Taxing Topics - Dwyer Tax Law Canadian Tax Law Articles: 2016

Monday, October 24, 2016

January 15 Fix is Still in Play.

On January 15, 2016, the federal government released legislative proposals designed to fix some of the problems created by 2015 legislation on the taxation of trusts. See earlier posts from January 18 and 19, 2016 .

On October 21, 2016, the January 15 proposals were finally released as part of a budget implementation bill. This means that the fix to the 2015 legislation is that much closer to becoming law. Once the correcting legislation is passed, it will be retroactive to the start of 2016.

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The above article provides general commentary of an educational nature. It does not constitute advice for any specific person or any specific set of circumstances. Because circumstances vary, readers should consult professional advisers in order to obtain advice that is applicable to their specific circumstances.

Thursday, April 14, 2016

News Headlines Unfair to Red Cross

Several newspapers have reported allegations that the International Committee of the Red Cross (the “ICRC”) was listed as the beneficiary of two Panamanian foundations used by clients of the infamous Panamanian law firm Mossack Fonseca.

These reports are unfair to the ICRC.

The ICRC has no control over whether it is named as beneficiary of a trust or foundation. Any person setting up a trust or foundation can name any person in the world as a beneficiary. If the ICRC was named as a beneficiary, the ICRC was likely named as an “ultimate” beneficiary who would receive something only if something was left over after distribution of the assets to the “real” beneficiaries. While offshore trusts and beneficiaries frequently name the ICRC and other charities as “ultimate” beneficiaries, I suspect that the ICRC and those other charities never actually see any funds from those trusts and beneficiaries. The charities are being used as an unwilling tool to satisfy requirements of trust and foundation law.

And really, if some of the funds actually went to the ICRC and other charities, would that be such a bad thing?

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Thursday, April 7, 2016

An Apple for the Teachers

Budget 2016 introduces a new tax credit in recognition of personal expenses incurred by teachers and early childhood educators who often end up buying supplies for their students.

Effective for 2016, eligible employed educators will be able to claim a 15% tax credit for up to $1,000 in eligible expenditures made in a taxation year.

The tax credit will be refundable. If an eligible educator has no tax to pay after claiming the basic personal exemption and any other available tax credits, the educator will receive a cheque from the government for any portion of this new credit that was not actually applied to reduce tax owing.

The new credit does not apply to an individual who is self-employed because self-employed individuals can deduct business expenses as a matter of course.

As with any tax credit (and classroom setting), rules apply.

To qualify as an eligible educator, a teacher must hold a valid teacher’s certificate and an early childhood educator must hold a valid certificate or diploma in early childhood education. In each case, the certificate or diploma must be recognized by the province or territory in which the individual is employed.
Expenditures must be for the purchase of eligible supplies for use in a school or a regulated child care facility for the purpose of teaching.
Eligible supplies will include the following durable goods.

Games and puzzles.
Supplementary books for classrooms.
Educational support software.
Containers (such as plastic boxes or banker boxes for themes and kits).

Eligible supplies will also include consumable goods, such as the following.

Construction paper for activities, flashcards or activity centres.
Items for science experiments, such as seeds, potting soil, vinegar, baking soda and stir sticks.
Art supplies, such as paper, glue and paint.
Various stationery items, such as pens, pencils, posters and charts.

The employer must certify that the supplies were purchased for the purpose of teaching. Eligible educators will have to retain all receipts for verification purposes.

While teachers and early childhood educators will welcome this credit, it provides only partial relief for the out-of-pocket expenses incurred by teachers and early childhood educators. I hope that cash-strapped school boards and other employers will not use the tax credit as an excuse for requiring teachers and early childhood educators to personally bear more of the costs of classroom supplies.

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Monday, April 4, 2016

Budget 2016 and Kids' Stuff

The 2016 federal budget consolidates the Canada Child Tax Benefit (the CCTB) and the Universal Child Care Benefit (the UCCB) into a single acronym with one less letter: the CCB (which stands for Canada Child Benefit).

