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Taxation | Rusak, Fall 2017 By Talia Ralph

Foundations 5

Who should we tax? Humans 7Residency 7

Ordinary Resident 7Deemed Resident 7Sojourner/Part-time Resident 7Elements to determining residency 8Corporate Residents 8

Who should we tax? Entities 9Partnerships 9Corporations 9

What should we tax? Income 10Why we tax income 10Defining income 10Non-taxable items 10

Windfalls and Gifts 10Gambling winnings (TBD in Profits) 10

Surrogatum principle 10

What should we tax? Wages 11How do we distinguish employees from independent contractors? 11

Taxation Summary | fall 2017 | Me. Rusak

Total Relationship Test (Weibe Doors) 11Employee Benefits 12

What is a benefit? 12Is there any relationship between benefit and employment? 12What is the value of the benefit? 12What defines a benefit? 12

Deductions 13IT-522 Vehicle, Travel and Sales Expenses of Employees 13IT-352R2: Employee's Expenses, Including Work Space in Home Expenses 13IT-518R - Food, Beverages and Entertainment Expenses 14

What should we tax? Profits (from Business or Property) 15Identifying a business and classifying biz income 15Adventure or Concern in the Nature of Trade 16Identifying property and classifying property income 17

When should we tax? Triggers 18Current vs. Capital Expenses 18

When should we tax? Economic Realities 19Time Value of Money 19Timing of Inventory Taxation (see: 13(1)) 19

When should we tax? Fixing Timing Errors 19Cost Recovery 19

Depreciation 19Eligible Capital Expenditures (ECE) 19Undepreciated Capital Cost (UCC) + Capital Cost Allowance (CCA) 20Recapture 20

Terminal Loss 21Recognition of Proceeds of Disposition 21The Half-Year Rule (Notional UCC) 21

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How much should we tax? 23Capital Gains + Losses 23

Preferential treatment for CGs - Capital Gains Exemption 23If they all paid equal shares — the full business owner pays the least 23

Comprehensive Tax Base 24Royal Comission re: Comprehensive Tax Base 24Boundaries of Tax Justice, Christians 24The Case for a Capital Gains Preference, Cunningham + Schenk 24The Lock-In Effect 25CGE for Trusts 25Corporate Integration Regime re: Dividends 25Deemed Realization Rules 25Personal residence exemption (54 2,3,4) 26

Distinguishing between CG and Biz Income 26Investing vs. Trading 26

How should we tax? 28Limits on Taxation 28

Taxpayer Bill of Rights 28Avoidance/Tax Shelters 28

Christians on Avoidance 28

INDEX A: Case Chart 29WHO SHOULD WE TAX? 29

Thomson v MNR (1946) 29Beament v. MNR 29Laerstate 29

WHAT SHOULD WE TAX? Income 30Bellingham v. the Queen FCA (1996) 30Schwartz v. Canada SCC (1996) 30The Queen v. Johnson 30

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Roszko v. The Queen 30Wages (Business/Property vs. Income/employment) 30Independent Contractors vs. Employees 30

Wiebe Door Services Ltd. V MNR (1986) 31Goldman v. MNR (1953) 31Pluri Vox v. The Queen TCC (2011) 31Connor Homes 31

Employee benefits 31Lowe (1996) 31Savage (1983) SCC 32Spence 32Scott v. MNR (1998) 32

Determining Business vs. Property Income 32Leblanc v. the Queen (2006) 33Hammill v. Canada (2004) 33Canderel (1998) SCC 33

Profits 34Friesen v. Canada 34Ludmer c. MNR (2001) SCC 34Bronfman Trust v. R (1987) SCC 35Regal Heights 35

WHEN SHOULD WE TAX? (CCA, depreciation, general anti-avoidance rules, etc.) 35Canada Trustco Mortgage v. R (2005) SCC 35

HOW MUCH/HOW SHOULD WE TAX? 36Scott v. MNR (1963) SCC 36Johns-Manville Canada Inc. v. The Queen (1985) 36

Tax Avoidance 37Regina v. Porisky and Gould (2012) 37783783 Alberta Ltd. v. Canada (2010) 37Duke of Westminister v. Commissioners of Inland Revenue (1936) 37

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SEE ALSO: Canada Trustco. 37

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Foundations Why should we pay taxes?

