reasoning of Beaubier J. in Anderson [92 DTC 2296] and Tardif J. in Roy [[2004] 2 CTC 2519] that, upon a proper interpretation of section 50, it is sufficient to communicate the taxpayer’s election by clearly communicating in his or her tax return that he or she wants to be allowed an ABIL in respect of particular debt or shares disposed of in that year. This same analysis applies equally to electronic and paper format tax return.

Samipal Dhaliwal v. The Queen, 2012 TCC 84

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RRSPs – Prohibited Investments• Before 2011 Federal Budget (and 2012 Budget for RCAs)

– Private company shares could be qualified investment if at time of acquisition held less than 10% of shares

– Even if held more than 10%, still qualified investment if no control and below $25,000 exemption

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RRSPs – Prohibited Investments Changes• Eliminate $25,000 exemption• Prohibited from investing in entities in which has a significant

interest (10%)• Prohibited from investing in entities that do not deal at arm’s

length

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RRSPs – Prohibited Investments• Special tax of 50% of FMV if prohibited investments• Tax can be refunded if RRSP disposes of prohibited investment

by the end of the following year in which tax applies– Unless annuitant knew or ought to have known that prohibited

investment

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RRSPs – Advantage Tax• New RRSP anti-avoidance rules are designed to disallow

certain “advantages” that are intended to exploit the tax-free nature of an RRSP.

• The advantage tax will generally apply to:– Income attributable to prohibited investments.– Increases in the fair market value of the RRSP’s assets derived from

transactions that would “not have occurred in an open market” and that were primarily undertaken to benefit from the RRSP’s income tax exemption.

– Payments for services from the RRSP holder or a non-arm’s length person or returns on investments from property owned by the RRSP holder.

– Increases or decreases in the RRSP’s value due to “swap” or “strip” transactions.

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RRSPs – Advantage Tax• Advantages subject to a 100% tax equal to FMV• Annuitant personally liable for tax• Any income earned could trigger further advantage tax liability

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Trusts

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Trusts

Residence of Trust – Garron Family Trust Case• Supreme Court of Canada held that the central management

and control test shall be used to establish the residency of a trust.

• Against the rationale developed in Thibodeau case – the residency of trustee determine the residency of the trust.

• Same test as for corporations.• Promote consistency, predictability and fairness in the

application of tax law.

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Trusts

Emigrating Trusts – Withholding Tax• Income allocated to non-resident beneficiary is subject to

withholding tax when paid or credited.• Where the trust becomes non-resident before its income is

paid or credited, withholding tax may be difficult to levy.• Amendment deems income of the trust to have been paid or

credited to its non-resident beneficiary immediately before the emigration of the trust, although the income is only payable.

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Administration

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Start of

Business

Incorporation/

Entry into Canada

Internal

Documentation

Advising on

Employees/

Contractors

Internal

Reorganizations

Third Party

Transactions

Preparation and Filing of

Tax Return

Assessment

Voluntary

Disclosure

Audit/

Investigation

Reassessment/

Objection

Appeal to

Tax Court

Payment/

Collection

Fairness

Application

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Filing (Standard of Care)College Park Motors Ltd. And Joseph Alan Holdings Ltd. v. R.,2009 TCC 409

• CA prepared companies’ returns reporting no liability for Part 1.3 tax and claiming SBD

• Not eligible for SBD and liable for Part 1.3 tax • Before filing, companies’ principal, with extensive knowledge of financial

affairs, reviewed returns with CA• Mistake found to be innocent but Minister still justified in assessing beyond

statute-barred period • Negligence of tax preparer not a defence to a s.152(4) reassessment

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Filing Requirements• Mandatory E-Filing

– New s.150.1 defines a “tax preparer” as a person or partnership who prepares more than 10 corporate returns or more than 10 individual returns in a calendar year for consideration

• Employees excluded from the definition– “Tax preparers” are required to file all returns electronically, beyond

10 corporate returns and 10 individual returns– Penalties will be imposed

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New Partnership Information Returns

• For fiscal periods ending in 2011 and after• T5013FIN Old (no longer in use)

• 4-page form that provides info on partnership; similar to Jacket of T2 • T5013 Summary

• T5013SUM • This is replaced with T5013FIN and T5013SUM

• Reports totals of amounts allocated to partners on T5013 information slips

• Schedule 5 • Schedule 19

• Provincial allocation • Non-resident member information

• Schedule 9 • Schedule 25

• Purpose for CRA to determine ultimate control and “picture” the organization chart of the company

• Investment in foreign affiliates

• Use affiliation codes • Both Schedules 19 and 25 are replaced with the new Schedule 9

• GIFI now looking similar to T2 Taxprep • T5013SCH100, SCH 125, SCH141

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New Partnership Information Returns

• Schedule 50NEW OLD

• Part 1: All partners who are members of the partnership at the end of the fiscal period

• 12 columns of information

• What’s new?