The CCB will be non-taxable and will provide a maximum benefit of up to $6,400 per year ($533.33 per month) per child under the age of 6 and $5,400 per year ($450 per month) per child aged 6 through 17. An additional amount of $2,730 per year ($227.50 per month) is paid for a child who qualifies for the disability tax credit. The CCB amounts depend on the family net income, however, and are gradually reduced if family income for the previous taxation year exceeds $30,000.

The new benefit system will start in July 2016. To see how your family will fare under the new system, use the CCB calculator at http://www.budget.gc.ca/2016/tool-outil/ccb-ace-en.html.

When using the calculator, you will have to manually take into account the following forms of tax relief eliminated by the 2016 Budget.

The budget eliminates the income-splitting tax credit for couples with a child under the age of 18. This is effective for 2016. The credit allowed a higher-income spouse or common-law partner to notionally transfer up to $50,000 of taxable income to the lower-income spouse or common-law partner for the purpose of reducing the couple’s total income tax liability by up to $2,000.
The budget will phase out the children’s fitness and arts tax credit. For 2016, the maximum eligible amount will be halved. For the fitness tax credit, the eligible amount will be reduced to $500. For the arts tax credit, the eligible amount will be reduced to $250. The supplemental amount for a child who qualifies for the disability tax credit will remain at $500 for 2016. However, the credits will be eliminated for the 2017 and subsequent taxation years.
The budget will eliminate education and textbook tax credits for the 2017 and subsequent taxation years. As a result, unused portions of those credits will no longer be transferable to a supporting individual. The tuition tax credit will remain in place.

Elimination of very specific tax credits (such as the fitness and arts tax credits) in favor of more generally-based financial assistance is generally preferable from a tax policy perspective. Having said that, elimination of the fitness and arts tax credits may reduce the number of children participating in fitness and arts programs. We will have to wait and see how this plays out.

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Tuesday, March 29, 2016

Preventing Too Much of a Good Thing

As indicated in the last blog (click here to read it), small business corporations enjoy a low rate of tax on the first $500,000 of profit from an active business carried on in Canada. In British Columbia, this low rate is 13%. This consists of a 10.5% federal rate and a 2.5% provincial rate.

The low rate of tax leaves a small business corporation with more after-tax cash. Because the rate applies only to the first $500,000 of profit in any one year, taxpayers have an incentive to try to multiply access to that $500,000 threshold. Income tax law already contains various anti-avoidance rules that seek to prevent this. The 2016 federal budget adds a few more.

Some taxpayers have tried to have more than one $500,000 limit apply to a single business by having other corporations provide services to a corporation that carries on the main business.

For example, assume that Storeco carries on the business and has two shareholders, Manfred and Peter.
In order to increase access to the low rate of tax, Storeco does some creative outsourcing to “friendly” corporations.
Manfred incorporates a corporation (“Manco”) and Storeco hires Manco to provide business management services to Storeco.
Meanwhile, Peter also incorporates another corporation (“Peterco”) and Storeco hires Peterco to handle inventory purchases.
Storeco pays a fee to Manco and Peterco for those services.

Under current rules, each of the three corporations is carrying on a separate business and can claim the low rate of tax on up to $500,000 of income from that active business. If there had been no outsourcing, Storeco would have had a single $500,000 limit.

Under the new rules, neither Manco nor Peterco will qualify for the low rate of tax because

each corporation is owned by a shareholder of Storeco; and
neither corporation earns substantially all its active business income from arm’s-length persons other than Storeco.

The same result applies if the shareholders are spouses or children or other persons who do not deal at arm’s length with Manfred and Peter.

In order to claim an independent low rate of tax, each corporation (Manco and Peterco) would have to earn substantially all its respective active business income from arm’s-length entities (and Storeco doesn’t qualify as arm’s length). In other words, the corporation would have to carry on an independent business that happens to also provide services to Storeco, among many other clients.