● Locke : we agree by implied covenant● Hobbes : The classic social structure holds that we agree to be

ruled by a representative gov’t in exchange for safety and security from each other and from other clans/territories

● Public goods must be paid by raising revenue through taxation ● Our revenue raising system, which includes but isn’t limited to

taxation, reflects our societal values

All tax systems need to answer 5 basic questions: 1. Who will the taxpayer? Who will we look to for payment? 2. What will we tax? What will be the base upon which tax is

imposed? 3. When will things happen, i.e. what will trigger an obligation to

pay tax? 4. At what rate do we tax, i.e. how much of the base? 5. How do we implement the ideas ? How will the system be

administered? How will we ensure compliance?

Income Tax Act of 1917 ● Very small % of people paid federal income taxes b/c of low

rates and high exemption levels ● The shift from trade to income tax came as a result of war

(tariff was a “treacherous revenue source” since it relied on the volatile trade market)

○ In WW2, Canadians were called on to sacrifice for the war effort, including by paying into the tax system

● Moved from taxing the wealthy elite to the wage-earning consumer class (from class tax to mass tax)

NOTE: US has no national-level consumption tax like Canada and other countries, but many states and municipalities impose sales taxes

The Power to Tax ● A state must either resort to constant force and threat of force

OR govern in a way that people will voluntarily accept ● However, this creates a tension between individual rights and

state rights ○ Also, a tension between taxation and human rights (i.e.

taxation is viewed as an arbitrary interference on one’s privacy, a deprivation of property, etc.)

How do we justify taxation in a human rights context, then? ● Sovereignty

○ States can tax because their sovereign status demands it

○ The ability and need to tax is often conflated with sovereignty itself

○ Sovereigns have a right to impose their will on anyone they choose

● Contribution to economic outcomes ○ States provide laws, institutions, and mechanisms

necessary to enable market transactions ○ But for the state, individuals wouldn’t be able to

exercise their rights to property, nor would they have any wealth

○ Consistent with social contract theory (Locke/Hobbes)

● Constitutional rights ○ Federal authority to tax is found in s.91(3) of the

Constitution

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○ Provincial authority to tax is also given in s.92(2) and s.92(3)

Conclusions re: states’ powers to tax1. States use their powers with implied consent of people, who

want the things for which they pay taxes 2. Even if states have a right to tax, it’s not unconditional 3. If state’s exercise of tax power becomes offensive to

justice/fairness, it may face justifiable resistance

NOTE: increasing globalization has become a major tension in tax law (people are no longer tied to place)

The Evolving Tax Consensus

● US and Canada used to rely heavily on excise taxes (indirect taxes) = taxes on specific goods like alcohol and tobacco >>> Consumption was thus the trigger to status as a taxpayer

● Now, Canada relies on personal income taxation (direct taxes)

● NOTE: we’ve always relied on both direct and indirect tax

● Canada is fairly average when it comes to taxation amongst OECD countries

○ We rely more heavily on personal income tax ○ We collect the same amount of revenue per GDP %

as other countries ○ Personal income tax thus “shoulders” more of the

national revenue needs ● Because of this, base and rate are highly contested political

matters

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Who should we tax? Humans Residency Resident in Canada: No ITA definition; so we use a plain meaning

● Distinguished from citizen, domicile, visitor ● Heavily fact-based. ASK: “Do they live there?” + look at

context

Ordinarily Resident● Ordinarily resident = where you factually reside, and is a

supplement to the common law on residence outlined in Thomson. You look at primary ties (family, house), and secondary ties (parents, extended family, friends, returning to one place for every weekend and long holiday)

● The ITA section 250(3) stipulates that “a person resident in Canada includes a person who was at the relevant time ordinarily resident in Canada.”

○ This can help to determine whether a person who has been absent from Canada for a significant period of time retains his or her Canadian residence, and reinforces that just because someone may be absent from Canada for a period of time, does not mean they lose their Canadian residence

Deemed Resident● The law presumes some individuals are resident of Canada if

they meet the conditions outlined in 250(1) of the ITA (see ITA Provisions Chart)

● Deeming rule = more than 183 days in Canada = resident Sojourner/Part-time Resident

● Sojourn means less than residence. It is a person who is physically present in Canada, bu on a more transient basis than a resident.

● In most cases, a sojourner would only come to Canada for a short period of time (less than the 183 day deeming rule)

● The ITA does treat these kinds of residents differently. S.114 is a an exception to section 2(2), and it stipulates that you will only be taxed on the income you earn while you are part-time resident in Canada

Elements to determining residency● Where is your permanent home?

○ What if you have two permanent homes? Then this criteria can’t help you.

● Where do you have central, vital, and economic interests? ○ Where your family is ○ Where your job, assets, etc. Are ○ Social + economic ties

● Where is your habitual abode? ○ Where is your day-to-day life?

