TAX Flashcards
What are the filing deadlines for
individuals and corporations and what are
the implications of not filing by the
deadline?
• Individuals must file on a calendar year basis and returns are due for most
individuals on April 30th
• Returns for self employed individuals (self proprietors earning business
income) are due on June 15th
• Corporations must file within 6 months of the fiscal year-end (which
can be chosen by the taxpayer and once selected can’t be changed without
CRA’s permission)
‒ Note that taxes owing must be paid within 2 months (3 months for CCPC
with less than $500K of income) of year-end or interest will be begin to
apply
‒ Corporations with taxes owning above a certain limit have to pay
installments throughout the year
• Penalty for not filing by the deadline is 5% of the unpaid tax plus 1%
of the unpaid tax for each full month the return is late (penalty can
be doubled for repeat offenders)
What are the basic steps in a taxes
payable calculation?
Net income for tax purposes* (NIFTP):
Employment income including taxable benefits (individuals only)
Business and property income (or loss)
Capital gain/loss
Other income
Division C deductions:
Loss carry forwards
Other deductions (See other Q&A’s on specific deductions for individuals and corporations)
Taxable income (NIFTP less division C deductions)
Taxes payable (Taxable income multiplied by applicable rate)
Tax credits (See other Q&A’s on specific credits for individuals and corporations)
Net Taxes Payable (Taxes payable less tax credits)
*Note the for corporations you will usually start with net income for accounting purposes and make various
adjustments to arrive at net income for tax purposes (the starting point above). See Q&A on common
differences between income for accounting vs. tax purposes
What is meant by tax integration and how
is it achieved?
• Integration is the term used to describe the principle that earning a
particular type of income should result in the same overall taxes payable
regardless of the organizational form or legal structure of the business
(e.g. individual, corporation, partnership)
• For example business income earned in a corporation and then paid to an
individual through a dividend should result in the same total taxes paid
(corporate level + personal level) as if the income had been earned by the
individual directly
• Examples of mechanisms used to achieve integrate are the dividend gross
up and tax credit and the small business deduction
What is the definition of a related person
for tax purposes (where person can refer
to an individual, trust or corporation)?
• Individual connected by blood relationship (immediate family), marriage,
or adoption
• Aunts, uncles, nieces, nephews, cousins are not related for tax purposes
• A corporation and the person (or related group of persons) that controls
the corporation
• Any two corporations that are controlled by the same person (or group of
related persons)
• If two corporations that wouldn’t otherwise be related are both related to a
third corporation they are also deemed to be related to each other
Related party transactions must be recorded at fair market value for tax purposes. What are the implications if CRA determines the transaction not to be at fair value?
• Double taxation will result if CRA subsequently reassess the fair value of
the transaction
• CRA will force the seller to recognize the gain as if the transaction took
place at fair value but:
‒ the related party who acquired the property will acquire it at the actual
transfer amount (which was less than fair value) resulting in less CCA
and/or them being taxed on the appreciation when the sell it
‒ Therefore both the seller and purchaser will pay tax on the same
appreciation
• Note that the amount that can be added to the UCC of the class by the
purchaser is limited to the capital cost immediately before the transaction
plus the taxable portion of the gain triggered
What is the definition of an affiliated
person?
• Spouses
• A corporation and the person (or group of affiliated persons) that controls
the corporation (the person’s spouse or spouses of the group of affiliated
persons are also affiliated with the corporation)
• Any two corporations where the person (or affiliated group of persons) that
controls one corporation is affiliated with the person (or affiliated group of
persons) that controls the other corporation
What is a superficial loss and when does it
apply?
• Applies to deny the loss when a taxpayer sells property at a
loss in certain situations
• Denied loss may be either a terminal loss (depreciable
property) or capital loss
• Tax payers who dispose of an asset and they or an affiliated
person buy back an identical asset within 30 days are not
allowed to claim the loss
• Tax payers who dispose of an asset at a loss to an affiliated
person are not allowed to claim the loss (terminal loss and
capital loss are both denied)
What happens to a loss that is denied as a
result of the superficial loss rules?
• Depends on whether the denied loss is a terminal loss or capital loss
and on whether the taxpayer is an individual or corporation
• Denied terminal losses of all taxpayers can be kept in the CCA
account and depreciation can continue to be taken until the asset is
sold to a non-affiliated person (this is an exception to the rule that
you have to own an asset to claim CCA on it)
• Denied capital losses of individuals (not corporations) is added to
the ACB of the asset now owned by the affiliated purchaser (so they
will pay less tax on eventual disposition)
• Denied capital losses of corporations, partnerships and trusts
are not added to the ACB of the purchaser but instead remain with
the taxpayer but can be used when the asset is eventually sold to a
non-affiliated purchaser
What is GAAR (General Anti-Avoidance
Rule) and when does it apply?
• Purpose is to prevent overly aggressive tax planning
• Can deny the tax benefit resulting from tax planning transaction if all of
the following conditions are met:
‒ The transaction (or series of transactions) resulted in a benefit
‒ Transaction was undertaken mainly for the benefit of the tax benefit and
not for other non-tax purposes
‒ The transaction results in a misuse of a section of the Act or and abuse
of the Act as a whole
What is Alternative Minimum Tax (AMT) and
how is it calculated?
• AMT is directed at individuals with a high level of income/wealth who take
advantage of tax shelters and other “tax preference” items to substantially
reduce or eliminate the amount of tax paid
• A $40,000 exemption is allowed in calculating AMT, after which a flat rate
of 15 percent is applied to the remaining net adjusted taxable income
• The resulting Tax Payable is reduced by some (not all) of the individual’s
regular tax credits to arrive at a minimum tax
• The taxpayer must pay the greater of the regular Tax Payable and the AMT
What are tax treaties and when do they
apply?
‒ Tax treaties are agreements between countries outlining which country
has the right to tax which sources of income
‒ They apply (and should be consulted) when taxpayers are resident in
more than one country
‒ Intent is to avoid taxpayers paying tax in multiple countries on the same
income
What are foreign tax credits (FTCs)?
• Since Canadian residents are required to include their worldwide income in
their net income for tax purposes, a foreign tax credit can be claimed for
any foreign taxes already paid on foreign income
• Generally the credit is equal to the lesser of the actual foreign taxes paid
and the amount of Canadian tax that would be payable on that income
How are non-monetary transactions
treated for tax purposes?
• Non-monetary transactions are treated in the same way as
monetary transactions
• The taxpayers is considered to have paid/received the fair
market value of the goods/services
‒ For example, if a taxpayer sells an asset in exchange for
assets worth $1,000 he will be taxed in the same way as if
$1,000 in cash had been received
What are the carry forward/back periods
for tax losses?
• Non-capital losses can be carried back 3 taxation years and
carried forward 20 taxation and can be used to offset any type
of income (including employment income and capital gains)
• Net capital losses are allowable capital losses (1/2 of the
capital loss) and can be carried back 3 taxation years and
carried forward indefinitely to be used against taxable capital
gains only
How are partnerships taxed?
• Each partner includes their share of the partnership income in
their personal income (note that the partners can also be
corporations or other partnerships)
• In the event of a loss, each partner can claim the amount of
loss allocated to them, which can be used to offset other
income
• Interest paid on amounts borrowed to invest in the partnership
are deductible by the partner
What are the implications of a change
from a partnership to a corporation?
• Section 85 election can be filed to transfer the partnership’s assets into the corporation on a
tax-free basis (as long as share consideration is received in exchange for the assets
transferred)
‒ Election has to be made jointly by all partners within the specified time limit (or late
penalties will apply)
• The ACB of the shares received is the same as the ACB of the partnership interest exchanged
‒ Partnership ACB is equal to original investment less drawings plus any taxable income
allocated to partners since inception of the partnership
• Losses will no longer be allocated to each partner and be used to offset other income. Now
any losses can only be carried forward by the corporation
• Donations are not allocated to individual partners so only the corporation can deduct them
and only up to a specified maximum (see related Q&A)
• Dividends received by the partnership would have been allocated to each partner and
dividend tax credits would have been claimed. Dividends received by the corporation are taxed
in the corporation as applicable (see related Q&A)
• Partnership was not required to make installments however corporation will have to make
monthly installments based on prior year income
• For partnership amount of CCA to be claimed has to be agreed upon by each partner (could be
based on partner’s tax objectives). A corporation determines that amount of CCA to be taken.
How are joint ventures defined for tax purposes
and how are they taxed?
