9 October 2015 APFF Financial Strategies and Financial Instruments Roundtable
Email this ContentThis page provides summaries of questions posed at the Roundtable on Financial Strategies and Financial Instruments together with translations of the final versions of the CRA written responses. Links to the French originals of these responses including the full text of the fianl versions of the questions, are provided at the end of each question.
Q.1 Transfer of critical illness insurance policy between non-arm's length corporations
Opco is the owner, the beneficiary and pays the premiums on a critical illness insurance policy on the health of its sole shareholder. What are the tax consequences to Opco on the transfer of the policy to another corporation? Is a s. 85(1) rollover available?
CRA Response
The determination of the tax consequences to Opco of the above-mentioned transactions can be made only after an examination of all the relevant facts (including the contractual provisions). However, we can provide the following general comments respecting Opco.
We are of the view that the gain or loss realized on the disposition of a critical illness insurance policy is generally of a capital nature. However, by reason of the exception stipulated in subparagraph 39(1)(a)(iii) and 39(1)(b)(ii), this gain or loss will not be taxable as a capital gain or deducted as a capital loss for purposes of the Income Tax Act. Furthermore, the provisions of section 148 would not apply to a critical illness insurance policy which is not a life insurance policy and the Income Tax Act does not contain any other provision providing specifically for the tax treatment of the disposition of such property. In other words, the gain realized on the transfer of a critical illness insurance policy will generally not be taxable and the loss will generally not be deductible.
The rules stipulated in subsection 85(1) permit a taxpayer to transfer on a rollover basis an “eligible property” to a taxable Canadian corporation for consideration that includes shares of the capital stock of the corporation. Subsection 85(1.1) defines an eligible property, and that definition includes inter alia a capital property. The concept of a capital property is as defined in section 54 and includes any property whose disposition would produce a capital gain or loss for the taxpayer. However, as previously mentioned, the gain or loss resulting from a disposition of a critical illness insurance policy is not a capital gain or loss. Since a critical illness insurance policy is not a capital property and such property is not within any other part of the eligible property definition, this type of policy is not an eligible property as defined in subsection 85(2.1). Consequently, the rules stipulated in section 85 are not applicable to the transfer of a critical illness insurance policy to a taxable Canadian corporation.
Q.2 Exception in s. 7(1.31) from average cost rule
A, who is the sole shareholder of Holdco and also holds low-cost shares of PublicCo, will exercise his option to acquire 100,000 shares of PublicCo (giving rise to a s. 7(1)(a) benefit). Of the 100,000 shares acquired, 35,000 will be donated to a qualified donee (the “Donation”), and then 65,000 will be disposed of to Holdco (the “Transfer”). Assuming that its other conditions are satisfied, would the conditions of s. 7(1.31.)(a) be satisfied for both the Donation and Transfer?
CRA Response
Subsection 7(1.31) deals with the situation where a taxpayer acquires a security under an agreement referred to in subsection 7(1) (the “Acquired Security”) and, on a day that is no later than 30 days after the acquisition of the Acquired Security, disposes of a security that is identical to the Acquired Security. When all the conditions of subsection 7(1.31) are satisfied, this subsection deems the newly-acquired security to be the one which the taxpayer disposed of. In brief, subsection 7(1.31) specifies the order of disposition of the securities.
In applying the average cost rule for identical property in subsection 47(1), subsection 47(3) indicates, among other things, that a security to which subsection 7(1.31) applies is deemed to not be identical to any other security acquired by the taxpayer. Consequently, the adjusted cost base (“ACB”) of each security to which subsection 7(1.31) applies will be calculated without taking into account the ACB of each other security held by the taxpayer.
In order for subsection 7(1.31) to apply, paragraph (a) requires that the taxpayer have neither acquired nor disposed of any identical security to the Acquired Security between the moment of its acquisition and that of its disposition.
In the situation presented, only the first event to occur as between the Donation and the Transfer would comply with the requirement stipulated in subsection 7(1.31). Respecting the second event, there would have been a disposition of a security identical to the Acquired Security between the moment of acquisition of the acquired security and that of its second disposition.