● Where is your citizenship or nationality? ○ If you have dual citizenship...it’s complex○ Final criteria: two countries have to sit down and look

at the case together (competent authority procedure)

Corporate Residents ● If you’re formed in Canada, but do most of your business in

the US...where do you get taxed? ○ Canada, usually - if you incorporate here, the

assumption = you’re planning to carry on business here

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○ But if you’re incorporated abroad, but your mind and management is in Canada, you’re a resident for tax purposes — to avoid shell corporations setting up in places with more beneficial tax laws. ASK: Where is the Board of directors making decisions?

Relevant ITA provisions: s.2(1) / s.2(3) / s.248 / s.117 / s.250(1)

Relevant cases: Beament v. MNR, Laerstate, Thomson v. MNR. McFayden

Tax TreatiesIn the case of dual residency, tax treaties allocate a taxpayer’s residence to one of the treaty countries. Treaties play an important role in preventing double taxation and enabling Canada to obtain tax information from other countries

Who should we tax? EntitiesPartnerships

● When two or more people come together to engage in an activity for purposes of making a profit a partnership is borne.

● The difficulty with that is sometimes, when two parties are working together, they may not realize they are in a partnerships and of the consequent legal implications associated.

● It is essentially just a contract between two people; the taxation thus “flows through” — For income tax purposes, partnerships and proprietorships are not viewed as taxable entities but as conduits

Corporations● Why do we create corporations? For the purpose of creating a

legal entity: to create something that can have legal entitlements and obligations (especially in terms of liability) of its own, independent of the person that owns it.

● It's impossible to accidently form a corporation (unlike partnership). They are made via an application and have to undergo register procedure.

● Canadian Controlled Private Corporation (CCPC) = corporation that is currently resident in Canada and that was either incorporated in Canada or has been a resident continuously since June 18, 1971

● We tax corporations mostly because we want to prevent them from being used to defer tax

● Income in the corporation doesn’t get taxed ○ If it did, it’d get taxed twice - at the corporation level

and at the payout to the shareholders■ It ends up being an incredibly high rate

● Integration = tax strategy to reimburse corporations for their initial tax payment

○ When the income gets distributed, the rate is paid at the top rate by the shareholders instead of taxed 2x

○ Unless the tax is integrated with the taxation of the incomes of the individuals who hold interests in these organizations, the tax system cannot be either equitable or neutral

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What should we tax? Income Why we tax income

1. Promote fairness/equity ○ Horizontal equity = people with the same ability to

pay should pay the same tax ○ Vertical equity = as you get wealthier, you should pay

more, because your loss of welfare is lower2. Neutrality

○ Taxing income = least distortion of behaviours, because people will always want to earn more income

○ You’re still getting richer, regardless of tax 3. Administrability: how easy it is to administer a tax?

○ Taxing foreigners is very difficult (non-residents have to have sources of Canadian income)

Defining income Haig + Simmons define income economically, to create a comprehensive conception of income

● Income = the ability to pay, i.e. people should be taxed on their entire wealth - tax should be comprehensive

● Income = consumption (while keeping wealth constant) + changes in wealth (you can borrow against and then consume)

○ AS LONG AS YOUR WEALTH INCREASED, YOU’RE TAXED ON THAT (it’s part of your income)

The Canadian income differs from the HS approach because: ● It doesn’t tax capital gains as income, but rather taxes them

when they’re realized (i.e. when they’re sold) ● We don’t tax inheritances or bequests

Non-taxable items Windfalls and Gifts List of relevant but non-conclusive indicators of windfall (Bellingham):

1. No enforceable claim to the payment2. No organized effort to receive payment3. Unsolicited/Not sought after4. Not expected (specifically or customarily)5. No foreseeable element of recurrence6. Not a customary source of income7. No consideration for the payment/No market exchange

Gambling winnings (TBD in Profits)

Surrogatum principle● Amounts received by a taxpayer in the place of income from a

source may be included in income as if such amounts were income from that source

● This principle applies provided that there’s no provision in the ITA that specifically addresses the type of receipt in question. Thus a payment that is made pursuant to a court ruling may be treated for tax purposes as though it’s income from a particular source. (Schwartz)

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Relevant provisions: s.3 / s.4(1)

Relevant cases: Bellingham v. The Queen, Schwartz v. Canada, The Queen v. Johnson, Roszko v. The Queen

What should we tax? WagesNOTE: Salary is computed by reference to a relatively long period, whereas wages are computed by reference to a short period (hr/week). Other remuneration = tips, commissions, other similar amounts.

How do we distinguish employees from independent contractors? ● How much control does the company exercise over the

services of this person? I.e. Do you have the ability to subcontract?