Similar new rules will apply to a partnership that outsources various parts of its business to friendly corporations. If the friendly corporation (or a shareholder of the friendly corporation) is also a member of the partnership, the new rules will require that the $500,000 limit be shared among all such friendly corporations dealing with that partnership.

A corporation will be deemed to be a partner if

the corporation provides services to the partnership; and
a member of the partnership is related to, or otherwise deals on a non-arm’s-length basis with, that corporation or a shareholder of that corporation; and
the corporation does not earn substantially all its active business income from arm’s-length persons other than the partnership.

A corporation (even if friendly) will escape the rules if the corporation carries on an independent business that happens to include the partnership as one of many clients.

These rules could affect family businesses in which various members of a family have their own independent incorporated businesses if the separate corporations also do significant business with each other. Whether substantially all business income is earned from arm’s-length customers will be a question of fact in any one case.

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Thursday, March 24, 2016

Steady As She Goes For Small Businesses

The 2016 federal budget did not make the small business rate unavailable for professional businesses, despite the rumours that suggested it would. However, the budget did include changes that will affect small business corporations.

Small business corporations are Canadian-controlled private corporations that earn income from an active business carried on in Canada and that have taxable capital of less than $10 million. The first $500,000 of active business income qualifies for a low rate of tax. In British Columbia, this low rate is 13%. This consists of a 10.5% federal rate and a 2.5% provincial rate.

The former government had proposed to reduce the federal component of this tax rate in stages between 2017 and 2019. The 2016 budget cancels those planned rate reductions. As a result, the low rate of tax will remain at 13% for British Columbia small business corporations. In order to integrate the tax paid by a small business corporation and the tax paid by shareholders on dividends received from those corporations, the dividend gross-up and tax credit rates will also remain at 2016 levels.

The low rate of tax applies only to active business income – for example, income from a retail store or a service business. Except in the case of real estate rentals, it does not matter how many people are employed by the business corporation. If a corporation is in the business of renting real estate, however, rental income qualifies for the low rate of tax only if the rental business employs more than five full-time employees. This restriction applies to corporate landlords as well as corporations that rent storage units.

In 2015, the federal government announced a review of the active business classification rules. It has now completed that review and will not make any changes to the active business income concept at this time. This means that incorporated real estate rental businesses will still have to employ more than five full-time employees in order to gain access to the low rate of tax on that income.

The low rate of tax is an advantage because it leaves a small business corporation with more after-tax cash. The rate applies only to the first $500,000 of profit in any one year. This creates an incentive for taxpayers to try to multiply access to that $500,000 threshold. Various anti-avoidance rules seek to prevent this. For example, associated corporations must share the $500,000 limit. Associated corporations are corporations that have an element of common ownership or that are separate purely for tax purposes.

The 2016 federal budget adds to these anti-avoidance rules. These new rules will be addressed in the next blog.

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Tuesday, March 22, 2016

What Was Not In The Budget

Prior to the 2016 federal budget, rumors swirled surrounding the following possible changes.

· An increase in the capital gains tax rate.

· Restrictions on the availability of the small business tax rate for professional corporations and certain other small businesses.

Neither of the above rumors turned into reality on Budget Day.

Capital gains will continue to be taxed at half the normal tax rate. This compensates somewhat for the effect of inflation over time, as part of any capital gain is usually attributable to inflation.

The small business rate will continue to apply much as it has in the past. The government announced that it has completed its review on how the small business rate applies in the context of businesses that earn income principally from the rental of property (such as a storage business). The government has decided to make no changes to the rules at this time.

The small business rate is a low rate of tax that applies to a qualifying corporation on its first $500,000 of active business income. While the basic rules applicable to this rate continue to apply, the federal government will introduce legislation targeting business structures that attempt to get around the annual $500,000 income limit. I will describe these rules in a future blog.

