Tax Organizer 2012 Is Here

Hey everyone, The Tax Issue Tax Organizer 2012 is up and running. I received many emails last year from accountants and individuals expressing their appreciation for this useful tool so I encourage you to try it and let me know how you like it.

Happy tax season!!

Foreign Reporting Redux

In this issue of The Tax Issue, we go around the horn of foreign reporting requirements of the CRA. These forms were first introduced back in 1995 and have been filed on a rather inconsistent basis by taxpayers in the past. That is, until the CRA in 2006 decided to enforce the onerous penalty provisions in place for late filers.

If you are required to file any of these forms and haven’t been, I would suggest you get cracking. There is a chance the CRA will waive the penalties if you come forward through the voluntary disclosures program before they make a request.

Form T106 should be filed by anyone who carries on a business and has transactions with related non-resident persons. An example would be a corporation who regularly charges management fees to its foreign parent, or has borrowed money from a related foreign entity.

Luckily for most of us, there is an exemption from filing if the total amount of the transactions does not exceed $1,000,000. If you are required to file this form, it is due with your income tax return.

File form T1134-A for a taxpayer with a non-controlled foreign affiliate (a non-resident corporation in which the taxpayer’s equity is not less than 1% and the total equity percentage of the taxpayer and related persons is not less than 10%)

File form T1134-B for a taxpayer with a controlled foreign affiliate (a foreign affiliate that is controlled by not more than 4 Canadian residents with or without the taxpayer, or persons not at arm’s length with the taxpayer)

Because of the onerous amount of information requested on these forms, they are due within 15 months after the end of the fiscal year. Where applicable, they must be filed by corporations, individuals and trusts.

If you have ever transferred funds or made a loan to a foreign trust, you may have to file form T1141. If you have received a distribution or a loan from a foreign trust, you may be required to file form T1142. A foreign trust is a trust not resident in Canada and has at least one Canadian resident beneficiary or a beneficiary that is a controlled foreign affiliate of a Canadian resident. These forms are due on the filing due date for the Canadian filer.

Form T1135 is what many individuals see on their personal returns each year. It is required from any Canadian resident taxpayer (including corporations and trusts) who owns foreign investments with a cost of more than $100,000 at any time in the year.  The form applies to “specified foreign property” which includes money deposited outside Canada, shares of foreign corporations, foreign rental property, loans to non-residents, interests in non-resident corporations, trusts, and partnerships. Exclusions include property held in the course of carrying on an active business, and personal use property (such as a vacation property).

Returns are due on the filing due date of your income tax return.

Penalties for non-filers can be heavy. For simple non-compliance the fine is $25 per day (maximum $2,500), or $500 per month (maximum $12,000) for non-compliance due to gross negligence. If Revenue Canada requests the information and does not receive it, they will charge $1,000 per month (maximum $24,000). If forms remain unfiled for more than 24 months, an additional 5% fine will be added to the above.

If you do not have a drawer full of the above forms, you can download them (and any others, for that matter) from the CRA site on the world-wide web.

What’s Your Tax Issue? Travel For Medical

The Tax Issue

Last year, I was vacationing in Florida and experienced some shortness of breath. I went to the hospital and they suggested I return home to Canada on an emergency basis for further workup. My flight back home cost $1,198. Can I claim this as travel for medical attention?

The Answer

According to the law, transportation costs to receive medical attention are only allowed in very restricted circumstances. First of all, the travel must be from your home to wherever you seek attention, and only if substantially equivalent medical services were not available near your home. The distance traveled must be at least 40 kilometres from your home, and it must be reasonable to expect that you would travel to that place for attention.

If you had to travel at least 80 kilometres (one way) from your home to obtain medical services, you may be able to claim accommodation, meal, and parking expenses in addition to your transportation expenses as medical expenses.

In your case, since the travel was not from your home I would suggest that your plane fare would not qualify as a medical expense.

For more information, visit the CRA’s web page on this topic.

What’s Your Tax Issue? Exam Fees

The Tax Issue

I am a physician doing my residency at McGill Unversity. Last year, I paid $3725.00 to the Royal College of Physicians and Surgeons in respect of exam fees required for my professional designation. I have a very official looking receipt but I’m being told that these fees may not be deductible. I’m getting different opinions everywhere. Do these fees qualify as tuition for tax purposes?

The Answer

Prior to 2011, the short answer was no. Only exam fees paid to a an educational institution were considered eligible for the tuition tax credit. As a small consolation, the CRA did suggest that if you are a self-employed professional, the exam fees might qualify as an eligible capital amount if they are paid in respect of your business or profession.

However, the 2011 federal budget contained amendments that will allow examination fees paid to a professional association, provincial ministry, or other institution for an examination required to obtain a professional status recognized by federal or provincial statute, or to be licensed or certified to to practice a trade or profession in Canada. These amendments apply to examinations taken in 2011 and subsequent taxation years.