● Where are the tools and resources coming from? Who owns them?

● Exclusivity/integration - are you able to work for other employers? How “tight” are you with that organization?

● Loss/profit - do you run a risk of a loss? (At a fixed salary, you don’t run the risk of a loss)

● Ownership of business - if you own it, you put capital at risk...an employee doesn’t run that risk

● Liability - historically, this was the source of the distinction, but less so now

● Intention of the parties - where do you find this?● Specified results - if you hire someone for a specific purpose,

it could be either; but when you don’t specify, it looks more like an employee

Total Relationship Test (Weibe Doors) Combines the three tests previously used:

1. Control test (employers control of process, methods, etc.)○ high control = employee-employer ○ Low level of control = independent contractor

2. Integration test (is a worker an integral part of the employer's business? Are they economically dependent?)

○ High integration = employee ○ Low integration = contractor

3. Economic reality test (AKA fourfold test, interpreter test) ○ Based on the economic reality, what is your status?

i. Who controls ii. Ownership of tools iii. Chance of profits iv. Risk of loss

DuffArticle 2085 of the CCQ: “A contract of employment is a contract by which a person, the employee, undertakes for a limited period to do work for remuneration, according to the instructions and under the direction or control of another person, the employer.”

● Control seems to be central in the differentiation between employees and IC in Quebec

● Since Wiebe Door, Quebec has applied the general test adopted by the Federal Court of Appeal, considering each of the

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subordinate tests to which it referred in order to evaluate “the total relationship of the parties.”

● In sum: despite the CVL’s emphasis on control in its definition of the employment relationship, for tax purposes the courts have used the same approach as the CML system

Employee Benefits if there was any amount paid by an employer to an employee that can be tied to employment, it is considered remuneration

What is a benefit?● “If it is material acquisition which confers an economic benefit

on the taxpayer and does not constitute an exemption, it is a benefit” (Savage)

● May be conferred upon an employee by an employer in a variety of forms, including the reimbursement of expenses incurred by an employee and the free use of property or services provided by an employer

● Depends on the underlying nature of the expense covered by the benefit: if it is in the nature of personal or living expenses, the benefit should be taxable; if it is in the nature of expenses incurred in the course of carrying out employment duties, the benefit should not be taxable.

Is there any relationship between benefit and employment?● SCC in Savage creates a presumption that any benefit received

by an employee from their employer is derived from the employment relationship. It can be rebutted, but only if the employee can establish that the benefit has been received in his or her personal capacity.

What is the value of the benefit?● Generally determined on the basis of the cost of providing the

benefit by the employer and/or the fair market value of the benefit.

● When it is not appropriate to use the cost to the employer (like when employer provides a vacation home to employee), the fair market value must be used. The classic test is “the price that would be willingly paid by a buyer who does not have to buy to a seller who does not have to sell.” In other words, its objective value.

What defines a benefit?● If a benefit is strongly connected to the employer’s benefit, it

likely won’t be considered income● If the benefit is for the personal enjoyment of the employee,

then it will be included in income (Lowe) ● If there is an economic advantage from the expense conferred

on the employee, then it’s a taxable benefit. If it goes to the employer, it’s not.

Relevant provisions: S.6(1)(a) = value of benefits; S.6(1)(b) = personal or living expenses; S.6(3) payments by employer to employee (deemed remuneration)

Relevant cases: Savage, Lowe, Spence, Scott #1

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Deductions● Income is a net concept. So in order to capture the full picture,

the tax system has to recognize that sometimes it costs money to make money. In other words, being an employee involves spending money on items necessary to conduct the employment activity, which could include feeding and clothing yourself, keeping yourself healthy, getting yourself to work, and so on. The general rules are laid out in section 8.

IT-522 Vehicle, Travel and Sales Expenses of Employees ● Amounts spent in the year for travelling provided the amounts

are reasonable in the circumstances

IT-352R2: Employee's Expenses, Including Work Space in Home ● A taxpayer, in computing income for a taxation year from an

office or employment, can deduct amounts paid in the year as expenses for office rent, supplies and salary to an assistant or substitute if

○ the taxpayer is required by the K of employment to pay rent or salary or supplies;

○ the taxpayer has not been reimbursed and is not entitled to reimbursement for such expenses;

○ these expenses may reasonably be regarded as applicable to the earning of income from the office or employment; and

○ in the case of supplies, they are consumed directly in the performance of the taxpayer's duties of the office or employment.