Q.3 Deductibility of interest following a debt write-off, and subsection 20.1(1)
The sole shareholder of a Canadian-controlled private corporation uses borrowed money to make an interest-free advance to the CCPC. The interest on the shareholder’s borrowing is deductible under Byram. The CCPC makes a proposal under the Bankruptcy and Insolvency Act and the shareholder agrees to forgive the advance. Although St-Hilaire found that interest ceased to be deductible following the acceptance of a proposal, would s. 20.1(1) apply to provide an interest deduction?
CRA Response
To begin with, note that the Byram case that you cited bears on the application of subparagraph 40(2)(g)(ii) to an interest-free loan and not on the deductibility of interest under subparagraph 20(1)(c)(ii) on money borrowed to make such a loan.
The position of the CRA in para. 1.55 of the Income Tax Folio S3-F6-C1 Deductibility of Interest, respecting the deductibility of interest on money borrowed by a shareholder which is used to provide an interest-free to a wholly-owned corporation is based on The Queen v. Canadian Helicopters Ltd., 2002 FCA 30.
In this paragraph of the Folio, we take the positon that a shareholder who uses borrowed funds to make an interest-free loan to a wholly-owned corporation can deduct interest paid or payable on this loan to the extent that the funds received by the corporation have an effect on its income-earning capacity, so that the common shares of the corporation can potentially generate increased dividends. In paragraph 1.56 of the same Folio, we take a similar position respecting borrowed money which is used to make a contribution of capital to a corporation of which the borrower is a shareholder.
In the situation presented, we are of the view that the actual use of borrowed money, following the debt cancellation, continues to be for the purpose of investing in the shares of the corporation. To the extent that the shareholder continues to hold all the shares of the corporation and there is a reasonable expectation of deriving dividends, we are of the view that the shareholder would comply with the conditions of subparagraph 20(1)(c)(i) and that it would not be necessary to refer to subsection 20.1(1).
The facts in the St-Hilaire case were different from those in your example. Furthermore, this decision does not constitute a jurisprudential precedent as it was rendered under the informal procedure.
See 9 October 2015 APFF Roundtable on Financial Strategies and Instruments, Q. 3, 2015-0588951C6 F
Q.4 Voluntary disclosure where T1135s not filed before 10-year period
A taxpayer has failed to file a T1135 for his 2000 to 2014 taxation years, but reported all his foreign–source income. Will the penalty of $2,500 per late filing per T1135 automatically for the 2000 to 2004 taxation years in the context of a voluntary disclosure given that the 10-year time limit has passed? (b) If the penalties for 2000-2004 are applicable, would it be appropriate to limit the period covered by the voluntary disclosure to the 10-year period?
CRA Response to Q4(a)
By virtue of subsection 152(4), the Minister can make as assessment, a reassessment or an additional assessment (collectively, an “Assessment”) respecting the tax for a taxation year, as well as interest or penalties, which are payable by the taxpayer in the “Normal reassessment period” applicable to the taxpayer for the year. For an individual, the Normal reassessment period is three years by virtue of subsection 152(3.1). However, by virtue of paragraph 152(4)(b.1), the limitation period for an individual is extended to six years when a T1135 form (which is prescribed by virtue of subsection 233.3(3)) is not filed within the required period and a sum respecting a foreign property is determined to have not been included in the return of income of the taxpayer.
Furthermore, whether the income from a foreign property has been declared or not, the Minister can assess a taxpayer at any time when such person, or a person filing the declaration, has made a misrepresentation attributable to negligence, neglect or carelessness, or wilful default, or has committed any fraud, in filing a return or supplying any information under the Act. The determination of fraud or misrepresentation depends on the circumstances.
By virtue of subsection 220(3.1), the Minister can waive, in whole or in part, an amount of penalty or interest otherwise payable by a taxpayer for a taxation year when the taxpayer has made an application, at the latest, on the day which is 10 calendar years after the end of the taxation year (the “10-Year Limit”).