• A joint venture for tax purposes is an unincorporated joint venture (if a
joint venture is incorporated, the corporation would be a separate taxable
entity subject to all of the other corporate tax rules)
• The difference between a partnership and a joint venture for tax purposes
is generally that a partnership lasts indefinitely whereas a joint venture is
formed for specific project or purpose
• Since the joint venture is not a separate legal or taxable entity:
‒ Income or loss is reported by each member of the JV based on their
ownership percentage
‒ Each member of the JV continues to own and contributed assets and to
claim CCA on those assets
What is the definition of a Canadian
Controlled Private Corporation (CCPC)?
• A private corporation incorporated in Canada that is not controlled by: a) Non residents of Canada b) Public corporations c) Some combination of a) and b)
What is the definition of a small business
corporation (SBC)?
• Canadian Controlled Private Corporation (CCPC) with 90% or
more of the FMV of its assets:
a) Used principally (more than 50%) in an active business
carried on primarily (more than 50%) in Canada
b) Invested in shares or debt of a connected SBC
c) Some combination of a) and b)
What are the three tests that must be met
in order for shares to be QSBC (Qualified
Small Business Corporation) shares?
- Small Business Corporation (SBC) test
‒ At the time of the sale must be an SBC i.e. CCPC with 90%
of the FMV of assets used principally (50%) in active
business carried on primarily (50%) in Canada - Holding period test
‒ Shares were owned by the shareholder or a related
party for the entire 24 month period preceding the sale - Basic asset test
‒ For the 24 months preceding the sale at least 50% of
the FMV of assets are used in an active business carried
on in Canada
How are taxes payable calculated on the
sale of shares by an individual?
Proceeds of disposition XXX
less: ACB of shares (XXX)
Capital gain XXX
Taxable capital gain @ 50% XXX
Allowable Capital gains exemption* (division C deduction) (XXX)
Taxable income XXX
Tax rate XX%
Taxes Payable XXX
Lesser of the taxable capital gain on the sale of the QSBC shares and the
remaining capital gains exemption. Remaining exemption = $848,252K –
exemption previously claimed – ABIL previously claimed – CNIL
*$848,252 is the capital gains exemption for 2018
What is an allowable business investment
loss (ABIL)?
• 1⁄2 of the loss on disposition of shares or debt of a small
business corporation (SBC)
• Can be deducted against any source of income (whereas if it
were treated as a normal capital loss it would only be
deductible against capital gains)
• Can be carried back 3 years or forward 10 years (if not used in
that period it becomes an allowable capital loss)
• ABIL is reduced by the amount of any taxable capital gains
exemption used in the past (note that the taxable capital gains
exemption is 1⁄2 of the CG exemption i.e. max of $424,126 for
2018)
What is a cumulative net investment loss
(CNIL)?
• Sum of any deductions claimed from property income
and any property losses in excess of property income
What is paid up capital (PUC) and when is
it relevant?
• Computed at the corporate level (unlike ACB that is computed at the
shareholder level)
• Represents an amount that can be recovered tax-free
• When a company issues shares of it’s stock to a shareholder the
consideration paid for the shares is usually the PUC (and the share
capital for accounting purposes)
• Paid up capital can be received tax-free when:
‒ Shares of the corporation are redeemed
‒ There is a wind-up of the corporation
‒ As part of a PUC reduction
• If a taxpayer sells their shares PUC is not affected or relevant as
ACB is used to calculate the gain/loss
What is the capital dividend account (CDA)
and how does it work?
• Only private corporations have a CDA
• CDA is to ensure that tax-free items earned in a corporation
remain tax free when paid out of the corporation
• A dividend paid out of the CDA is tax-free to the shareholder
(an election must be filed to pay a capital dividend)
• Examples of tax free items (would be added to the CDA):
‒ Non-taxable portion of capital gains in excess of capital
losses
‒ Capital dividends received
‒ Non-taxable portion of gains on disposition of Eligible Capital
Property
‒ Tax-free life insurance proceeds received
What are the ways that an asset disposal
(including a deemed disposition) can be
triggered?
An Asset Disposal can be triggered by the following:
• Selling the asset
• Change in use of the asset (ex. you stop living in your home
and start renting it out, the asset has changed to a property
income generating property)
• Change in ownership of Asset – (ex. Mother gifting an asset
to her child. Mother deemed to dispose of at FMV triggering
gain/loss.)
What are the factors to consider when determining
whether a gain or loss is earned on account of income
(100% taxable/deductible as business income) or
capital (50% taxable/deductible as a capital gain)?
• Treatment depends on the taxpayer’s primary and secondary intentions
in regards to the disposed asset
• If the taxpayer intended to resell it at a profit like inventory it would
be treated as income
• If the taxpayer intended to earn income from using/owing the asset
as a capital asset it would be treated as a capital gain
• Factors to consider in determining the taxpayer’s intention:
‒ The nature of the asset (is it typically a capital asset or inventory)?
‒ Whether it is a type of asset that the taxpayer normally sells as part of their
business activities
‒ The taxpayer’s behavior
• It is possible for the taxpayer to have the intention to use the asset as a
capital asset but also have the secondary intention to sell the asset at a
gain if the original intention can’t e fulfilled. This would result in the
transaction being considered on account of income
What are the special rules for replacement
property?
• Replacement property rules allow taxpayers to defer recapture and
capital gains on disposition if:
‒ The disposition is involuntary (e.g. fire, expropriation of land)
and the property is replaced within two years after the year-
end of disposition
‒ A business is voluntarily relocating land and building and
property is replaced within 1 year after the year-end of
disposition
• In order to defer the entire gain the new property must cost at least
as much as the proceeds from the old property– every dollar not
spent = $1 capital gain
• The amount of the deferred recapture/capital gain on the old
property is deducted from UCC/ACB of new property respectively
What criteria have to be met in order for a
newly acquired property to classify as a
replacement property
• The property was acquired by the taxpayer to replace the
former property
• The property acquired will be used in the same or similar
business as the former property by the taxpayer or a related
person
• If the former property was taxable Canadian property, the new
property must also be taxable Canadian property
When can a capital gains reserve be
claimed and how is it calculated?
• If some or all of the proceeds are not received in the year of
sale, then the taxpayer can claim a reserve equal to the lesser
of:
‒ [Proceeds yet to be received / Total proceeds] x Capital
gain; and
‒ 4/5 of the capital gain in year 1; 3/5 of the capital gain in
year 2; 2/5 of the capital gain in year 3 and 1/5 of the
capital gain in year 4 (at least 1/5 of the capital gain must
be included in income in each year over a 5 year period)
When assets such a land and building are sold
together, how are the proceeds allocated for
tax purposes?
• Normally proceeds would be allocated based on fair values
• A special rule applies to the disposition of real property (land and building)
• The proceeds of the building are deemed to be the lesser of (1) and (2):
(1) Fair market value of the land reduced by the lesser of (a) and (b):
(a) ACB of the land
(b) FMV of the land
(2) The greater of (c) and (d):
(c) The FMV of the building
(d) The lesser of the cost and UCC of the building
What is the identical property rule for
calculating capital gains?
• The calculation of a capital gain or loss is normally done on a property-by-
property basis
• There are special rules for calculating the ACB of properties where a group
of “identical properties” is owned (for example a block of a particular class
of shares of a corporation)
• The ACB of each identical property is to be calculated on a weighted-
average cost basis
What are the special rules regarding CCA
on rental properties (see corporate tax
section for other Q&A’s on CCA)?
• Each rental property costing more that $50K must be put in a
separate CCA class (a terminal loss or capture will therefore
result after each property is sold)
• CCA cannot be claimed if it creates or increases a loss from all
rental properties i.e. CCA is restricted to the total amount of
rental income (before CCA) from all rental properties owned by
the taxpayer
What are the tax implications if a taxpayer
changes the use of an asset from personal to
income earning or vise versa e.g. they start
renting out a portion of their house that was
previously for personal use?
• There is a deemed disposition at fair market value at the
time of the change in use (prorated for the affected portion of
the asset such as when only one room in a house is to be
rented)
• The new ACB of the asset that has changed uses is the lesser
of:
‒ The FMV at the time of the change in use
‒ The original ACB plus the taxable portion of the gain on the
deemed disposition
What expenses (other than CCA) are deductible in computing rental income for tax purposes?