Among other announcements, the government has decided to proceed with changes to the amortization of the cost of goodwill and other forms of intangible property. Such amortization will move to the capital cost allowance system that applies to most equipment and other forms of business property. This will eliminate the separate amortization system that had applied to goodwill in the past.

Charities will be disappointed that the government has chosen not to implement the 2015 proposal that would have provided an exemption from capital gains tax for certain sales of real estate or private corporation shares to the extent that the proceeds were donated to a charity within 30 days of the sale. The government did not give any reason for this decision.

As in the past, this firm will comment on specific budget proposal over the next few weeks. Stay tuned for more on our Tax Talk Blog!

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Friday, February 26, 2016

Canadian Tax Primer 16: Capital Gains Exemption on Farming and Fishing Property

As noted in Tax Primer 14 (please click here to read it), a Canadian-resident individual can realize up to $1 million in tax-free capital gains on the sale of qualified farming and fishing property.

City slickers should not necessarily skip over this tax primer discussion. In some circumstances, farming property can include property that is not currently used as a farm. For example, assume that your parent (or grandparent, or even great-grandparent) operated a farm and left the farmland to you prior to June 18, 1987. As long as that ancestor operated a farm on that property for a total of at least five years (consecutive or not), that previous use of the property can allow you to claim a capital gains exemption of up to $1 million on a sale of that real estate.

The date of acquisition is important in the case of farming property. If you acquired your interest in the farming property on or after June 18, 1987, more stringent rules govern whether you can claim the exemption. For farming property acquired on or after June 18, 1987, you must satisfy a two-year gross revenue test. In at least two years, the gross revenue (before deduction of expenses) from the farming operation must have exceeded the operator’s income (after deduction of expenses) from all other sources. The test can still be satisfied by gross revenue realized during two years while your parent (or grandparent, or great-grandparent) owned the property. However, no gross revenue test applies if you acquired your interest in the farming property prior to June 18, 1987.

In the case of fishing property, the two-year gross revenue test must be met (no matter when you acquired your interest in the fishing property).

Remember that the capital gains exemption exempts only the capital gain that arises on a sale. For example, assume that you are selling farmland that includes barns and other structures that have been depreciated for income tax purposes (read Tax Primer 7 for a discussion of tax depreciation by clicking here). The capital gains exemption will not apply to any part of the sale proceeds that constitutes a recovery of tax depreciation that has been claimed in past years on the barns and other structures.

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Tuesday, January 19, 2016

A Better Sense of Timing

Recent 2016 legislative proposals (described in greater detail in our previous article) fix a timing problem that could have arisen in respect of charitable donations made by the trustees of alter-ego trusts, joint spousal trusts and testamentary spousal trusts (“Life Interest Trusts”).

As described in our previous article, the assets of those trusts are subject to a deemed disposition on the death of the initial beneficiary or beneficiaries (the person who established the trust in the case of an alter-ego trust or the surviving spouse in the case of a joint or testamentary spousal trust). I will call this individual the “Relevant Beneficiary”. If the trust document authorizes the trustee to make charitable donations, the trustees can use the donation tax credit in order to reduce the tax payable as a result of that deemed disposition.

The 2015 changes introduced a deemed taxation year-end at the end of the day on which the Relevant Beneficiary died. This deemed year-end created a problem. In order for the trust to use the donation tax credit against capital gains triggered by the deemed disposition, any charitable donation had to be made before the end of the day of death. Even if death occurred first thing in the morning, this would not give the trustee much time to make the donation.

The 2016 proposals alleviate this timing problem by providing the trustee with 90 days from the end of the year of death to make the donation. If the Relevant Beneficiary dies on the last day of a calendar year, the trustee has 90 days in which to make the donation. If the beneficiary dies earlier in a calendar year, the trustee has additional time because the trustee has the rest of the calendar year in question plus the 90 days after the end of the calendar year.