 

What’s Your Tax Issue? Sale of Estate Assets

The Tax Issue

I am in the midst of settling my mother’s estate and my accountant has told me I have to sell her house within one year or else I’ll have to pay capital gains tax. He is also telling me that all my mother’s possessions such as jewellery, furniture and  and artwork may be subject to tax. I’ve never heard of this. Can you tell me if he is right?

The Answer

OK, the first thing you must know is that generally, upon the death of an individual, she is deemed to have disposed of all her capital property immediately before her death for proceeds equal to fair market value at that time.

First, let’s deal with the house. I’m assuming your mother lived in the house for the full time she owned it and it is eligible for the principal residence exemption. That means there will be no tax on the gain at death, but you will still inherit the place at a tax cost to you equal to the fair market value of the house at the time of her death.

Now the question is, how do you determine what the fair market value was at the time of death? Well the best way is to actually sell the house immediately. The closer the date of the sale to the date of death, the better estimate you have of the value at death. The longer you wait to sell, the more you will have to rely on an estimate of the value at the time of death based on valuation methods. Whatever the difference is between the value at the time of death (i.e., your tax cost) and the actual sale proceeds when you sell will become a capital gain or loss in your hands.

If you feel the value will be going up in the future, then if you plan to sell, do it sooner rather than later if you want to avoid having to report a capital gain on the increase in value from the time of death.

If the value goes down, then selling within the first year of death allows you to make a special election to use the capital loss against any gains reported on your mother’s final tax return.

Now to the other stuff. Technically speaking, all personal belongings are referred to in the law as “personal use property”, and they are subject to special rules. They are also deemed disposed of at the time of death at fair market value. The only difference is that each item has a deemed minimum cost base and minimum value for tax purposes of $1,000. So, any item that is worth less than $1,000 will not be taxed.  Gains will be taxed, and losses, if any, may be applied only against gains from other personal use property.

Items such as jewellery and artwork are another subset of personal use property called “listed personal property”, and are also subject to the above rules. Losses on this type of property, however, can only be applied against gains from other listed personal property.

An Unexpected Penalty for Unsuspecting Taxpayers

My son Victor who is hard at word assisting me with tax returns this year, today learned of a little known penalty that hits many average Canadians who file their returns honestly and in a timely fashion every year. If you’d like to know what it is, just visit his blog.

Thanks for reminding everyone about this Vic. Now get back to work!!

What’s Your Tax Issue? Quebec Business Income

The Tax Issue

I live in Ontario. I have $130K  of self employment income earned in Ontario and $12K  of  self employment income earned in Quebec. Do I have to file a Quebec return? Will I have any balance of taxes owing given the amount I earned in Quebec?

The Answer

Every self-employed person resident in Canada may have to perform an allocation of income if their income is earned through a permanent establishment (“PE”) in a different province. If you don’t have a PE in another province through which you earn your business income, then no allocation is necessary.

A PE is defined as a “fixed place of business”, and includes an office, a branch, a mine, an oil well, a farm, a timberland, a factory, a workshop or a warehouse. You will also have a PE if:

(a) You have an employee or agent established in the province if he has the general authority to contract on your behalf or if he has a stock of merchandise from which he regularly fills orders; or

(b) You have made use of substantial machinery or equipment in the province at any time during the year.

If you have a PE in another province, you must make an allocation of your income among the provinces in which you do business. There is a specific formula you must use to make the allocation, which is done on form T2203. The allocation you make will affect your provincial tax payable.

And yes, if you have PE in Quebec, which has its own tax return, then you must file a Quebec tax return. Report the full amount of your income on the Quebec return. Then the provincial allocation is made and the Quebec tax payable is apportioned based on the allocation.

So, to answer your question, if you have a PE in Quebec, you will have a Quebec tax return to prepare and you will likely have some Quebec tax to pay, based on the formula.

What’s Your tax Issue? Workspace At Home

Well, it’s tax time again, and so from now until the end of April, The Tax Issue will be devoted to your tax issues. So send in your questions and subscribe to this blog to make sure you don’t miss the answer!

Today’s question is very interesting and it affects many people as more and more are working from home these days.

The Tax Issue

My late husband was a CA and he always said we should not claim some of our home office expenses as it would create some sort of problem when we later sold the house. He died a decade ago and I am the furthest thing from a CA that there is!

Last year, my job changed and I now work at home full-time. My employer issued a T2200 for me to claim office supplies and other expenses. If I claim part of my heat, power and desk chair, will that trigger any problems in two years to come when I sell my house?

The Answer

Don’t worry about selling your home, you’ll be fine!

The fact is, as an employee, you can claim only certain specific expenses as required by law, and those are subject to some very strict conditions. Your employer must require you to work at home. Thus, the requirement for the T2200 form.

In order to claim part of your home expenses, you must meet one of the following two conditions:

  • The work space is where you mainly (more than 50% of the time) do your work.
  • You use the work space only to earn your employment income. You also have to use it on a regular and continuous basis for meeting clients or customers.

You can deduct the part of your costs that relates to your work space, such as the cost of electricity, heating and maintenance. However, as an employee, you cannot deduct mortgage interest, property taxes, insurance or capital cost allowance (depreciation).