• Any reasonable expenses incurred in operating the property
including:
‒ Insurance
‒ property taxes
‒ mortgage interest
‒ Utilities
‒ Repairs (may need to consider whether they are capital in nature)
‒ Advertising for tenants
‒ Interest on funds borrowed to make a down payment on the
property
• If only a portion of the building is being rented the above expenses
would be prorated in proportion to square footage
• Note that CRA can deny a loss on a rental property if they determine
that there is no reasonable expectation of making a profit from the
investment e.g. after several consecutive years of losses
What are the factors/criteria to be
considered in determining whether an
individual is an employee or contractor?
- Economic Reality/Entrepreneur Test – the nature of the relationship between
the person doing the work and the person that work is being done for. This test
separately considers three sub tests:
• Control – who is determining how the work is getting done and what is to be
done?
• Ownership of Tools – who is incurring cost for supplies to complete work? Does
taxpayer doing the work provide and use their own tools to complete the work or
does the person paying for the work provide the tools/supplies?
• Chance of Profit/Risk of Loss - is the taxpayer doing the work responsible for
covering own operating costs/cost overruns? Will person doing work receive a
fixed amount despite what happens during work, or is there a risk of a higher or
lower amount being earned if certain things happen as work progresses? - Integration/Organization Test – is this person doing the work economically
dependent on the organization they are doing the work for?
‒ How much of the person’s income is dependent on work from this organization?
‒ Does the person doing the work have available to them the benefits that
employees or the organization have available to them? - Specific Result Test – is there a specific end deliverable that the person doing
the work has agreed to provide or are they provide more ongoing type services?
What are the implications of being treated
as an employee vs. an independent
contractor?
• If employed income will be employment income
• If self-employed income will be considered business income which is
usually preferable because:
‒ More deductions are available (see Q&A on deductions from
business income)
‒ No source deductions (quarterly installments must be made
instead)
‒ Employer is not responsible for payroll taxes (CPP, EI, EHT,
Workers Compensation)
• If considered self employed, the contractor may have to collect and
remit HST
• If CRA reassesses and concludes the individual is an employee,
penalties and interest will apply on payroll tax remittances that
should gave been made
Who is required to register for GST/HST and
what is required of registrants?
• Registration is mandatory for businesses that have worldwide taxable
supplies of goods and services (i.e. revenue) in excess of $30,000 for a
single calendar quarter or over four consecutive calendar quarters
• Businesses not required to register may still choose to register
• If you are a GST/HST registrant, you generally have to charge and collect
the GST/HST on taxable supplies (other than zero-rated supplies) you
make in Canada and file regular GST/HST returns to report and remit that
tax
• Generally, GST/HST incurred on expenditures made by the business can be
recovered by claiming and Input Tax Credit (ITC) on the GST/HST return
(the amount remitted would then be the net of the GST/HST collected less
the ITC amounts
What are the general rules (where no specific
rule exists) for determination of business
income including deductibility of expenses?
• Generally business and property income (profit) is calculated on an
accrual basis and as a general rule (where no other specific rule applies)
expenditures are deductible if they are incurred in order to earn
income
• In an exam situation if you can’t remember the specific rule think about:
1. Whether the expenditure was incurred in order to earn income
2. Whether it is a current expenditure or a capital expenditure (will
provide benefit for more than one year)
3. It is reasonable in the circumstances
• Current expenditures incurred to earn income are usually deductible in the
current year and capital expenditures are usually deductible over time (see
Q&As on CCA)
• Expenses that are not reasonable under the circumstances are not
deductible e.g. unreasonable salary
What is the basic structure of a corporate
taxes payable calculation?
Calculation Steps: Net income per F/S \_\_\_\_\_\_ Add/subtract Accounting/Tax differences Income for Tax Purposes \_\_\_\_\_\_ Subtract Division C deductions Taxable income \_\_\_\_\_\_ Multiple by Tax rate Taxes Payable \_\_\_\_\_\_
Division C deductions are deducted from
Income for Tax Purposes to arrive at
Taxable Income. What are the most
common Division C deductions?
- Taxable Canadian Dividends
- Charitable Donations
- Loss Carryforwards
What are some common differences
between net income for financial
accounting purposes and net income for
tax purposes?
- Amortization
- Reserves and contingencies (warranties, lawsuits, severance etc.)
- Gains and losses on sale of assets
- Meals and Entertainment
- Write-down of assets
- Employee vehicle costs
- Interest and penalties on tax assessments
- Related party transactions
- Stock Options
- Club membership dues
- Donations (political and charitable)
- Unreasonable expenses and personal expenses including travel
- Accrued bonus still unpaid 180 days after year-end
- Financing costs
- Leasehold inducements
- Financing costs
- SR&ED
What is included in the cost of tangible
capital assets for tax purposes?
• All costs incurred to acquire the asset including taxes,
transportation, legal fees etc. (similar to accounting rules) are
included in the cost of the asset
• “Soft” costs incurred during construction of a building
including interest, property taxes and insurance are included
in the cost of the asset (not deducted in the year incurred)
• Subsequent expenditures that extend the life or enhance the
usefulness of the asset (betterments) are added to the
cost/UCC balance
• Repairs and maintenance, landscaping, and disability
modifications are not included in the cost of the asset but are
expensed as incurred for tax purposes
How is CCA calculated on capital and
intangible assets and where can I find the
CCA rates?
• Taxpayers can claim Capital Cost Allowance (CCA) on capital and intangible
assets used to earn business or property income (and employment income
in the specific case of employee autos)
• CCA can be claimed up to a maximum based on the asset class CCA rate
which is in Schedule II of regulations (taxpayer can claim less than the
maximum although usually beneficial to claim maximum oven when in a
loss position because it increases the loss that can be carried
back/forward)
• CCA = rate*ending UCC balance
• Most classes are subject to the half-net rule i.e. only 1⁄2 of the normal CCA
can be claimed in the year of purchase
• Only 1⁄2 of the net additions (additions – disposals) is added to the UCC
balance to calculate that year’s CCA (if disposals > additions the half net
rule doesn’t apply to that class)
• Half net rule does not apply to non-arms length transactions if the seller
held the asset for more than 364 days
• CCA begins when the asset is ready for use
How are the recapture, terminal loss and
capital gain calculated when a capital asset
is disposed of?
• If an asset is disposed of it is removed from the UCC of the CCA
asset class (the lesser of original cost and proceeds of disposition is
subtracted from the UCC)
• If the UCC balance is negative the negative amount is brought
into income as recapture
• If the UCC balance is positive but no assets remain in the CCA
asset class then the positive balance can be claimed as a terminal
loss (if assets still remain in the class there cannot be a terminal
loss)
• Terminal loss can be deducted against business or property income
• If the proceeds of disposition are greater than the original cost, the
excess of proceeds over original cost will be a capital gain
• There cannot be a capital loss on depreciable property
What are the common CCA class numbers and descriptions*?
*Note that rates for common classes (but not the descriptions)
can be found in the information attached to the back of the
exam so it is helpful to know the descriptions of the common
class numbers.
Class # Description
Class #1 Buildings acquired after 1987
Class #3 Buildings acquired before 1988
Class #8 Most furniture, equipment and tools costing $500 or more
Class #10 Automobiles and computer equipment
Class #10.1 Each employee vehicle costing more than $30K + tax is put in a separate class
10.1 (Only 30K + tax can be added for each vehicle and there is no recapture or
terminal loss on class 10.1)
Class #12 Software and tools costing less than $500
Class #13 Leasehold improvements
Class #14 Certain intangible assets such as patents, franchises and licenses with a limited life
Class 14.1 Other intangible assets
Class #29/43 Manufacturing and processing equipment (class 29 is a special class for
equipment purchased on or after March 19, 2007 and before 2014 that
taxpayers can elect to have assets put into – class 29 is straight line over 2
years – half net rule applies)
Class #44 Patents acquired after April 26, 1993
98
How are leases treated for tax purposes?
• Leases are always treated as operating for tax
purposes (they are never capitalized) i.e. only the
lease payments actually made during the year are
deductible for tax purposes
How are financing costs including legal,
accounting, investment banking and other
expenses related to borrowing money or issuing
shares treated for tax purposes?
• Deductible on a straight line basis over 5 years
How is a stock option treated for tax
purposes by the corporation issuing the
stock option?
Stock option expense is never deductible for tax purposes
because it does not result in a cash outflow therefore any
expense recognized for accounting purposes must be added
back for tax purposes
How are decreases in the value of assets
(write-downs or write-offs) treated for tax
purposes?
• Generally assets must continue to be amortized at the
appropriate CCA rate for tax purposes even if they have been
written down or written off for accounting purposes
• Any additional write-downs recorded for accounting purposes
should be added back in calculating income for tax purposes
How are reserves and contingencies such
as warranties and lawsuits treated for tax
purposes?