Subsection 220(3.1) does not permit the CRA to waive a penalty or interest for years beyond the 10-Year Limit (2000 to 2004, in your example). The current position of the CRA is that the late-filing penalty of $2,500 under subsection 162(7) applies automatically. However, this position is currently under study.
CRA Response to Q4(b)
As is stated in paragraph 35 of Information Circular IC00-1R4, the “taxpayer must provide full and accurate facts and documentation for all taxation years or reporting periods where there was previously inaccurate, incomplete or unreported information relating to any and all tax accounts with which the taxpayer is associated.” However, paragraph 37 of this Circular indicates as follows: “While the information provided in a disclosure must be complete, the disclosure may not be disqualified simply because it contains minor errors or omissions. Each submission will be reviewed on its own merits.”
9 October 2015 APFF Financial Strategies and Instruments Roundtable Q. 4, 2015-0588971C6 F
Q.5 Exchange rate for stock exchange transactions
The settlement date for trades on the Toronto or New York stock exchanges is three days after the transaction date. IT-95R, paras. 8 indicates that transactions on income (but not capital) account are normally recorded in Canadian dollars equivalents at the rate of exchange at the transaction time.
(a) Is it necessary to use the exchange rate on the transaction date of the settlement date for transactions on capital account on foreign exchanges such as the New York exchange?
(b) Is CRA prepared to accept one method or the other if it is used consistently for all exchange transactions year after year?
CRA Response to Q5(a)
We are of the view that it is the settlement date of a stock exchange transaction (and not the trade date for the transaction) which is the date of disposition for purposes of calculating the capital gain or loss under subsection 39(1).
Since it is the settlement date of the transaction which gives rise to the proceeds of disposition, the conversion to Canadian dollars of the foreign currency amounts received must be made at the rate quoted by the Bank of Canada for noon on the settlement date for the transaction, by virtue of paragraph 261(2)(b) and the definition of “relevant spot rate” in subsection 261(2).
Thus, in the example of a taxpayer receiving proceeds of disposition of the sale of a security on the New York exchange in an American dollar account, the conversion to Canadian dollars must be made at the noon rate quoted by the Bank of Canada for the settlement date for the transaction.
CRA Response to Q5(b)
The taxpayer must follow the approach described above.
9 October 2015 APFF Financial Strategies and Instruments Roundtable Q. 5, 2015-0588981C6 F
Q.6 Accounting v. taxable income of a trust as partner
The “Trust” is a member of the Partnership, receives distributions of $500,000 but is allocated taxable income of $525,000 as a result of some Partnership expenses being non-deductible. Would CRA be amenable to accepting that the Trust had allocated all of its taxable income ($525,000) to its beneficiaries rather than considering that $25,000 had not been so allocated.
CRA Response
In general, a trust to which paragraph 104(6)(b) applies can deduct, in the calculation of its income for a taxation year, an amount which does not exceed the amount of income for the year which is payable to a beneficiary in the course of the year.
Subsection 104(24) provides that, for purposes of subsection 104)6), an amount is deemed not to have become payable to a beneficiary in a taxation year unless it was paid in the year to the beneficiary or the beneficiary was entitled in the year to enforce payment of it.
For purposes of paragraph 104(6)(b), we are of the view that income payable to a beneficiary refers to income determined in accordance with the provisions of the Income Tax Act. However, in order to determine if an amount of income has become payable for purposes of subsection 104(24), it is necessary to refer to the trust deed of the trust and the applicable private law.
In the case where the Trust is not able to pay the balance of $25,000 of taxable income in the course of the year, we are of the view that this balance will not be considered to be payable by virtue of subsection 104(24).
9 October 2015 APFF Financial Strategies and Instruments Roundtable Q. 6, 2015-0595851C6 F
Q.7 Processing delays for charity registrations
(a) Is there a different registration process for a charitable organization and a foundation?
(b) Is there a different process depending on the legal form chosen?
(c) What are the conditions permitting a reduction in registration delays?
(d) Is there a fast lane for processing applications, and how does it function?
