DAVID WILKENFELD, CA, canadian tax CONSULTANT

Archive for October, 2009|Monthly archive page

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What’s Your Tax Issue?: Sale of Canadian Real Estate

In Canadian Income Tax, Non-residents on October 29, 2009 at 3:59 pm

The Tax Issue:

I own one third of a country home (located in Canada) together with my two siblings and I recently moved to the Bahamas. Do I have to pay tax in Canada on my share when the property is sold, since I have no tax to pay in the Bahamas?

The Answer:

First, when you leave Canada to become a non-resident, there are certain rules to consider. The big one is that you have a deemed disposition of all capital property at fair market value as of the date you left. I would seek professional advice in this regard.

But there are exceptions, one of which is real property located in Canada. The taxation of your share of the country home, therefore, is deferred until you actually sell it. At that point, it’s fully taxable in Canada regardless of where you live, because it falls into the category of  “Taxable Canadian Property”.

At the time of the sale, you will have to provide the CRA with information and withholding taxes will likely apply to your share of the proceeds under section 116 of the Income Tax Act. You will have to file a Canadian income tax return to report the disposition and the taxes withheld will go as a credit against the actual taxes payable on the tax return. This issue was discussed in an earlier post. Again, at this point, a tax professional should be able to guide you.

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Non-Resident Vendors and the GST

In Canadian Income Tax, Goods and Services Tax on October 26, 2009 at 11:42 am

The Goods and Services Tax (“GST”) is a Canadian sales tax of 5% levied on all goods and services (“supplies”) made in Canada. Anyone making a supply in Canada must register for the GST, collect the tax from its customers, and remit the tax to the government.

Now, I hear what you’re saying: What about me? I’m a non-resident of Canada. Surely, I don’t have to comply with this nonsense.

If you cross the border to sell that snake oil, you may have to charge the GST.

Well, perhaps you do. Any non-resident who carries on a business in Canada must register.

Are you carrying on a business in Canada? The law here is not simple. The answer is, it depends on your level of activity. You must have a substantial presence in Canada, and your income-earning activities must be located here.

What do the courts and the CRA look for to make the determination? The CRA has outlined 12 factors:

1. The place where agents and employees of the non-resident are located;
2. The place of delivery;
3. The place of payment;
4. The place where purchases are made or assets acquired;
5. The place from which transactions are solicited;
6. The location of assets or an inventory of goods;
7. The place where business contracts are made;
8. The location of a bank account;
9. The place where a non-resident’s name and business are listed in a directory;
10. The location of a branch or office;
11. The place where the service is performed; and
12. The place of manufacture or production

The weight given to any one factor depends on the type of activity. For example, in the case of a leasing business, the location where the contract is signed and the location of the goods to be leased are two of the more important factors.

Carrying on business in Canada has income tax consequences as well, as we discussed in an earlier post.

Also, depending on the province, you may have to collect the HST (Harmonized Sales Tax), which combines the 5% GST with the province’s rates.

If your activities in Canada are on the rise, and you want to remain in good standing with the Canadian tax authorities, contact a Canadian tax advisor to ensure you don’t run in to any problems down the road.

What’s Your Tax Issue?: Supply of Burial Plots

In Uncategorized on October 21, 2009 at 12:30 pm

The Tax Issue:

I am the treasurer of a charitable organization that sells burial plots to individuals. Do I charge the GST on these sales?

The Answer:

The Goods and Services tax and, depending on your province of residence, the Harmonized Sales tax or Quebec Sales Tax are levied on all supplies of property or services rendered in Canada, unless they fall in to one of a myriad of exemptions, exceptions  or exclusions.

A quick check of the law shows that there is a special section of exemption for supplies by registered charities. However, these exemptions come with a long list of exceptions. So, if you’re following along, everything is taxable, unless it’s exempt. Everything supplied by a charity is exempt, unless it is not exempt.

A supply of real property by way of sale is an exception to the registered charities exemption, so it’s taxable. The charity must charge the GST on the sale.

The question you must ask, therefore, is whether the sale of a burial plot is really a sale of real property for purposes of the GST. Is there a transfer of title to the property? Is the burial plot provided for a limited period of time, say 99 years, or in perpetuity?

If, according to the terms of the contract, the provision of the plot can be viewed as lease, licence or similar arrangement, then it would be exempt from GST.