• Deductions for reserves generally are not permitted except for
those that are specifically allowed. Therefore expenses related
to warranties or lawsuits are only deductible in the year that
they are actually paid
Which reserves are specifically allowed for
tax purposes?
• Allowance for bad debts • Allowance for estimated returns • Unearned revenue • Allowance for inventory obsolescence • The accounting and tax treatments for the above items will typically be the same
How is the cost of providing vehicles to
employees treated (by the corporation) for
tax purposes?
• There is a maximum amount per employee vehicle that is
deductible by the corporation for tax purposes (in regulation
7306)
‒ $800+HST/month for lease
‒ $30,000+HST for purchased vehicle (this in the limit on the
capital cost on which CCA can be taken)
• Excess amount is not deductible for tax purposes unless it is
included in the employee’s income
What are the rules for deductibility of
meals and entertainment and club
membership dues?
• Meals and entertainment are generally 50% deductible
except for a special event where all employees can attend
(e.g. a staff party) which is 100% deductible (maximum of 6
such events in a year)
• Membership fees, club dues and maintenance fees related to
the use of a yacht, golf course, camp, lodge, or a recreational
or sporting facility are not deductible for tax purposes
How are donations (political and
charitable) by a corporation treated for tax
purposes?
• Charitable donations are deductible in the computation of
taxable income (division C deduction)
• Limited to 75% of corporation’s net income for tax purposes
(any excess can be carried forward 5 years)
• If property other than cash is donated the deduction is equal
to the fair market value of the property (the donation would
also result in a disposition that may result in capital gains or
recapture)
• Corporations can no longer make federal political contributions
• Other political contributions can receive a tax credit (provincial
contributions are only eligible for a provincial credit but not a
federal credit)
What are the rules with respect to
deductibility of convention expenses?
• Deduction for convention expenses is limited to 2 per year and must be
must be held at a location consistent with the territorial scope of
the organization (could be some room for judgement here to argue
both sides)
• Meals and entertainment component is only 50% deductible
How are interest, penalties and legal fees
related to tax assessments treated for tax
purposes?
• Interest, penalties and interest on penalties are not deductible
for tax purposes and therefore must be added back in
calculating income for tax purposes
• Legal fees related to an objection or appeal of a CRA
assessment are deductible
What is an investment tax credit?
• Investments in qualified SR&ED (Scientific Research and
Development) are eligible for an investment tax credit
• An ITC is also available for business that develop licensed child
care spaces
• Generally a 35% credit for CCPC (up to $3M* limit) and
15% credit for non CCPC
• Any ITC received will reduce the amount of the expenditure
that can be deducted from income
*limit must be shared with associated corporations and is reduced
when income is over certain thresholds
What are the rules regarding deductibility
of accrued salaries and bonuses?
• Accrued salary or bonus must be paid within 180 days after
the year-end in order for it to be deductible in the year it was
accrued
• If it is not paid with 180 days it will not be deductible until the
year it is actually paid
Associated companies have to share the small
business deduction limit and the SR&ED
expenditure limit. What is the definition of an
associated corporation?
• One of the companies directly or indirectly controls the other
‒ Example of indirect control is owning a company that
controls another company (all three companies would be
associated) e.g. A controls B and B controls C means that A
indirectly controls C
• Both companies are controlled directly or indirectly by the
same person or group of persons (note that the group of
persons does not have to be related)
• Each company is controlled directly or indirectly by a person,
the persons are related, and one of the persons owns more
than 25% of both corporations (cross ownership test)
What is the definition of a connected
corporation?
• Two companies are connected if one company controls the
other or if one company owns more than 10% of the other
company based on either voting rights or fair market value
What is the small business deduction and
what corporations are eligible for it?
• Results in a federal tax rate of 10.5%
• Applies to Canadian Active Business Income earned by a CCPC
• Annual limit of $500K
• Must be shared amongst associated corporations
• If taxable capital employed in Canada (together with
associated corporations) is over $10M there is a reduction of
the SBD up to taxable capital of $15M after which point there
is no SBD (from $10M to $15M the SBD reduces to zero on a
straight-line basis)
What is the definition of active business
income and active business assets?
• Active business assets are assets that are used to earn active
business income
• Active business income is any business income except for
income from a Specified Investment Business or Personal
Services Business
What is a Specified Investment Business
(SIB) and Personal Services Business
(PSB)?
• A SIB is a business that does not have more than 5 full time
employees and whose principal purpose is to earn income from
property
• A PSB is a business that does not have more than 5 full-time
employees and provides services that meet the following tests:
‒ The services are provided by a person that is a specified
shareholder (together with related persons owns 10% or more of
the corporation)
‒ That person, if the corporation did not exist would be considered
an employee (see question on employee vs. contractor factors)
• Note that having 5 full-time employees plus some part-time
employees counts as having more than 5 full-time employees
How are dividends received by
corporations taxed?
• Taxable dividends received from Canadian corporations are
allowed as a division C deduction when computing taxable
income
• Taxable dividends are generally all dividends except capital
dividends (addressed in another Q&A)
When is a corporation resident in Canada
for tax purposes?
• A corporation is resident in Canada if:
‒ It was incorporated in Canada
‒ It was not incorporated in Canada but the central
management and control of the corporation takes place in
Canada
What are the implications of losing CCPC
status, for example if a CCPC is acquired
by a public or foreign company?
• No longer eligible for small business deduction
• No longer eligible for capital gains exemption
• Loss of the CDA (capital dividend account) - any balances
remaining at the date of acquisition would be lost and
therefore should be paid out prior to the acquisition (this is a
good planning point)
• Loss of RDTOH account – any balances remaining at
acquisition will be lost therefore a dividend should be declared
prior to the acquisition large enough to use up the remaining
balance (good planning point)
What are refundable taxes?
• Additional taxes on investment/property income that apply to
private corporations only
• Meant to increase the tax cost of earning investment income in
a corporation and are partially refunded when the corporation
pays a taxable dividend (dividend other than a capital
dividend) to its shareholders
• Additional Refundable tax (ART) (CCPC’s only)
• Refundable Part I tax (CCPC’s only)
• Refundable part IV tax (All private corporations)
What is the refundable dividend tax on
hand (RDTOH) account and how does it
work?
• 262/3% of the aggregate investment income of a CCPC is
refundable
• All refundable taxes are added to the RDTOH account to keep
track of the refundable taxes paid
• RDTOH account can be carried forward indefinitely
• When the corporation pays a taxable dividend it will get a
dividend refund, which reduces the RDTOH balance, equal to
the lesser of 1/3 of the taxable dividend and the balance in the
RDTOH account
How are dividends received by individuals
from Canadian corporations taxed?
• Dividends received from public corporations or from the income of a CCPC that was
not subject to the small business deduction and is not investment income are called
“eligible dividends”
• Eligible dividends are “grossed up” by 1.38 (the dividend is multiplied by 1.38 and
that amount is included in income) and a federal tax credit of 6/11 of the gross up
is allowed (provincial credit is expected to be approximately 5/11 of gross up so that
the total of both provincial and federal credits is equal to the gross up)
‒ Note that a tax credit is a dollar for dollar reduction of the tax liability e.g a tax
credit of $1 reduced taxes payable by $1 (as opposed to a reduction of taxable
income where the actual tax savings is dependent on the tax rate)
• Dividends received from CCPCs from income subject to the small business deduction
or form investment income are grossed up by 1.17 and a federal tax credit of 21/29
of the gross up is allowed (provincial credit would be approximately 8/29 of gross
up)
• Note that the tax gross up and credit procedure applies only when an individual (not
a corporation) receives the dividend AND the dividend is received from a Canadian
resident corporation (dividends received by individuals from non-resident
corporations are fully taxed)
How are shareholder loans treated for tax
purposes?
• The principal amount of the loan will be included in the
shareholders income in the year the loan is made unless:
‒ Loan is repaid within one year from the end of the
company’s fiscal year in which the debt arose as long
as it is not part of a series of loans and repayments
• For example if a Corporation has December 31 year end a loan
made on Jan 1 2018 would have to be repaid by December 31,
2019.
‒ It is one of the exceptions (see next question)
• There will be an imputed interest benefit on loans not included
in income
What are the exceptions to the general
shareholder loan rules for a shareholder
that is also an employee?