CRA Response to Q7(a)
The registration process is the same, whether the entity whose registration is requested is a charitable organization or a foundation. In both cases, the entity must demonstrate that it qualifies for registration as a charity by submitting an application for registration which is complete and contains sufficient particulars to demonstrate that it qualifies under that head. The links below provide useful information respecting the manner of providing a registration application and the factors which could prevent the organization from being registered as a charity:
How to apply for charitable registration
Factors that will prevent an organization from being registered as a charity
CRA Response to Q7(b)
The process is the same, irrespective of the legal form chosen by the entity requesting registration.
CRA Response to Q7(c)
We suggest that any entity wishing to reduce the delays in dealing with its registration application consult the following link on the CRA website, which provides information respecting the presentation of a registration application:
In particular, the section entitled “Avoiding delays” which is found at the following link could be particularly useful:
CRA Response to Q7(d)
There is no fast lane in the Charities Directorate for the processing of registration applications. The applications generally are processed in the order in which they are received. However, the Charities Directorate has different standards of service respecting simple and regular applications for registration. A simple application is an application which contains all the information needed by the Directorate for determining if an organization is eligible for registration as a charity. When the Directorate has a need for more information before determining eligibility, the application is a regular one.
The objective of the Charities Directorate is to respond to properly completed simple applications within two months and to respond to properly completed regular applications within six months. For further information on our standards of service, you can consult the following link:
9 October 2015 APFF Financial Strategies and Instruments Roundtable, Q. 7, 2015-0589001C6 F
Q.8 Capital distribution to a creditor beneficiary
CRA indicated (e.g., 2013-0488061E5) that the s. 107(2) rollover does not apply to the property of a personal trust which is distributed to a capital beneficiary to pay a debt owing to the beneficiary. In order to avoid a loss of the rollover, a trust holding real property (valued at $500,000) which is encumbered with a $200,000 hypothec owing to the beneficiary, borrows $200,000 from a financial institution, repays the hypothec owing to the beneficiary and distributes the property, which is subject to a $200,000 hypothec owing to the financial institution, to the beneficiary in full or partial satisfaction of the beneficiary’s capital interest.
Does s. 107(2) rollover apply to this distribution?
CRA Response
Subsection 107(2) applies in particular when a personal trust distributes property to a beneficiary and there is a resulting disposition of all or part of the capital interest of the beneficiary in the trust. Furthermore, subsection 107(2) does not apply unless subsections 107(2.001), 107(2.002) and 107(4) to 107(5) do not apply.
The definition of personal trust in subsection 248(1) includes a trust in which no beneficial interest was acquired for consideration payable directly or indirectly to the trust or to any person or partnership that has made a contribution to the trust by way of transfer, assignment or other disposition of property.
The question of whether a loan made by a beneficiary or the assumption by the beneficiary of a hypothec constitutes consideration for the acquisition of an interest in the trust is a question of fact which cannot be determined before an examination of all the facts and relevant documentation.
To the extent that a loan made by the beneficiary or an assumption by the beneficiary of a hypothecary loan does not causes the trust to lose its status as a personal trust and all the other conditions for the application of subsection 107(2) are satisfied, the rollover in subsection 107(2) can apply to a distribution of the property.
If subsection 107(2) applies, paragraph 107(2)(c) provides, among other things, that the total of all amounts each of which is an eligible offset amount at that time reduces the proceeds of disposition of the capital interest disposed of by the beneficiary.
The definition of “eligible offset amount” in subsection 108(1) (the “Definition”) encompasses the portion of any debt or obligation which is assumed by the taxpayer in respect of all or part of the taxpayer’s capital interest in a trust, and that can reasonably be considered to be applicable to property distributed in satisfaction of the interest, if the distribution is conditional upon the assumption by the taxpayer of the portion of the debt or obligation.
In our view, in order for the assumption of the hypothecary loan by the beneficiary to be deductible under paragraph 107(2)(c), it must satisfy the conditions provided in the Definition.