As long as the trustee makes the donation within 90 days of the end of the calendar year in which the death occurs, the trustee can decide how to use the donation tax credit from among several options. The trustee can use the credit in the taxation year in which the gift is made, in any of the following five taxation years or in the trust taxation year that is deemed to end on the death of the Relevant Beneficiary (the most likely choice). By choosing this last option, the trustee can use the donation tax credit to reduce tax triggered by Relevant Beneficiary’s death.

The legislation does not address a second timing issue that arises in respect of donations made by a Life Interest Trust: the time of the donation itself. In order for the trust to use the donation credit at all, the donation must be made by the trustee pursuant to a power to make donations. If the trust deed requires that the trustee pay money to a charity on the death of the individual, the trustee is legally obliged to transfer funds to the charity and is not making a gift. In this case, the gift would have been made at the time that the trust was first established. But if the gift depends on a future date of death and on the amount of property left in the trust at the time of that future death, it is impossible to quantify the amount of the gift at the time that the trust is established and no donation tax credit can be given at that earlier time.

So the 2016 proposal addresses one timing issue but not the other. In order for the trust to be able to use the donation tax credit against tax triggered by the deemed disposition, the trustee has to make the donation pursuant to a power to make donations and has to do so within 90 days of the end of the calendar year in which the death occurs. Usually, the trustee will honor the expressed wishes of the deceased individual when exercising this power but has no legal obligation to do so. The trustee will follow the expressed wishes purely as a matter of honor – the trustee cannot be legally obliged to make the donation.

The Department of Finance is aware of this remaining anomaly. I hope that a future amendment will fix this issue so that generous Canadians have some legal assurance that their charitable wishes will be legally enforceable if they choose to leave assets to charity through a Life Interest Trust.

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Monday, January 18, 2016

The Way We Were (Almost)

On January 15, 2016, the federal government released proposals that will fix some of the problems created by its earlier 2015 legislation on the taxation of trusts.

The earlier 2015 legislation changed the taxation rules for alter-ego trusts, joint spousal trusts and testamentary spousal trusts (collectively, “Life Interest Trusts”). In these Life Interest Trusts, the trust assets are held solely for the benefit of the initial beneficiary or beneficiaries (the person who established the trust in the case of an alter-ego trust and the surviving spouse in the case of a joint spousal trust or a testamentary spousal trust). On the death of the last of those initial beneficiaries, the assets in the Life Interest Trust are subject to a deemed disposition. This results in the taxation of any previously-untaxed increase in asset value. Prior to 2015, that deemed disposition occurred inside the Life Interest Trust so that the trust assets could be used to pay any resulting tax.

The 2015 legislation would have changed this starting in 2016. Instead of the deemed disposition occurring inside the Life Interest Trust, the deemed disposition would have occurred outside of the Life Interest Trust and would have become a liability of the personal estate of the deceased individual (as if the individual had personally owned the assets in the trust). This rule would have created a host of problems, especially if the will and the Life Interest Trust had different beneficiaries – as can happen in blended family situations.

The 2016 fix reverses that aspect of the 2015 legislation and returns us back to way things used to be. As a result, any tax triggered by the deemed disposition of trust assets will be paid by the Life Interest Trust rather than by the personal estate. Big sigh of relief.

For those who may have altered their estate plans based on the 2015 legislation, there is an elective procedure under which the trustees of the Life Interest Trust and the executors of the estate can jointly choose to have the deemed disposition tax paid by the personal estate. In order to do so, however, the specified individual must die before 2017. So this elective rule merely provides time for someone who altered an estate plan in an attempt to comply with the 2015 legislation to once again alter the estate plan based on the fix to the 2015 legislation.

The death of the initial beneficiary will still trigger a deemed taxation year-end for the Life Interest Trust – so we are not fully back to the way we were – but at least the tax liability will be in the proper place.

The 2016 proposals also fix a problem that could have arisen in respect of charitable donations made by a Life Interest Trust. That fix will be the subject of a future blog.

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