The federal budget of 2007 included some new rules that would be favourable to taxpayers who incur the cost of a new building used for non-residential purposes. In essence, the new rules allow for enhanced capital cost allowance (CCA) rates for buildings located in Canada and purchased on or after March 19, 2007. The new rates are 10% for buildings used in manufacturing and processing (M & P) and 6% for all other non-residential buildings. The operation of these rules are fairly technical, and so they deserve the Tax Issue treatment. Let us first look at the two major traps embedded in the law.
Trap #1 – Election Required
The most important trap in the regulations seems to be that if you have acquired a qualifying building, it is not enough to simply place it in a separate class. You must make an election by supplying a letter attached to a timely filed income tax return, requesting that Regulation 1101(5)(b.1) be applied to place the building in a separate class.
Trap #2 – No Use Prior to March 19, 2007
The election is only available for acquisitions of an “eligible non-residential building”. Among other things, this definition requires that the building has not been used, or acquired for use by any person before March 19, 2007. Therefore, these new CCA rates do not apply to just any commercial building purchased. If the building was used prior to purchase by another person in any non-residential fashion prior to March 19, 2007, the enhanced CCA rates do not apply.
The enhanced rates include the 4% allowed by Class 1. The building is placed in a separate class 1.3, and an additional allowance of either 6% or 2% applies. The 6% rate (making the total 10%) is allowed for buildings where at least 90% of the floor space is used at the end of the taxation year for the manufacturing and processing in Canada of goods for sale or lease. Note that the 90% applies at the end of the year. Thus, a building that did not qualify for the first part of the year may still qualify if its use changes by year-end.
The 2% additional allowance (making a total of 6%) is available where the building does not qualify for M & P as above, but 90% of the floor space is used in any other non-residential capacity.
Since the determination of the building’s CCA rate is based on its use at the end of each year, it seems that the additional rate could, theoretically, be different from year to year. Thus, a building whose M & P usage drops below 90% at the end of any given year could have its CCA rate reduced from 10% to 6% for the year and vice versa.
Building Under Construction
The new rates apply to buildings that were under construction on budget date. Construction costs incurred prior to March 19, 2007 are deemed under a special rule to have been incurred on March 19, 2007, unless the taxpayer elects out of this deeming rule. This will allow for the full cost of a new building completed after budget date to be eligible for the enhanced rates.
However, care should be taken to ensure that no part of the building was put in use prior to March 19, 2007. If this is the case, it will not qualify. However, post March 18, 2007 costs will still be eligible to be placed in a separate class under the rules described below.
Additions and Alterations
A special rule provides that the cost of an addition to or alteration of an otherwise non-qualifying building is deemed to be a separate building for the purpose of the new allowances. The election must be made to place these capital costs in a separate class 1, and the new rates will apply.
The enhanced CCA rates for new non-residential buildings are attractive, but care must be taken to ensure that a building, addition or alteration qualifies for the new rates and that the proper compliance steps are not forgotten.