The loan principal does NOT have to be included in income if all three of
the following are met:
1. Loan was made to shareholder by virtue of employment and not
shareholding (consider whether other employees of a similar rank
would be eligible for similar loans)
2. The loan was made to an employee that is not a specified shareholder
OR if loan is made to a specified shareholder (together with related
persons owns at least 10% of shares or is not at arms length with
employer) it must be to acquire:
• A house to live in
• Unissued stock of the company or a related company
• Motor vehicle for employment use
3. Bona fide repayment arrangements made for payment within a
reasonable timeframe
*Note that if the loan principal is NOT included in income, imputed
interest will apply
How are low-interest or interest-free
employee loans treated?
• Taxable benefit that can be provided by an employer to an employee
• Benefit is the interest savings calculated based on the CRA quarterly
prescribed rate prorated for the number of days the loan was
outstanding (imputed interest)
• Prescribed rates can be found in the Tax Information at the back of the
exam paper
• Any interest benefit included in income is deemed to be interest paid
and so may be deductible if it was incurred to earn income e.g. to
purchase investments (same rules as for interest actually paid)
What are the exceptions to the general
employee loan treatment when the loan
is to purchase a house to live in ?
• Special rules apply when the loan is to purchase a dwelling (house
to live in)
• Interest benefit is the lessor of the rate calculated based on
the prescribed quarterly rate and the rate calculated using
the prescribed rate in effect when the loan was granted (that
rate is re-set every 5 years)
• If the loan was to purchase a new dwelling at least 40KM
closer to the employees workplace (home relocation loan)
the employee can claim a division C deduction for the
amount of the interest benefit on an amount of loan up to
$25,000 (basically there is no interest benefit on the first
$25,000)
How is the imputed interest benefit
calculated on a shareholder loan or an
employee low interest or interest-free
loan?
• Interest benefit is calculated using the difference between the quarterly
prescribed rates (provided to you in the exam) and the rate actually
paid, prorated for the number of days the loan was outstanding in each
quarter
• Total days in each quarter are:
‒ 90 days in Q1 (91 if a leap year)
‒ 91 days in Q2
‒ 92 days in Q3 and Q4
• Special rules if the purpose of the low interest loan is to allow the
employee to purchase a dwelling
‒ Lower of the calculation above and the calculation using the
prescribed rate in effect when the loan was received (this is reset
every five years)
‒ A division C deduction is also available if the new dwelling is at least
40KM closer to work place
What is personal use property (PUP) and
what are the special rules relating to
dispositions of PUP?
• PUP is property used for personal reasons (as opposed to
earning income)
• Capital losses on PUP are denied
• Capital gains (which are rare on PUP) are taxable
• On dispositions of personal property both proceeds of
disposition and the ACB are deemed to be the greater of
actual proceeds/ACB and $1,000
What is Listed Personal Property (LPP)
and what are the special rules relating to
dispositions of LPP?
• LPP is specific types (a subset) of PUP
• Use the acronym Coin JARS to remember the qualifying assets:
‒ Coins
‒ Jewelry
‒ works of Art
‒ Rare books or manuscripts/folios
‒ Stamps
• Often a question will use the term “antique” to trick you into
thinking that it is LPP, but only the items listed above qualify as LPP
• Since LPP is a subset of PUP the $1,000 minimum ACB and Proceeds
rules also apply
• The only difference from other PUP, is that you can have a capital
loss on LPP, but the capital loss can only be used to offset LPP
capital gains
How are gifts between taxpayers treated for tax
purposes?
• Tax payer giving the gift is deemed to have received proceeds equal to fair
market value and the taxpayer receiving the gift is deemed to have
acquired the property at fair market value
• Since most gifting occurs between related parties, also see the Q&A on
related party rules and the implication of not reporting the transaction at
FMV (double taxation)
Individual taxpayers are provided an exemption from
tax on the sale of their principal residence. When a tax
payer owns more than one residence at a time, how
should they apply the exemption and how would the
taxable capital gain be calculated?
• The taxpayer can shelter the entire capital gain arising from the sale of a
personal residence if you designate it as your principal residence for the
years in question using the principal residence gain exemption
• The tax payer can only designate one principal residence per taxation year
• If two residences are owned within the same taxation years the taxpayer
will want to designate as many years as possible to the residence with the
higher per year gain (you will need to calculate the gain per year on each
residence)
• The calculation gives 1 “free” year (see below) so the maximum number of
years that needs to be allocated to any one property to shelter the entire
gain is the number of years it was owned minus 1
• The amount of the gain that is exempted from tax is calculated as:
1+number of years designated * Capital gain
Number of years property was owned
What is the election on disposition of Canadian
Securities and what is the purpose?
• Purpose of the election is to avoid having to determine whether the
securities were bought for the purpose of earning income (dividends) or
resale
• Taxpayers (including corporations and trusts) can elect to have all
Canadian securities that they own deemed to be capital property which
means that disposition will result in capital gains (50% taxable) as opposed
to business income
• Once this election is made, it cannot be revoked and it applies to all future
dispositions of Canadian securities by the taxpayer.
• The downside is that if a taxpayer experiences a loss on the disposition of
securities, it must be treated as a capital loss (50% deductible)
What are the tax implications to the
employee of having an employer provided
automobile?
• Two taxable benefits are calculated in relation to employer provided vehicles: standby charge
and operating cost benefit (if the employer also pays for the operating costs of the car)
• Standby charge is equal to:
‒ 2% x the cost of the automobile x the number of months in the year that the automobile is
available to the employee (if the employer owns the automobile) OR
‒ 2/3 x lease payments (if the employer leases the automobile)
‒ Note: for the standby charge you use the actual cost of the automobile (even if it costs
more than $30,000) but for CCA purposes the maximum amount that can be added to UCC
is $30,000 plus applicable sales tax on $30,000
• If the automobile is used more than 50% for business use you can reduce the standby
charge to:
(Personal use km’s / 20,004) x Standby charge
• If the employer also pays for the operating costs of the car (e.g. gas and maintenance) then
there will also be an operating cost benefit equal to 26 cents x personal use kilometres
driven in the year.
‒ If the employee used the car for more than 50% business use then the employee can elect
to use 1⁄2 of the standby charge as their operating benefit
• Note: driving to and from work is considered personal use of an automobile (and not business
use)
What are the tax implications to an individual
who receives a “automobile allowance” to cover
the cost of a vehicle (rather than the employer
providing them with a vehicle)?
• As long as the allowance is “reasonable” it is not taxable to the
employee and the employee would not deduct the expenses
that are covered by the allowance (an allowance that is more
or less than the actual amount expended by the employee
may not be reasonable)
• An automobile allowance is considered reasonable if it is $0.55
for the first 5,000 KM and $0.49 for each additional KM driven
for employment duties (these are 2018 rates)
• If the allowance is not considered reasonable it is included in
the employee’s income and the employee may deduct eligible
expenses e.g. motor vehicle expenses under certain conditions
What are the rules for taxation of stock
options from the employee’s perspective
(for both CCPC shares and Non-CCPC
shares)?
- Grant Date + CCPC = No Taxable Benefit
- Grant Date + Non-CCPC = No Taxable Benefit
- Exercise Date + CCPC = No Taxable Benefit
- Exercise Date + Non-CCPC =
• Employment income inclusion = FMV of shares at exercise date – Exercise price
• Division C deduction = 50% of employment inclusion (if options are granted not in the money i.e. if strike price is more than or equal to market price at time options
granted) - Sale of Shares + CCPC =
• Employment income inclusion = FMV of shares at exercise date – Exercise price
• Division C deduction = 50% of employment inclusion (if options are granted not in the money i.e. if strike price is more than or equal to market price at time options granted) OR if the shares were held for at least 2 years after exercise of the option
• Capital gain or loss = Proceeds – ACB
ACB = Exercise price + income inclusion - Sale of Shares + Non-CCPC =
• Capital gain or loss = Proceeds – ACB
• ACB = Exercise price + income inclusion
Under what conditions are moving
expenses deductible?
• In order to deduct the moving expenses, they must be
incurred in respect of an eligible relocation which is generally
defined as:
-moving 40 km closer to new work location or post-
secondary learning institution
• Moving expenses can only be deducted against income from
the new work location in the year of the move and can
be carried forward to the next year
• If the taxpayer is being reimbursed by their new/old employer
for moving expenses, they cannot then deduct moving costs,
unless the reimbursement is included in their income on their
tax return
Which specific moving expenses are
deductible?