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GAAR Wars: The (Quebec) Empire Strikes Back

In Canadian Income Tax, Tax Avoidance on October 17, 2009 at 3:53 pm

Not Quebec's Finance Minister

The Minister of Finance of Quebec has announced major new rules in the fight against “Aggressive Tax Planning” (“ATP”).

Remember the “Quebec Shuffle”? How about the Alberta-Resident Trust? These and other tax-planning strategies were once all the rage, saving tax dollars by exploiting differences among provincial tax rules. Before they became well-known, they were marketed by tax planners as “confidential” or “proprietary” tax plans, and clients would have to sign non-disclosure agreements before gaining access to these strategies. Often, the fees charged by tax advisors were contingent – based on the value of the taxes saved.

Although the provinces took steps to eliminate many of these plans by introducing specific legislation over the years, and despite the existence of the General Anti-Avoidance Rule (“GAAR”), last January the government of Quebec issued a discussion paper to float proposed rules to further combat ATP transactions.

On October 15, 2009, the Minister of Finance released Information Bulletin 2009-5, which outlines the final version of new rules that will immediately apply to Quebec taxpayers and their advisors.

Mandatory Disclosure

The centerpiece of the proposed legislation is the new reporting regime. These rules are largely based on the U.S. model of “Reportable Transactions”, which has been in place for some years.

In certain instances, taxpayers will now be required to report the details of a transaction (or series of transactions) to Revenue Quebec by the due date for filing their returns. Taxpayers will have to report a complete and detailed description of the facts and the tax consequences relating to the transaction.

There are two categories of transactions that must be reported:

  • Confidential transaction – where the tax advisor has demanded secrecy from the taxpayer regarding the plan; and
  • Transaction with conditional remuneration – where the tax advisor is being compensated based on some form of contingency arrangement. (this would exclude contracts for R&D and other tax credits)

The mandatory disclosure will apply to either of the above types of transactions; however, they will not apply unless the transaction in question results in a tax benefit of at least $25,000 or a deduction of at least $100,000.

Failure to file the information will result in onerous consequences – a penalty of $10,000 plus $1,000 per day up to a maximum of $100,000, as well as suspension of the limitation period for reassessment until the disclosure is filed.

New Punitive Rules Where GAAR Applies

The Minister proposes to extend the limitation period and assess penalties where a transaction is found to be subject to the GAAR.

Firstly, the normal reassessment period (currently 3 or 4 years) will be extended by a full three years. Furthermore, a penalty of 25% of the additional tax will be levied on the taxpayer; and finally, in all cases where GAAR applies, a promoter who markets the plan will be subject to a penalty of 12.5% of the consideration he receives.

Preventative Disclosure

In order to prevent the possibility of an extended limitation period and the penalties in GAAR cases, taxpayers can choose to disclose any transaction to Revenue Quebec on a voluntary basis. If the transaction is reported by the due date of the taxpayer’s tax return, then the application of the GAAR will not come with the extension of the limitation period for reassessments and the above penalties will not be imposed.

New Administrative Department

I suspect that the government will quickly become inundated with disclosures, especially since now, any over-zealous tax auditor could decide to extend the reassessment period by simply pulling out the “GAAR” card (an over-zealous tax auditor in Quebec? Dave, you can’t be serious!).

To this end, the government has established a division of Revenu Québec, called the Direction principale de la lute contre les planifications fiscales abusifs (hooray! another Quebec bureaucratic department!), where all of the disclosures must be sent, on a prescribed form, separately from tax returns .

Quebec has taken a bold step in the fight against tax avoidance. One wonders how long it will be before the federal rules follow suit.

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What’s Your Tax Issue?: Income or Capital Gains?

In Canadian Income Tax on October 12, 2009 at 4:55 pm

The Tax Issue:

I recently sold my business and started trading commodities as a full-time occupation. Can I report my gains from these transactions as capital gains?

The Answer:

This is one of the more contentious tax issues that arise on a daily basis. The gains from the sale of any property is either fully taxable on income account or a capital gain (50% taxable). The determination is not always easy. A capital gain arises on the sale of capital property, which is generally thought of as a long-term asset that is held for investment purposes, such as shares of public corporations.

Trading in commodities as a full-time career suggests to me that you are not purchasing commodities for investment purposes, Rather, your intention is to buy and sell frequently, earning your profit on short-term price differentials. This would indicate that your profits will be seen by the CRA as being on income account.