• ACB at end of previous fiscal period

• ACB and end of the fiscal period

• ARA at end of the fiscal period

• Part 2: For partners who disposed of all, or part of, their partnership interest during the fiscal period

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Records Retention/Destruction• IC 78-10R5• Subsection 230(4) requires that you must keep your business

records for a minimum of six years from the end of the latest year to which they relate.

• Records to be kept must allow for taxes to be calculated and must include source documents.

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Electronic Record Keeping• IC 05-1R1• Subsection 230(4.1) requires that persons who keep records in

an electronic format retain them in an electronically readable format for the prescribed period even when hard copy is available.

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Voluntary Disclosure• Voluntary disclosure program allows taxpayers to correct pas

omission and errors.• 4 conditions:

1. Voluntary2. Complete3. Involves one penalty4. Involves information at least 1 year overdue

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Voluntary Disclosure• IC 00-IR2• CRA will accept voluntary disclosure relating to mistakes and

omissions less than 1 year old for GST and income tax• Provided voluntary disclosure not initiated to avoid late filing

or instalment penalties

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Voluntary Disclosure

Worsfold v. M.N.R., 2012 FCA• CRA refused to accept voluntary disclosure as CRA had

initiated “enforcement action”• Taxpayer wins on judicial review

– No evidence that taxpayer knew of audit– No evidence that voluntary disclosure was triggered by audit

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Taxpayer Relief (Fairness)• IC07-1 – taxpayer can ask for relief to– Waive or cancel penalties and interests– Extend the filing due date for certain elections– Authorize a refund to an individual or trust even though

tax return filed outside of 3-year period– Authorize a reassessment for an individual or trust beyond

3-year reassessment period• Minister may grant relief for any tax year that ended within

10 years before calendar year in which the taxpayer’s request is filed

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Third Party Civil Penalties

Guindon v. R. (2012) TCC•Lawyer wrote tax opinion and was the director of a charity (signed donation receipts)•Assessed penalty under s.163(2)– No limitation period

•TCC agreed that third party penalties were criminal in nature, not civil and entitled to Charter protection

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Directors’ Liability

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Federal Liability• Income Tax Act

– Directors not generally liable for corporate taxes– Various withholding and remittance obligations– Section 227.1 imposes joint and several liability on directors– CRA can collect from any one director– Assessed director is entitled contribution from other directors

• Excise Tax Act– Section 323 imposes joint and several liability on directors

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Defences• Not a director at the time

– CRA Document 2011-0412471E5 confirmed that must be a director at the time of failure to rent

– Also confirmed that new director will not be liable for ongoing interest

• Two-year limitation period

• CRA has not followed procedure

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Defences• Due diligence defence

– Exercise the care, diligence and skill of a reasonably prudent person– Standard of care is objective and subjective – Relevant factors include age, experience, knowledge and background

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Defences• Inside directors

– Liable if inattentive or if do nothing when knew or should have known of potential for tax arrears

– Advisable to set up systems to ensure proper withholdings and remittances take place

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Defences• Outside directors

– Absent cause for suspicion, entitled to rely on day-to-day managers– Positive duty to ensure that someone responsible for proper

withholdings and remittances (i.e. able to delegate, but must do so properly)

– Positive duty to act upon any indication of a remittance problem

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Defences• Standard of care same for directors of both for-profit and not-

for-profit corporations• Due diligence defence for actions taken to prevent a tax

collection or remittance problem• No defence for actions taken after the corporation is in default

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Protective Measures• Establish and review processes and procedures to account for

withholdings and remittances• Immediately resign upon suspicion of financial difficulty or tax

arrears– Make sure stop acting as a director as well (see Milani v. R., 2009-3609

(GST)I where director continued to sign documents after resignation)

• Ensure resignation is effective under corporate law

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Protective Measures• Avoid becoming a de facto director• No requirement in B.C. to name officers• Obtain indemnification from shareholders if they have control

over the corporation• Obtain a tax clearance certificate before distributing any

property upon a wind-up of the corporation

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What to do if Assessed• Consider challenge to assessment

– Does the corporation owe the amount?– Have statutory prerequisites been met?– Is there a due diligence defence?