To calculate the percentage of work-space-in-the-home expenses you can deduct, use a reasonable basis, such as the area of the work space divided by the total area.

If you need more information on deductions of home expenses or other employment expenses you can claim, you will find it at the CRA website.

Now, back to your late husband and his concerns. The rules on home office expenses are different for self-employed people. They can claim a portion of taxes, insurance, mortgage interest and depreciation (CCA) in the calculation of their self-employed earnings. However, if they choose to claim CCA, they will likely suffer in the end when the house is sold, since it will not completely be eligible for tax-free treatment as a principal residence. That’s what he was worried about and that’s why most self-employed people are advised not to claim CCA on their homes.

The Corporate Beneficiary

The brain is a wonderful organ. It starts working the moment you get up  in the morning and does not stop until you get into the office.     –Robert Frost

Despite the limitations placed upon it by recent legislation and unfavourable court rulings, the family trust remains alive and thriving more than ever. More and more taxpayers are beginning to appreciate the tax saving possibilities of income-splitting.

The discretionary family trust generally provides for maximum flexibility with respect to income splitting. The trustee has the power to allocate income or capital of the trust to the beneficiary of his choice.

In a simple structure, a trust is created, with children and/or a spouse as beneficiaries. The trust owns shares of an operating company (“Opco”) which pays annual dividends to the trust. The dividends are then distributed to the beneficiaries and taxed at their graduating marginal rates.

One interesting spin on the family trust is to add a corporation to the list of trust beneficiaries. This option, although it involves more legal and accounting costs, provides even more flexibility and advantages to the common family trust.

In an income splitting situation, it may not be desirable to pay more dividends to the beneficiaries than they require. If Opco has high retained earnings, its directors may find such a limitation restraining.

Adding a holding company (“Holdco”) to the list of beneficiaries wipes out this limitation. Opco could pay a large dividend to the trust. The trustee would allocate a portion of the dividend to the individual beneficiaries, and the excess would be assigned to Holdco.

A dividend paid by one corporation to a connected company is non-taxable. However, since Holdco does not own any shares directly in Opco, care would have to be exercised to ensure that the two companies were technically connected for tax purposes. Generally, this could be accomplished if Opco and Holdco were controlled by persons who do not deal at arm’s length with each other.

Where Opco generates high levels of cash, the ability to pay dividends in this manner provides certain advantages. First, it allows protection from creditors in that cash may easily be moved out through dividends and away from potential claims.

Where individual beneficiaries have not claimed their capital gains exemption, this structure provides an easy means of having the company qualify as a small business corporation by paying excess “non business” cash out as a dividend.

Sometimes, the implementation of a family trust involves an estate freeze. In such a case, corporate attribution rules may apply to assign deemed dividends to the value of preferred shares issued to a parent as part of the freeze. One exception to this rule is to ensure Opco remains a small business corporation throughout the year. The ability to pay unlimited dividends to the trust on an ongoing basis would allow Opco to retain its small business corporation status so the exception. applies.

Finally, if the trust is wound up, it may be possible to distribute the Opco shares to Holdco free of tax, thereby eliminating the need to give up eventual ownership of the shares to children.

Of course, before implementing any such complex structure, care should be taken to ensure that all legal requirements are met, and that the tax advantages are worth the added costs

Support Payments Redux

So you’ve split up with your significant other, and you’re forced to make support payments. The first thing you’ll be asking me is, “are they deductible?” Well, just like your relationship, it’s complicated. That’s what The Tax Issue is here for.

There are two basic requirements before you even consider taking a deduction. First, the payments must be based on a written agreement or a court order. Second, they must be periodic payments. Lump sums or payments based on a mutual, non written understanding are not deductible.

Once you’ve passed these hurdles the rules are different depending on when your agreement or court order was signed. We’ll tackle them one at a time, but before we do, you should be aware of one more thing: any amount that is deductible to the payer is also taxable to recipient.

Written Agreement or Court Order After April 1997

If your document is dated after April, 1997, only payments made in support of your spouse (or common law partner) are deductible. Child support is not.

Your agreement must clearly specify which payments are exclusively for spousal support. If no mention is made of the purpose of the payments, they are deemed to be for child support and are not deductible.

Payments made to a third party qualify as long as they are for the benefit of your spouse and he or she has control over them. For example, if a court order specifies that payments are to be made to a landlord for your spouse’s rent, it must also be made clear that your spouse may at any time have those payments made to her instead if he or she so desires.

If you qualify for a deduction under the above rules, you must register your agreement or court order with the CRA by filing form T1158.

Written Agreement or Court Order After April 1997

If your document is dated prior to May, 1997, then payments for spousal support and child support are deductible.

However, if the agreement was amended after April, 1997 and the amount of child support payments is modified, then you fall into the new rules, and they will no longer be deductible.

You can also choose, if your spouse agrees, to have the new rules apply to make the payments non-deductible (and non-taxable to the recipient) by filing an election on Form T1157.

Those are the basic rules. If you need more information, try the CRA guide P102. That should answer most of your questions.