A more difficult question would arise if your activities included the purchase and sale of public company shares. Here, there is often an argument to be made that shares may be held for investment purposes, and the line may not be so clear. The courts and the CRA have established certain guidelines to help in making the determination. Some of the factors that may indicate that you are carrying on a business (and must report gains as income) are:

  • Frequency of transactions – a history of extensive buying and selling
  • Period of ownership – securities are owned for a relatively short period of time
  • Knowledge of the markets
  • Time spent – a substantial amount of time is spent studying the markets
  • Financing – transactions are financed on margin or some other form of debt

For Canadian taxpayers who are not dealers, or in the business of trading, a special election is available that would ensure that gains on the sale of Canadian securities are always treated as being on account of capital. The downside is that losses will also be treated as capital losses The election is once-and-for-all, and cannot be revoked in the future.

The CRA has published IT-479R, which goes into this topic in greater detail, for those that are interested in this topic.

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Premature CDA Elections

In Canadian Income Tax on October 5, 2009 at 4:51 pm

The Capital Dividend Account (“CDA”) tracks the non-taxable portion of certain corporate income items, in order to ensure that they remain available as non-taxable amounts when they are distributed to shareholders. Generally, the CDA is made up of a number of elements. The first and most common is the non-taxable portion of capital gains, less the non-allowable portion of capital losses.

When a positive balance is available in the CDA account, common wisdom is to pay it out to shareholders as quickly as possible. The main tax reason is to avoid a reduction in the balance in the account due to future capital losses. However, when it comes to the calculation of the CDA at a given point in time, care must be exercised. This is because, there are certain items that do not effect the CDA balance immediately, causing difficult, and sometimes expensive problems for taxpayers.

Members of Partnerships

Where a corporation is a member of a partnership that sells capital property during a taxation year, the allocation of the capital gain to the corporation will not technically take place until the year end of the partnership. Accordingly, the CDA balance of the corporation will not be increased until after the partnership’s year end.

Sale of Goodwill

If a corporation sells its assets, there will be a number of tax consequences, including capital gains, recapture of depreciation, and the sale of goodwill, or cumulative eligible capital (“CEC”). Proceeds from the sale of CEC is treated in a similar manner to a capital gain; however, the income inclusion is technically not considered a capital gain. It arises from a negative balance in the CEC account at the end of the fiscal year. Therefore, the addition to the CDA account on the sale of goodwill or other CEC does not take place at the time of the sale, but rather, at the year end of the corporation, and no CDA election should be undertaken until the first day of the new taxation year.

Recharacterized Income

A capital gain results from the disposition of capital property. However, the courts are regularly hearing tax cases involving the distinction between income and capital gains. When a property is sold and the taxpayer reports it as a capital gain, if there is any question that the gain could be viewed by the CRA as regular income, it may be prudent to delay the CDA election until the issue is settled, or the limitation period for reassessment has expired.

The consequences to any of the above traps is that a CDA election will have been made prematurely, with an insufficient balance in the account. The consequences may be dire. A 75% penalty tax under Part III of the Act is assessed. The only remedy is to request that the excess amount be treated as a taxable dividend. A CDA dividend cannot simply be revoked, because the payment of the dividend is a legal event, and cannot easily be undone or cancelled.

So in making a CDA election, you should hold off long enough to ensure that your CDA balance is not in any doubt.

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What’s Your Tax Issue?: Surplus Stripping

In Canadian Income Tax, Tax Avoidance on October 1, 2009 at 5:50 pm

The Tax Issue:

Can I claim the capital gains exemption if I sell my shares to my brother’s company?

The Answer:

This could be the most common question I get on this topic. The capital gains exemption is intended to shelter the gains from the sale of private company shares. The exemption is available to individuals only, up to a lifetime cumulative limit of $750,000. The shares must meet certain tests which are too complicated to get into here. Suffice to say, you would not want to claim the exemption without consulting a tax professional first.

Generally, any sale of shares that qualifies should be eligible for the exemption, even a sale to a non-arm’s length party, such as your brother’s company. However, if you plan on receiving any consideration other than shares, such as cash, forget it.

Let’s cut to the real question. What you are really asking is, “can I get cash out of a non-arm’s length company without paying tax?” What the CRA calls this is “surplus stripping”, and there are rules in place to stop you.

Specifically, the most common anti-surplus-stripping rule in the Income Tax Act is found in section 84.1, which will convert your capital gain into a taxable dividend if you receive cash as part of your proceeds from the sale of shares to a non-arm’s length company.

If you wish to take back shares of your brother’s company as your proceeds, that’s ok, but any subsequent redemption of those shares will be taxed as a dividend.