• If pay an assessed amount, determine if can recover from fellow directors or the corporation

• Automatically apply for any refund upon payment of a corporation’s provincial tax debt

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International Issues

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Thin Capitalization Rules – 2012 Budget• 2012 Budget contained three substantive changes

1. Reduction of debt-to equity ratio

2. Extension to debts of partnership

3. Taxation of disallowed interest as a deemed dividend

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Thin Capitalization Rules – 2012 Budget

• Reduction of debt-to-equity ratio– From 2-to-1 to 1.5-to-1– Effective for taxation yeas beginning after 2012– Example:

• Assume current related-party debt of $20M and equity of $10M• Parent company has no plan for new investment in Canada• Parent company will need to capitalize $2M of debt into equity before

2013 – [($20M + $10M)/2.5] - $10M = $2M

• Consider:– FX gain/loss on debt repayment– Tax issues for the parent company– Legal documentation– Need to move cash (not required for Canadian tax purposes)

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• Extension to Debts of Partnerships– Application of thin capitalization rules to Canadian-resident corporate

partners– Debts due by a partnership is included in the computation of the ratio

of its partners– If ratio is not respected, the interest remains deductible for the

computation of the partnership net income– Excess interest expense included as income in the partner’s income– Applicable to taxation years beginning after March 28, 2012

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• Withholding Tax on Disallowed Interest Expense– Disallowed interest expense and income included in partners’ income

deemed to be a dividend– Interest payable but not paid or credited, deemed to have been paid

immediately before year end– Withholding tax of 25% potentially reduced by Tax Treaty– Applicable on and after March 29, 2012

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Canada – US Tax Treaty

• The protocol came into effect December 15, 2008, after ratification by Canada and the US

• Significant revisions include:1. eliminating source-country withholding taxes on

cross- border interest payments. 2. extending treaty benefits to limited liability

companies.3. no treaty benefits for ULCs

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Canada – US Tax Treaty

4. Deemed PE if- individual present for 183 days or more in any 12-month

period and 50% of business revenues derived from contracting state; or

- services are rendered for more than 183 days in a 12-month period with respect to same or connected project

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Withholding Tax – ULC’s

• Revision to Canada-US Tax Treaty– 25% withholding tax rate on:

• Dividends paid by ULC to U.S. resident• Interest paid to U.S. resident sole shareholder of ULC

– Recent CRA technical interpretations• Structures re: reduced withholding tax rate

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IRS Streamlined Procedures• For non-resident US taxpayers who may not be in compliance

with US tax requirements• New process announced June 26, 2012• Detailed procedures released on August 31, 2012

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IRS Streamlined Procedures• Available for the following US taxpayers

– Lived outside the US since January 1, 2009– Have not filed a US tax return for 2009-2011– Have a valid TIN– Present low compliance risk and owe little or no back taxes

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IRS Streamlined Procedures• Filing requirements

– Three years of delinquent returns– Six years of delinquent FBARs– Related information returns, deferral elections– Full payment of taxes and interest– “Questionnaire” to determine risk level– Other requested information

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IRS Streamlined Procedures• What it Does:

– Efficient way to get non-residents compliant– Offers some relief from penalties

• What it Doesn’t Do:– Provide assurance that no penalties– Provide protection from criminal prosecution

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IRS Streamlined Procedures

• Other Avenues to Consider– May need to use claim reasonable cause for relief from penalties– 2012 Offshore Voluntary Disclosure Program

– For undisclosed foreign accounts– Reduced penalties– Generally eliminates risk of criminal prosecution

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CRA Audit Activity

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CRA Letter Writing Campaign• “Education letters” being sent

– Review income and expense claims on rental and/or business activities and employees expenses

– Review calculation of capital gains or losses from dispositions of publicly traded shares or mutual fund investments

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CRA Audit Activity• Tax Exempt Entities and Non-Profit Organizations (“NPOs”)

– NPOs must not operate with a profit purpose– CRA “Risk Identification Project”– Audits of 1,440 NPOs over three years– CRA has halted “education letters”

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CRA Audit Activity• Loss Utilization Transactions

– Tech Wreck project– Active use of requirements on “promoters”– CRA may review control or seek to apply GAAR

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CRA Audit Activity• Regulation 105 Source Withholdings

– Reg 105 imposes 15% withholding requirement on services rendered in Canada

– Treaty does not exempt withholding requirements– CRA is auditing payrolls and payments for services provided by non-

residents

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Presented By:

Lori Mathison Direct Line: (604) 443-7118

E-Mail: [email protected]

cga richmond/south delta chapter corporate and personal tax update january 19, 2013

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