- Travel costs of family to new residence
- Costs to move and store household items (i.e. furniture, clothes)
- Meals and accommodations near old or new residence for up to 15
days - Lease cancellation costs of old residence
- Selling costs of old residence
- Legal costs in respect of new residence (excluding GST)
- Cost of revising legal documents for address change
- Can use a simplified method that allows a flat rate deduction based
on the number of meals and KM travelled (benefit is no receipts
required) - $17/meal up to max of $51/day
- 54 cents per KM
What are the conditions that must be met
in order to deduct home office expenses?
• An employee can deduct home office expenses only if the
home office is:
‒ the place where the individual principally performs their
work duties OR
‒ used exclusively for work purposes and the employee
must regularly meet customers or others there
• The home office expense cannot create or increase a loss
from employment income
• Any un-deducted home office expense can be carried
forward 1 year (subject to the same restrictions)
Which expenses relating to a home office
can be deducted if the conditions (see
previous Q&A) are met?
• Non-capital expenses only (mortgage interest and CCA cannot
be deducted)
• Non-commissioned sales people can deduct:
‒ Rent
‒ Utilities
‒ Maintenance
‒ Minor repairs
• Commissioned sales people can deduct all of the above plus:
‒ Property taxes
‒ Insurance
Other than motor vehicle and home office,
what other deductions are available from
employment income?
• Professional or union dues
• Contributions to a Registered Pension Plan
• Cost of tools in excess of $1,161 for a tradesperson (limited to
$500/year)
• Salary paid to an assistant
• Supplies used directly in employment
• Rent paid for an office
• Reasonable selling expenses for commissioned sales people (limited to
commission income)
• Attendant care and other disability support expenses incurred to allow
a disabled person to work or attend school (disability support
deduction)
What are the rules regarding deductibility
of child care expenses?
• Child care expenses are deductible if they are incurred to earn income or to
allow the parent to attend secondary or post-secondary education
• Includes babysitting, daycare, boarding school and camp
• Lower income parent must claim the childcare expenses (unless the
lower income spouse is in school, jail or infirm)
• Limitations on deductibility of childcare expenses:
• Maximum for camp or boarding school of $200/week (per child 6 and
under) or $125/week per child 7 to 16
• Total child care expense cannot exceed the lesser of:
‒ The actual amount spent
‒ $5,000# of children aged 7 to 16 + $8,000# of children 6 and
under
‒ 2/3 of earned income (employment income including taxable benefits
and business income)
How are child support and spousal support
payments treated for tax purposes (by the
payer and payee)?
• Spousal support payments are included in the income of the
recipient and deductible to the payer
• Child support payment are not deductible to the payer and are
not taxable to the recipient
What types of receipts are not taxable to
an individual?
• Capital dividend (see Q&A on capital dividends)
• Social assistance e.g. welfare payments
• Life insurance proceeds received as a result of someone’s
death
• Strike pay
• Lottery winnings
• Disability payments if the employer did not pay any of the
premiums
• Payouts from a private health insurance plan
• Withdrawals from a TFSA
What employee benefits/gifts will not be
considered taxable benefits?
• Overtime meals up to $17/meal
• Frequent flyer miles earned while travelling for
business purposes
• Non-cash gifts up to $500/year
What are some methods of income
splitting with a spouse or children?
- Employing spouse and children
• Must be reasonable in light of services
• Consider whether spouse and children have skills that would allow
them to provide services - Increase lower income spouse’s investments
• Higher income spouse should pay household expenses to allow lower
income spouse to purchase investments - Transferring of capital property to children (no attribution on
capital gains) - Issuing shares to lower income spouse and paying dividends to
take advantage of lower marginal tax rate (Note that the Tax on Split
Income (TOSI) rules must be considered (see subsequent
Q&A) to ensure that one of the exceptions applies)
The Tax on Split Income (TOSI) rules result in
dividends paid to family members (both
minors and adult) of the owner of a private
corporation being taxed at the highest
marginal tax rate. What are the most
common exceptions to the TOSI rules for
adult family members?
Non-service business
• Business is not a professional corporation (owned by a doctor, lawyer,
engineer, accountant) and derives at least 90% of its income by selling
anything other than services
• Family member receiving the dividends is at least 25 years of age and owns
at least 10% of the shares of the corporation.
Family member works in the business
• The family member worked in the business for at least 20 hours per week
continuously in the current tax year or for at least 20 hours per week for 5
prior years (does not have to be consecutive years)
• The amount of the dividend paid is reasonable based on the work performed.
Family member invests in the business
• Family member receiving dividends is at least 25 years of age and has
invested in the corporation
• Dividend is reasonable based on the financial investment that they make. The
reasonability of dividends paid is determined by looking at factors such as the
amount of the financial investment made and the risk assumed
Attribution rules (which transfer or attribute income from the low-income tax payer back to the high income tax payer) apply to discourage certain types of income splitting. When do they apply and how can attribution be avoided?
• Attribution rules are intended to discourage income splitting through
the transfer of property to a spouse or related minor (including
nieces and nephews).
• To avoid the attribution rules, the assets must be transferred to the
spouse or minor at fair market value i.e. equivalent consideration
must be received.
• If the consideration is in the form of a loan, interest must be
charged (and paid) at the prescribed rate in effect at the time
the loan is granted (there is no requirement for principal
payments to be made). If interest is not charged, attribution
will apply.
‒ Unlike with spouses, there is no attribution on capital gains generated
from assets transferred to minors
What is the RRSP contribution limit and
when must RRSP’s be terminated?
• Contributions are limited to an annual maximum the lesser of:
‒ 18% of the prior year’s earned income (generally employment
income, business income, spousal support payments received and rental
income from renting real property); and
‒ $26,230 (2018 limit)
• If the taxpayer has a work pension plan (i.e., a RPP) then the pension
adjustment will reduce the amount that they can contribute to an RRSP.
• Any unused RRSP contribution room carries forward
• Taxpayers must withdraw all funds from their RRSP in the year that they
turn 71. Instead of taking the RRSP funds (and including the amount in
income) taxpayers can convert their RRSP to an RRIF.
‒ An RRIF can also grow tax-free but no additional funds can be contributed
to it and each year the taxpayer must withdraw a portion of the funds
(and include the amount withdrawn in their income)
• Any withdrawals from RRSPs (other than the Home Buyers Plan and the
Lifelong Learning Plan) are taxable
How do spousal RRSPs work and when are
they beneficial?
• The individual contributes based on their own contribution
room and receives the tax deduction on the year of
contribution, but income will be taxed in spouses hands
on withdrawal
• Beneficial when the spouse is expected to have lower income
in the year of withdrawal (usually in retirement)
How are RRSP’s taxed on withdrawal?
• Withdrawals are included in the taxpayer’s income as ordinary
(RRSP) income (even if the RRSP has earned capital gains or
dividends they are taxed as ordinary income when withdrawn)
• Not subject to any special tax treatment such as for capital
gains or dividends
How are retiring allowances and termination
payments treated for tax purposes?
• Retiring allowances and termination payments are included in the
taxpayer’s income in the year they are received
• Part of the allowance may be transferable to an RRSP (and therefore be
eligible for an RRSP deduction) with the maximum allowable amount
calculated as:
‒ $2,000(# of years employed prior to 1996) + $1,500(# of years
employed prior to 1989 where the employee did not have pension or
deferred profit sharing plan)
• The transfer to an RRSP does not impact RRSP contribution room
How does a tax free savings account
(TFSA) work and what are the contribution
limits?
• Beginning in 2009 individuals 18 and over can contribute up to
$5,500 ($5,000 for 2009-2012) per year to a registered TFSA
account (unused room carries forward)
• Any income or gains earned in the TFSA will be tax free
• Unlike RRSPs contributions to a TFSA do not get a tax
deduction
• Funds can be withdrawn at any time on a tax-free basis and
any withdrawals will be added to the following year’s
contribution room
How does an RESP (Registered Education
Savings Program) work and what are the
contribution limits?
• Helps taxpayers to save for children’s or grandchildren’s post-secondary
education
• No tax deduction for contribution (unlike RRSP)
• Funds can grow tax-free while in the plan
• Contributions can be withdrawn tax-free but any income earned in the plan
and the government grant (see below) are taxed in the hands of the
beneficiary when withdrawn
• Aggregate maximum contribution is $50,000 per child
• Eligible for a government grant in the amount of 20% of the annual
contribution to a maximum annual grant of $500 and a total maximum
grant of $7,200 per child (unused grant room can be carried forward but
the maximum grant that can be paid in any one year is $1,000)
• If the child does not go to school the grants must be repaid and the
accumulated income will be taxed in the hands of the person that
contributed the funds
What are the more common tax credits available to
individuals other than those listed in the tables at the
back of the CFE exam?