Work space in home

● Expenses otherwise deductible under paragraph 8(1)(f) or 8(1)(i) (see 5 to 7 below), that relate to any part (hereinafter referred to as the "work space") of a self-contained domestic establishment in which an individual resides, may be deducted only under certain circumstances and within certain limits in computing the individual's income from an office or employment for a taxation year.

Supplies● The word "supplies" as used in subparagraph 8(1)(i)(iii) is

limited to materials that are used up directly in the performance of the duties of the employment. In addition to certain expenses related to a work space in a home, as explained in 5 above, supplies will usually include such items as

○ the cost of gasoline and oil used in the operation of power saws owned by employees in woods operations;

○ dynamite used by miners;(c) bandages and medicines used by salaried doctors;

○ telegrams, long-distance telephone calls and cellular telephone airtime that reasonably relate to the earning of employment income; and

○ various stationery items (other than books) used by teachers, such as pens, pencils, paper clips and charts.

Supplies are not● the monthly basic service charge for a telephone line;● amounts paid to connect or licence a cellular telephone;● special clothing customarily worn or required to be worn by

employees in the performance of their duties; and● any types of tools which generally fall into the category of

equipment.Salaries Paid to an Assistant or Substitute

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● Where an assistant or substitute is hired to assist the taxpayer in the performance of the employment duties, in order for the salary expense to be deductible by the taxpayer, the payment of salary by the taxpayer to the assistant or substitute must be required under the contract of employment between the employer and the taxpayer.

IT-518R - Food, Beverages and Entertainment Expenses● Subsection 67.1(1) provides that costs in respect of the human

consumption of food or beverages, or the enjoyment of entertainment are deemed to be 50% of the lesser of:

○ the amount actually paid or payable in respect of these items; and

○ an amount that would be reasonable in the circumstances to pay for them.

Exceptions to 50%● Provisions of food, beverage or entertainment for

compensation● Fundraising events for registered charities● Amounts for which the taxpayer is compensated● Employer-sponsored events or services available to all

employees, benefits included in an employee’s income or provided to an employee at a remote work location, amounts included in fares for transportation, conferences, conventions and seminars

Relevant provisions: s.8

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What should we tax? Profits (from Business or Property) Profit is a net concept: the revenue inflows are offset by the expenses required to produce them

Why would a taxpayer want their income to be classified under profits from business or property?

● B/C they’re entitled to deductions, unlike personal expenses.● Taxpayers should be able to recover the cost of producing

income. This is the reason we tax profits, not gross income.

Identifying a business and classifying biz income ● Section 248 only gives us a list that what could be considered

as 'business' but doesn't actually give a definition

M.N.R. v. Morden outlines the criteria for businesses: ● the degree of organization that is present in the pursuit of this

activity by the taxpayer,● the existence of special knowledge or inside information that

enables the taxpayer to reduce the element of chance,● the taxpayer's intention to gamble for pleasure as compared

with any intention to gamble as a means of making a living ● the extent of the taxpayer's gambling activities, including the

number and frequency of bets. *illegal businesses are not exempt from tax!

Old test = is there a “reasonable expectation of profit” carrying on the activity in pursuit of profit (i.e. making money, period—gross, not net)

New test (Stewart) = Is the taxpayer carrying on their business as an activity in the pursuit of making money?

● “Reasonable expectation of profit” = is still used in terms of net profit, but only used to determine if hobbies and personal activities can be taxed as businesses

○ If you have a hobby and you reasonably expect profit on a net basis, then it can be construed as a business

● For all other businesses, it’s about “pursuit of profit” = If you don’t have a personal activity, but are trying to determine if it’s sufficiently organized enough to be a business (subjective test)

What is included in business profit? ● Proceeds + consideration for goods/services ● Interest

○ Interest on property is clear (i.e. you lend money and the person pays you back in interest)

○ Even when interest is disguised, it’s still taxed (12(1)(c))

● Dividends ● Timber royalties ● rents/royalties, i.e. for patents

○ grants of perpetual/exclusive licenses also happen (but these are seen as as sales of the brand/trademark)

Deductions In Canderell, the SCC outlined the principles of determining profits:

1. The determination of profit is a question of law.2. A biz’s profit for a tax year = the year’s revenues - expenses 3. The goal = an accurate picture of the taxpayer’s yearly profit.

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4. In ascertaining profit, the taxpayer can use: a. the provisions of the Income Tax Act;b. established case law principles or “rules of law”; andc. well-accepted business principles.

5. Well-accepted biz principles are interpretive aids. The may influence the calculation of income on a case-by-case basis

6. On reassessment, the onus shifts to the Minister to show either that the figure provided does not represent an accurate picture, or that another method of computation would provide a more accurate picture.