However, the eligible offset amount does not apply in computing the proceeds of disposition of property of the trust under paragraph 107(2)(a) or to the cost of property acquired by the beneficiary under paragraph 107(2)(b).
Subsection 107(2) applies in particular when a personal trust distributes property to a beneficiary and there is a resulting disposition of all or part of the capital interest of the beneficiary in the trust. Furthermore, subsection 107(2) does not apply if subsections 107(2.001), 107(2.002) and 107(4) to 107(5) apply.
The definition of personal trust in subsection 248(1) includes a trust in which no beneficial interest was acquired for consideration payable directly or indirectly to the trust or to any person or partnership that has made a contribution to the trust by way of transfer, assignment or other disposition of property.
The question of whether a loan made by a beneficiary or the assumption by the beneficiary of a hypothec constitutes consideration for the acquisition of an interest in the trust is a question of fact which cannot be determined before an examination of all the facts and relevant documentation.
To the extent that a loan made by the beneficiary or an assumption by the beneficiary of a hypothecary loan does not causes the trust to lose its status as a personal trust and all the other conditions for the application of subsection 107(2) are satisfied, the rollover in subsection 107(2) can apply to a distribution of the property.
If subsection 107(2) applies, paragraph 107(2)(c) provides, among other things, that the total of all amounts each of which is an eligible offset amount at that time reduces the proceeds of disposition of the capital interest disposed of by the beneficiary.
The definition of “eligible offset amount” in subsection 108(1) (the “Definition”) encompasses the portion of any debt or obligation which is assumed by the taxpayer in respect of all or part of the taxpayer’s capital interest in a trust, and that can reasonably be considered to be applicable to property distributed in satisfaction of the interest, if the distribution is conditional upon the assumption by the taxpayer of the portion of the debt or obligation.
In our view, in order for the assumption of the hypothecary loan by the beneficiary to be deductible under paragraph 107(2)(c), it must satisfy the conditions provided in the Definition.
However, the eligible offset amount does not apply in computing the proceeds of disposition of property of the trust under paragraph 107(2)(a) nor of the cost of property acquired by the beneficiary under paragraph 107(2)(b).
9 October 2015 APFF Financial Strategies and Instruments Roundtable Q. 8, 2015-0593091C6 F
Q.9 S. 70(6) rollover for replacement property
An executor of an estate, whose residue was bequeathed to a spousal trust, paid the estate debts with liquid assets, transferred 75% of the remaining assets to the spousal trust and retained the balance pending a federal clearance certificate. If the executor chooses to sell or otherwise dispose of some of these retained assets (e.g., retracting preferred shares, or selling land), could the s. 70(6) rollover still apply to such properties on the basis that replacement property of equivalent value was distributed to the spousal trust?
CRA response
Subsection 70(6) applies to among other things capital property to which subsection 70(5) applies which, as a consequence of the death of a taxpayer, is transferred or distributed to a trust, created by the taxpayer’s will which complies with the conditions in subparagraphs 70(6)(b)(i) and (ii) (a “Spousal Trust”). Furthermore, it must be shown that the capital property was transferred or distributed so as to be vested indefeasibly in the spousal trust within the period ending 36 months after the death.
We are of the view that subsection 70(6) applies respecting each property of the deceased individually and could apply to a specific property in the residue of the estate. However, subsection 70(6) applies only if the property that the Spousal Trust receives is the same as the property which was deemed to be disposed of by the deceased immediately before death.
The question whether a property is transferred or distributed and whether it has indefeasibly vested in a Spousal Trust in the period provided in subsection 70(6) is a question of fact which must be determined on an examination of the will, the applicable private law, the jurisprudence, as well as all relevant documents and all the circumstances, including the commitments of the deceased made before death.
If an executor, in performing the estate administration, is under an obligation to dispose of property or he exercises his power to dispose of the property, we are of the view that subsection 70(6) is not complied with since the property has not vested indefeasibly in the trust. We consider that a Spousal Trust must ultimately receive the property in order to find indefeasible vesting.
9 October 2015 APFF Financial Strategies and Instruments Roundtable Q. 9, 2015-0596611C6 F