• Charitable donation credit (see specific Q&A)
• Medical expense credit (only on expenses exceeding threshold but can be claimed
by either spouse regardless of who paid)
• Tuition credit, Examination fees (for professional/trade exams) and education credit
(unused credits can be transferred to a spouse, parent or grandparent or carried
forward indefinitely)
• Credit for interest on student loans
• EI and CPP contributions credit
• First-time home buyer’s credit ($5,000 credit if neither the taxpayer or spouse has
owned a home in the past 4 years)
• Note that the credits above (with the exception of charitable donations
above $200) are multiplied by the lowest federal rate i.e. 15% when
calculating the tax savings e.g. a $1,000 credit would result in an actual
federal tax savings of $150
• All of the above credits are non-refundable (cannot reduce taxes payable
below zero)
How are charitable donations by
individuals treated for tax purposes?
• Receive a charitable donation tax credit
• Can be claimed by either spouse
• Credit is multiplied 15% up to $200 and by the highest
marginal rate (29% if income is less than $200K or 33% if
income is over $200K) for donations over $200
• Maximum of 75% of taxpayer’s net income
• Can be carried forward five years
• If assets are donated rather than cash the amount of the
donation is considered to be the FMV of the asset
What is Part I.2 tax?
• Part I.2 applies a tax on Old Age Security (OAS) benefits received by
individuals with net income over a certain threshold
• In 2018 the threshold is $75,910 (for every dollar of income in excess of
this amount 15% is clawed back from any OAS received
What are the categories of residents for
tax purposes?
• Full time residents – includes those deemed to be full time
residents
‒ Sojourners are people deemed to be full time residents because
they were in Canada for 183 or more days throughout the
taxation year in question.
• Part-time residents – those that stopped or started becoming a
resident part way through the taxation year in question
• Non-Residents
•What are the tax implications of being a
resident/non-resident?
Canadian Resident:
• Pay tax on worldwide income
Non-resident:
• Only pay tax on Canadian source income:
• Canadian employment income
• Canadian business income
• Capital gains on dispositions of taxable Canadian property
(TCP) which includes:
• real property (land and buildings) in Canada
• business assets relating to a business carried on
in Canada
• Canadian resource properties
• Shares that derive more than 50% of their value
from real property in Canada or Canadian natural
resources
• Pay a 25% withholding tax i.e. no tax return filed but tax is withheld and remitted (can be reduced by a tax treaty) on certain passive Canadian income including: • Rental income • Interest income • dividend income • pension income • RRSP withdrawals.
What are the factors that considered in
determining whether an individual is a
resident of Canada?
Primary Indicators (Significant factors/ties to Canada – have the most weight)
- dwelling place in Canada (owned or rented that is available to live in)
- Spouse lives in Canada
- dependent children live in Canada
Secondary factors/ties to Canada (much less important than primary indicators)
- personal property in Canada
- social ties with Canada
- economic ties with Canada
- medical insurance and hospital coverage in Canada
- registered vehicle in Canada
- Canadian passport
- seasonal home in Canada (ex. Cottage)
Nature of Absence from Canada
- Intention to return or permanently leave Canada
- Regular visits back to Canada
• Note that a taxpayer must have at least one country of residence for tax purposes
What are the tax implications of becoming
or ceasing to be a resident of Canada?
Becoming a Resident:
• Deemed disposition and reacquisition (immediately
before becoming a resident) of all property (other than taxable Canadian property) at fair market value
• Cost for tax purposes of all properties will generally be
equal to the fair market value on the day that they became a resident of Canada
• A corporation will be deemed to have a year end immediately before becoming a resident
Ceasing to be a Resident:
• Deemed disposition and reacquisition of all property
(with some limited exceptions) at fair market value
• Pay tax on any accrued gains (earned while the taxpayer was a resident of Canada)
• Exceptions to the deemed disposition include Canadian:
real property, pensions and business assets. (Canadian real property and business assets are taxable Canadian property, and pensions are subject to a 25% non-resident withholding tax)
What are the potential advantages of
incorporation over a sole proprietorship or
partnership?
• Limited liability for shareholders (although they may still be required to
provide some personal guarantees)
• Lower tax rate on earnings subject to the small business deduction (if
the CCPC criteria are met)
• Deferral of personal tax on the earnings retained by the corporation
• Possibility for income splitting by paying dividends on shares owned by
family members or by paying reasonable salary to family members
• Greater planning opportunities for owner-manager compensation
• Access to lifetime capital gains exemption (if the shares are Qualified
Small Business Corporation shares)
• Facilitation of estate planning through corporate rollovers
• Reduction in tax on earnings subject to manufacturing and processing
credit
What are the potential disadvantages of
incorporation over a sole proprietorship or
partnership?
• Costs of initial incorporation and ongoing compliance
(professional fees)
• Inability to claim corporate losses against other sources of
personal income
‒ Critical during start-up period if losses are expected,
especially if owner has other sources of income (pension,
investment, part-time employment etc.)
How are assets transferred from sole
proprietorship into a partnership or
corporation?
How are assets transferred from sole
proprietorship into a partnership or
corporation?
What are the advantages/disadvantages of
using a holding company rather than
purchasing/owing shares directly?
Advantages:
• Owning shares of an operating company via a Holdco gives more
flexibility to multiple owners re: cash management
‒ One shareholder may have an immediate need for dividends (e.g.
for living expenses) whereas the others may want to leave funds
in the corporation to take advantage of the tax deferral
‒ This is facilitated by each shareholder owning his/her shares of
the operating company through a holding company
‒ When the operating company pays dividends (tax free) to the
holding company, the individual shareholders can decide when to
withdraw the funds from their respective corporations
Disadvantage:
• It is more expensive (incorporation plus annual compliance costs)
What are the tax implications of
paying/receiving salary for the corporation
and the owner/manager?
• Salaries are deductible to the corporation as long as they are:
‒ Reasonable
‒ Payment for real and identifiable service
• Bonus must be paid within 180 days of year-end to be deductible by
the corporation in the year
• Salary is taxable to the employee in the year received
• Salaries are included in “earned income” for RRSP room calculation
• Subject to CPP contributions, but the employee will be able to
collect CPP benefits upon retirement at age 65
What are some advantages of paying
dividends rather than salary?
• Dividends do not require the individual to do work for the corporation
whereas salary must be
• Reasonable
• Payment for real and identifiable service
• Subject to dividend tax credit (see Q&A on taxation of dividends received
by individuals)
• Certain level of dividends may be received tax free if no other income
• Dividends do not reduce accounting income of the corporation (salary
does)
• Impact on covenants and ability to get financing
• Impact in valuation if sale likely to occur
• Preferable if corporation has losses that are about to expire
‒ In this case salary deduction is of no use to corporation so overall
(personal plus corporate) tax will be lower if dividends are paid
• Generate refunds if there is RDTOH
• Reduces the CNIL balance, which preserves the capital gains exemption
What are the advantages of buying assets
(vs. shares) of a company from a
purchaser’s perspective?
• Purchaser has choice of which assets to acquire
• Increase/bump in UCC of assets up to FMV
‒ results in higher CCA and/or less future capital gains if the assets are subsequently sold
• Purchaser is not liable for any undisclosed liabilities
What are the advantages of buying shares
(vs. assets) of a company from a
purchaser’s perspective?
- Able to utilize non-capital loss carry forwards if the criteria are met (see Q&A in corporate tax section on ability to use losses)
- May be able to negotiate lower price since vendor may be able to use Capital Gains Exemption on sale which will increase their after-tax proceeds
What are the advantages of selling shares
(vs. assets) from a seller’s perspective?
• May be able to use capital gains exemption on QSBC shares
if criteria are met (see Q&A on capital gains exemption)
• Do not have to incur the cost and effort to sell the individual
assets and wind up the corporation (legal and selling costs)
• Selling assets usually results in recapture and/or capital gains
• No responsibility for liabilities of the corporation after the sale
• Can claim a reserve on capital gain for any amount uncollected
(see Q&A on capital gains reserve)
How are taxes payable calculated on the
sale of the assets of a business?
- Calculate the tax implications (corporate taxes payable) for the corporation of
selling each of the assets (capital gains and/or business income or loss).