Adventure or Concern in the Nature of Trade● If a taxpayer consistently carries on an activity that is capable

of producing a profit, then the taxpayer is carrying on a trade or business, even though the activity may be separate from the taxpayer's ordinary occupation.

● If such an activity is done infrequently, or only once, it is still possible to conclude that the taxpayer is engaged in a business transaction, if it can be shown that there was an adventure or concern in the nature of trade

○ An adventure or concern in the nature of trade is included in the definition of business in 248(1).

○ A taxpayer who engaged in a transaction that is considered an ACNT is not necessarily considered to be carrying on a business

○ An isolated transaction could be considered an adventure in the nature of trade, while a series of transactions could constitute a situation where the taxpayer is carrying or has carried on a business.

Tests for determining ACNT

1. whether the taxpayer dealt with the property acquired by him in the same way as a dealer in such property ordinarily would deal with it;

2. whether the nature and quantity of the property excludes the possibility that its sale was the realization of an investment or was otherwise of a capital nature, or that it could have disposed of other than in a transaction of a trading nature;

3. whether the taxpayer's intention, as established or deduced, is consistent with other evidence pointing to a trading motivation.

Factors, in and of themselves, that are not sufficient to prevent a finding that a transaction was an ACNT:

● the transaction was a single or isolated one● the taxpayer did not create any organization to carry-out the

transaction● the transaction is totally different from any of the taxpayer’s

other activities and they never entered into such a transaction either before or since.

Identifying property and classifying property incomeSubsection 248(1) defines property for tax purposes as “property of any kind whatever whether real or personal or corporeal or incorporeal,” and including this nonexclusive list:

● a right of any kind whatever, a share or a chose in action;● unless a contrary intention is evident, money; ● a timber resource property; and, ● the work in progress of a business that is a profession

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The Meaning of 'Enterprise,' 'Business' and 'Business Profits' Under Tax Treaties and EU Tax Law — Kim BrooksNOTE: The difference between income from property and business in CAD jurisprudence is based on the amount of services the taxpayer performs in earning the income

Income from property = passively renting property ● Interest = any amount received or receivable by the taxpayer

in the year [...] as, on account of, in lieu of payment or in satisfaction of, interest (s.12)

○ E.g. any amount you charge someone for the use of your money over a time period

● Rents + royalties = income derived from letting another person use your property for a certain time period or certain use (i.e. “a receipt dependent on the use of or production from property” - see s.12(g))

○ Royalties = intangible/intellectual property ○ Rent = physical or real property

● Dividends = payments made out to shareholders out of corporate business profits (12(1)(j) and (k))

Income from business = earned from a combination of property and services

The distinction between income from property and business may be important in some cases, such as:

● If a CCPF is carrying on a business, it is entitled to claim small business credit (reducing its corporate tax)

○ A property investment is not considered a business activity for this purpose unless the corporation has at least 5 full-time employees

● If a corporate taxpayer is earning business income in a country with which Canada has a tax treaty, the income is exempt from CAD tax

Relevant provisions: s.9 / s.10 / s.12 / s.67Relevant cases: Hamill, LeBlanc, Canderell, Friesen, Bronfman Trust, Canada Trustco Mortgage

When should we tax? Triggers3 DEDUCTIONS FOR BIZ AND PROPERTY

(1) Cost of goods sold / inventory (2) Depreciation (3) Interest

Current vs. Capital Expenses How do we characterize dual-nature expenses?

● i.e. taking a client to a baseball game -- you like it, but you might also be developing your business

CENTRAL TEST: Is it an enduring benefit? Does it contribute to the structure of the business?

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RESIDUAL TEST: Is the expense incurred in the income-earning process? We learn towards a current deduction in favour of the taxpayer.

TYPE OF EXPENSE

Current expenses Capital Expenses Non-Depreciable/Investments

DEFINITION expenses incurred in the current year to generate income in the current year

Expenses incurred in a particular year but produce benefit not only that year but in subsequent years

You took cash and converted it into another long-lasting asset

EXAMPLES i.e. repairs, painting a building, rent, utilities for an office building

If you completely change the house’s siding, it’ll be capital — you’ve improved the building

a company car, buying a building

Capital gains, purchasing land

TAX TREATMENT

Deduct in the year incurred (tax now)

Depreciable property (CCA) (tax later)- the only expense you can amortize over the assumed

life cycle of the asset- Some rates are set to incentivize people, i.e. for

manufacturing equipment

Intangibles/“Nothings” (ECE)- NOTE: these can be depreciated- i.e. IP, contract rights

