DAVID WILKENFELD, CPA, CA, canadian tax CONSULTANT

Posts Tagged ‘CCA’

What’s Your Tax Issue? 69 Problems

In Canadian Income Tax on August 24, 2011 at 9:56 am

The Tax Issue:

As we speak, I’m studying for my corporate tax midterm and my teacher has told me something that doesn’t make much sense.

According to section 69, if a transaction with a non arms length person occurs at below fair market value (FMV), the adjusted cost base (ACB) to the purchaser will be the actual amount paid.

OK, fine.

Then, under subparagraph 13 (7)(e)(iii), the undepreciated capital cost (UCC) to the purchaser will be the FMV and the cost base will be the same ACB of the vendor, the difference between the two being deemed capital cost allowance (CCA)…

Say what?

Here’s an example of a building:

Capital cost to vendor: $325
FMV: $200
Actual sale price: $180.

Under section 69, the ACB of the purchaser will be $180; OK fine.

Now, under section 13 (7)(e)(iii), the UCC will be $200 with a capital cost of $325, the $125 being deemed CCA…

Don’t these provisions contradict themselves?

The Answer:

Since you are studying for your midterm, I’ll try to answer quickly.

Section 69 has been discussed in a previous post. It makes only a one-way adjustment to the proceeds to the seller in a non-arm’s length sale below FMV. It remains silent on the consequences to the purchaser. In a normal case of non-depreciable property, therefore, the cost to the purchaser remains the price paid as you have stated.

However, special rules for the purchaser kick in when he has purchased depreciable property. Subparagraph 13(7)(e)(iii) is there to ensure that a non-arm’s length purchaser does not turn a future recapture of depreciation (fully taxable) into a capital gain (half taxable).

First of all, if you read the preamble in paragraph 13(7)(e) it applies “notwithstanding any other provision of the Act”, so it overrides section 69.

Next, it doesn’t change the cost of the property to the purchaser, it simply designates it as UCC, and tacks the seller’s original capital cost on top so that a future sale triggers a recapture of depreciation to the extent that the original vendor would have a recapture, thus preserving the original tax treatment of capital cost.

In your example, the UCC will be the actual cost to the purchaser, being $180. This is true under both section 69 or under 13(7(e)(iii). The effect of 13(7)(e)(iii) is to deem the capital cost to be $325, so if the property is eventually sold for, say $400, there will be a recapture of $145 (325-180), which is fully taxable and a capital gain of only $75 (400-325), which is 50% taxable.

Good luck on your mid-term!!

New Rates for New Buildings

In Canadian Income Tax, Capital Cost Allowance, Uncategorized on February 28, 2010 at 12:53 pm

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.

Building Use

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.

Conclusion

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.

The iPhone – Is There An App for CRA?

In Business Expenses, Canadian Income Tax on February 15, 2010 at 12:45 pm

This bit of news comes at a very opportune time for me personally as I teeter on the precipice of purchasing my very own iPhone (or Blackberry, or Zune, or iPod Touch – don’t ask!).

The CRA was asked whether an Apple iPhone is considered depreciable property falling into the same class as general purpose computers.

The iPhone: Yes! It's a computer!

Schedule II of the Income Tax Regulations lists the various classes of depreciable capital property and the applicable rates of CCA. “General-purpose electronic data processing equipment” (i.e., laptops and computers) acquired after March 18, 2007, is included in Class 50 (55% CCA rate) and if it is acquired after January 29, 2009 and before February 2011, subject to certain other conditions, it is included in Class 52 (100% CCA rate).

“General-purpose electronic data processing equipment” is defined as electronic equipment that requires an internally stored computer program that (i) is executed by the equipment, (ii) can be altered by the user, (iii) instructs the equipment that to perform certain functions, and (iv) depends on the data processed to determine the sequence of its execution.

In the CRA’s view, an Apple iPhone would qualify as general-purpose electronic data processing equipment.

Of course, the CRA took the time to caution that only the portion of the cost of the iPhone that is used for the purpose of gaining and producing income would qualify for CCA. This means I have to keep track of all the time I will spend playing PacMan, listening to Lady Ga Ga, taking videos of natural disasters as they occur, Googling myself, chatting with my wife, my kids, my mom and my bookie, then add up this time, divide by the total time I use the iPhone and multiply the result by the total cost of the iPhone and add that amount to the appropriate CCA class (and apply the half-year rule) – and I must do it all on the day I buy the iPhone! Hopefully, there’s an App for that!