Remember the buyer is purchasing the assets from the corporation so the
corporation must pay the tax on the asset sales. - Calculate the funds remaining for distribution to the seller/shareholder after
settlement of liabilities and payment of taxes i.e. proceeds from sale of assets
less:
a) existing liabilities of the corporation (accounts payable, mortgages payable, etc.)
b) taxes payable as calculated in step 1 - Calculate the personal tax payable on the dividend to the shareholder (amount of the dividend is calculated in step 2). Remember after the corporation sells the
assets it must pay a dividend to allow the shareholder to realize the proceeds. If the corporation redeems the shares there will be a deemed dividend equal to the
proceeds of the redemption less the PUC of the shares (which the taxpayer can receive tax free). - Calculate the after-tax proceeds (amount from step 2 less amount from step 3).
What special rules are available for
accounts receivable on the sale of a
business?
• When a person (individual or corporation) sells accounts
receivable as part of a sale of assets (i.e. a sale of
substantially all of the property used in carrying on a business to a purchaser who will carry on the business) the seller and purchaser can jointly elect to have section 22 apply
• Allows the seller of the accounts receivable to claim a loss on the sale of the accounts receivable (if one exists) as a business loss (which is fully deductible) rather than a capital loss and allows the purchaser to claim an allowance for doubtful
accounts on the purchased receivable
• Purchaser include the business loss claimed by the seller in income
What factors should be considered when
deciding whether to separately incorporate
a division of a corporation?
• Additional compliance costs (tax returns, withholdings etc.)
• If the new division is incorporated, losses will be “trapped” since they can’t be used to offset income from the existing business (or vise versa)
• Transfer price between the entity’s must be fair market value if incorporated separately, or double taxation will occur
• The two corporations (new division and existing corp) will likely be associated and will therefore have to share the small
business deduction
What are the tax implications of an
acquisition of control (AOC)?
• Deemed year end (day immediately following acquisition of control)
• Inherent losses on depreciable and capital property are
triggered by AoC i.e. where FMV UCC/ACB
• Non capital losses carried forward will be deductible if the meet the criteria (see next Q&A)
• Deemed year-end uses up one year of non-capital loss carry
forward
What are the conditions that must be met in
order for the acquirer to use non capital losses
carried forward by the acquired corporation?
- Loss business is being carried on in year LCFs are used
- Loss business being carried on at a profit or with a
reasonable expectation of profit - Being used against income from the same or similar
business
Why would a taxpayer elect to recognize
accrued gains on an AOC and how does the
election work (at what amounts should they
elect and on what assets)?
- Done to use up net capital losses that will otherwise expire
- Maximum elected amount is the FMV of the property you are electing on
- Elect an amount that will use up the net capital losses that are expiring
- Want to avoid recapture so elect on non-depreciable property i.e. land or depreciable property with small amounts of recapture
- Elected amount is the new ACB of the property
What are the methods the acquirer can
employ to utilize the losses generated in
the acquired corporation given that they
are separate legal entities?
• Transfer the assets of a profitable similar business into the newly acquired corporation using a section 85 rollover
• Merge the acquired business with the existing business (if similar).
‒ Can be done via an amalgamation or wind-up (see next slide)
• Intercompany transactions such as management fees,
transfer pricing, rental agreements to shift income into the loss company).
‒ This is cheaper than the other alternatives, but takes longer
What is the difference between an
amalgamation and a windup and how does each
work?
Amalgamation:
- Simplicity -> Cheaper and easier than a wind-up
- Description: Two predecessor companies have a
deemed year-end immediately before amalgamation. A brand new company starts after the amalgamation. (vertical or horizontal)
- Losses: Deductible starting in the first taxation year
of the amalgamated company
Wind-up:
- Simplicity -> More expensive and time consuming
- Description: Parent swallows the subsidiary. Parent
company continues to exist and owns assets directly. (vertical only)
- Losses: Deductible starting in parent’s taxation year following the year in which the wind-up occurred
What are the implications of a
taxpayer’s death?
• Upon death, a taxpayer is deemed to dispose of all of their assets
at fair market value (FMV) triggering capital gains and other types of income that must be reported on the taxpayer’s final tax return
– the terminal return.
• The terminal return must be filed by the later of 6 months after the date of death and the normal due date.
Normal due dates:
- 4 months after year-end of year of death (April 30th)
- 5 1⁄2 months after year-end of year of death (June 15th) for individuals carrying on a business or who’s spouse was carrying on a business in the year of death
• A benefit in the year of death, is that a taxpayer’s allowable capital loss carry-forwards can be used to offset any type of income, not just capital gains.
What are the elective returns that can be filed
upon the death of a taxpayer and when would
they be used?
Rights or Things Return (for amounts earned and right to collect at death)
‒ matured, uncashed bond coupons
‒ dividends declared but unpaid at time of death
‒ salary/vacation pay etc from pay period completed before death but not yet paid out
‒ WIP not yet billed for only certain professionals and they have to elect to do so (accountants, lawyers,
doctors etc. but NOT ENGINEERS) – when not in year of death must treat as on accrual basis
‒ Partnership income in year of death
‒ bond interest – earned for payment date ending before death but not paid out yet
Stub year return (for period of time from year-end of a trust (usually a trust, can also be a partnership) to the
date of death
Filing deadline
These elective returns are due at the later of:
i. 1 year after death
ii. 90 days after mailing notice of assessment (“NOA”) for year of death
Reasons for filing Elective Returns
1. You start at the lowest marginal tax rate for each return filed and work your way up through the graduated
tax rates. Resulting in overall less tax. If you hit the threshold for the lowest tax rate on your terminal
return, you can potentially put items on your elective returns and start at the lowest tax rate again until
you use it up again.
2. You get to claim the following tax credits on each return filed (Basic personal amount, Age amount,
Spousal/Equivalent to spouse amount and the infirm Dependant credit- Remember BASED). This
reduces the overall tax payable.
What options are available to reduce
taxes payable when the deceased
taxpayer has a spouse?
Spousal Rollovers
• can defer gains on property by rolling it over to your spouse as spouses
automatically transact at cost (ACB/UCC)
• can elect out of the automatic spousal cost rollover to trigger a capital gain to use up allowable capital losses or unused lifetime capitals gains exemption in year of death Testamentary Spousal Trust
• type of trust that arises on death of the taxpayer
• trust income is taxed at spouse’s rates, which allow for income splitting if spouse’s tax rate is lower
• no risk of attribution rules kicking in as taxpayer is dead
The fair value of any RRSPs would be included
in income on the terminal return unless it is
transferred. Who can it be transferred to in
order to avoid being taxed on the terminal
return?
Fair market value of RRSP included in income on terminal return unless:
• RRSP transferred to spouse – subject to tax in spouse’s hands unless spouse transfers amount to an RRSP, RRIF or other annuity within 60 days of yearend of the year of receipt
• RRSP transferred to child/grandchild and refund of premiums taxed in child’s hands but if under 18 and financially dependent can use refund to acquire annuity tax free
• RRSP transferred to mentally or physically infirm dependent child and amount can be transferred to an RRSP etc. tax
What are the options when an owner of a
business wants to transfer an ownership
interest to their children?
- Child purchases shares directly
- Share exchange using section 86
- Share exchange using section 85
What are the tax implications if a child
purchases shares directly from a parent?
• Results in a disposition of shares and taxable capital gain to
parent
• Capital gains exemption could be used to shelter all or a
portion of the gain (if unused and conditions met)
• Parent is not entitled to any future income steam and
loses all control of the company – therefore would use only
when parent does not need any future income steam and
wants to retire completely
• Look for case facts such as whether the child is/wants to be
involved in the business, whether they have the skills to run
the business etc.
How does a section 86 share exchange
work in transferring an ownership interest
to a child?
- Common shares of the company are exchanged for preferred shares redeemable and retractable at the fair market value at the time of the exchange
- The children subscribe to newly issued common shares at a nominal value and all future growth accrues to the children
- Cannot use or crystallize the capital gains exemption using this method – therefore would likely use only if CGE not available or already used
How does a section 85 rollover work in
transferring an ownership interest to a
child?
• Child subscribes to common shares at a nominal value of a newly created holding company(must be purchased with their own money to avoid attribution)
• Parent transfers common shares of the existing company into the Holdco using a section 85 rollover and takes back preferred shares having FMV = old common shares (note that in order for section 85 rollover to apply
shares must be taken as consideration)
• Children subscribe to common shares of the new holding company at a nominal value all future growth will accrue to them
• Capital gain can be crystallized through section 85 rollover by electing amount greater than ACB to trigger gain (taxpayer can elect any amount between the tax value and FMV)
• Parent can retain voting control through preferred shares if desired
• Parent can receive dividends or redeem shares for cash flow