We don’t allow people to deduct these each year — they’re taxed on dispositionSee: 18(1)(b) - doesn’t depreciate, so isn’t deductibleSome deductions available once you sell

When should we tax? Economic Realities Time Value of Money

● RULE OF THUMB: take the expense as early as possible, and defer the recognition of income as long as possible

● Taxation often doesn’t recognize inflation

Timing of Inventory Taxation (see: 13(1)) ● You can only claim a deduction in the year of sale ● Closing inventory = valued at the lower of FMV or Capital $

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When should we tax? Fixing Timing ErrorsCost Recovery Three possible times to accomplish cost recovery through taxation:

1. Upon purchase2. Upon disposition3. During the term of ownership

Depreciation Allows taxpayers to deduct a portion of the cost of a capital property over time, and tries to match the economic depreciation2 Depreciation methods:

1. Declining balance method (The method that’s used for CCA) = annual amount of depreciation is based on a fixed percentage of the asset’s written down cost (after taking into account depreciation from previous year)

○ Eg. asset cost $100, and 10% depreciation rate○ Deduct 10% of costs in Y1 ($10)○ Y2 = $100-$10 = $90 (undepreciated capital cost-

UCC), then take 10% of that, etc etc. i. You can choose to deduct nothing or deduct

anything up to the amount to which you’re entitled (hence “may” in 20(1)(a))

ii. If you choose not to deduct in one year, cannot add it to amount another year

2. Straight line method: the cost of the asset is allocated evenly over the asset’s useful life

○ you would always take away the $10, every year (10% of the original cost each time)

○ Used for patents, franchise, leasehold improvement

NOTE : You can only depreciate assets used for business or property

Eligible Capital Expenditures (ECE) ● “Nothings” AKA purchased goodwill, customer lists, stock

options that are subject to depreciation ● Don’t exist as of Jan. 1, 2017 — are folded into CCA class 14.1

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Undepreciated Capital Cost (UCC) + Capital Cost Allowance (CCA) ● CCA = deduction for depreciation on the amount laid down

○ ITS A YEAR END CONCEPT - don’t calculate it at the beginning of Y1

● UCC = the amount remaining on which you have not yet claimed depreciation (AKA cost - previous years’ depreciation)

● Classes = things that have a similar useful life are taxed at the same rate of depreciation

Special rules re: cost of acquisition of property ● Building costs include soft costs attributable to the

construction, renovation or alteration● Property acquired by way of a gift = cost is set as FMV as the

time of the gift ● “Roll-overs” allow the cost of property to the transferee to be

the original cost to the transferor, irrespective of FMV at time of transfer

● When a taxpayer acquires property from a non-arms-length person (i.e. a blood relationship, marriage, adoption, OR a corporation and the person who controls the corp, is part of a related group that controls the corp, and any of their blood relations) for above FMV, the cost is deemed to be FMV

UCC = (A + B) - (E + F) A = total capital cost of a depreciable property | B = additions to capital cost (e.g. renovations) | E = CCA taken (total depreciation before time of calculation) | F = amount in respect of disposition (lesser of Price Of Disposition and capital cost)_____________________________________________________

CCA = UCC x Rate of the class

e.g. calculation of UCC

Y1 - Purchase of asset A = $20,000, Asset B = $10,000 Class: 30% depreciation rate

● UCC in Y1 = ($30,000 + 0) - (0 + 0) = $30,000 ○ So you can claim 30% of your $30,000 as CCA =

$9,000 ● UCC in Y2 = ($30,000 + 0) - ($9,000 + 0) = $21,000

○ CCA = 30% of $21,000 = $6,300 ● UCC in Y3 = $30,000 - $9,000 - $6,300 = $14,700 at 30%

Recapture = When you’ve depreciated too much, your earnings need to be added back in and counted as income See: s.13(1)

● i.e. when items E + F of the UCC computation exceed A+B, the negative balance must be included in income

NOTE: Recapture is about all the assets a business has, not just one.E.g. calculation of recapture

● Capital cost = $100 ● CCA = $60 (Y1-Y3) ● UCC = $40 ● But, if you turn around and sell your asset for $55 in Y4…

You’ve recaptured $15

So what is that $15? What do we do with it? ● That it’s extra CCA taken in Y1-Y3, which needs to be

recaptured as an income inclusion

e.g. What if someone buys it for $120 in Y4? ● The CCA deduction shouldn’t have been given! It’s worth

more. ● The full $60 that you’ve depreciated will be included in income ● What’s the $20? A capital gain.

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Recapture = Purchase price of the asset - UCC_____________________________________________

Capital gain = FMV - Capital Cost

Terminal Loss ● The opposite of recapture—when you haven’t deprecated

enough and so you’ve taken less CCA than you should have ○ i.e. if you sell the asset for less than the UCC, the

economic value of your asset has gone below the tax depreciation allowed in the class

■ e.g. UCC = $40; FMV =$20 ■ There is an additional depreciation of 20$

● s.20(16) - you can take a deduction on your income for the year of disposition

● 16(a) - any deduction has to be reasonable, including purchase price allocation

○ You can’t put the full allocation on the purchase price unreasonably

● Reg. 1100(2) - you only include ½ of your capital cost for the year of purchase (cut your CCA, not your UCC)

Recognition of Proceeds of Disposition ● POD is accounted for when the proceeds become receivable,

AKA when taxpayer has acquired the legal rights to realize the payment — usually when title has passed, though possession, use, risk also should be considered

● In terms of involuntary disposition, i.e. expropriation, loss, theft, destruction) a property is disposed of at the earliest of (1) the date of agreement fixing full compensation (2) the date on which a board/tribunal/court determines the amount (3) two years after the loss

The Half-Year Rule (Notional UCC) In the year of acquisition of a depreciable property, you can only count 50% of your CCA for that first year e.g. In Y1 the taxpayer purchases four Class 8 assets at a unit cost of $100/each. There is no disposition of any assets during the year.

● The actual UCC (without applying the half-year rule in Reg. 1100(2)) is $400 (which is equal to element A in the UCC formula; all other elements of the formula being nil).

● The notional UCC under Reg. 1100(2) is $200○ i.e. Actual UCC of $400 - 50% (acquisitions of $400 -

dispositions of $0) = $400 - $200 = $200. ○ Thus, the amount of CCA is $40, which is $200 (UCC)

x 20% (Class 8 rate).Suppose in Y2 the taxpayer purchases another Class 8 asset at a cost of $100, and sells a Class 8 asset for proceeds of disposition of $80. The elements of UCC are the following:

● A is $500, the total capital cost of assets ($400 + $100)● B is $0● E is $40, the depreciation allowed in Y1● F is $80, the lesser of the POD ($80) and CC ($100)

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○ UCC = (A+B)-(E+F)=$500-($40+$80)=$380● Thus, the actual UCC at the end of Year 2 is $380● Under the half-year rule, the notional UCC is $380 (actual

UCC) - 50% of ($100 (cost of new property acquired) - $80 (proceeds of disposition of asset purchased in Year 1))

● The amount of CCA in Year 2 is, thus, $74 ($370 x 20%). Because we take into account the disposition of assets, the notional UCC is not equal to 50% of the cost of the new asset acquired. It is a completely different amount.

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How much should we tax? Capital Gains + LossesCapital gain = income from disposition of property that would not otherwise be included under s.3

● Calculated as separate category from “income from a source” ● s.3(b) - do I have income from biz, prop, employ,

office? No? Then it goes in the CG pool. ● s.38(a) - taxable capital gain = ½ your total capital gain ● s.38(b) - allowable capital loss = ½ total capital loss ● s.39 - essentially, CG must be a gain● 40(1)(b) - inventory could be counted as a capital gain

if not for this section (inventory only gives rise to income under biz via s.3(a))

● NOTE: TCG does not take into account depreciation (you’re not basing your ACB on your UCC)

● s.20(16) = Allows you to take additional depreciation when you sell an asset for below what you paid for it

○ Depreciable property can never count as a capital loss — The only loss you can realize is terminal loss (insufficient depreciation)

Capital gain (CG) = Price of Disposition (POD) - (Actual Cost Base (ACB) + disposition expenses) (s.40)

NOTE: ONLY when your gain is positive (minus all disposition expenses, i.e. real estate agent, lawyer)

Preferential treatment for CGs - Capital Gains ExemptionCGs are different from income from business or property because:

1. They’re taxed preferentially (50%) 2. They’re only taxed on realization

a. CGE - Capital Gains Exemption - the first $850,000 of certain assets are not taxed

3. Principal residence exemption - you can sell your principal residence and not pay a tax

e.g. Alex, Betty, and Carol all have a unit in an apartment (Business use, personal use, mixed use of the property)

● Pipe bursts, repairs are $900 — Looks more like a current expense. How much should each person pay?

○ Whoever uses it for business/property can deduct the expense from her income

○ Presumably, the person who uses the space fully for biz should pay the most

If they all paid equal shares — the full business owner pays the least

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Arguments for CGE Arguments against CGE

1- Administrative difficulty of taxing capital gains on an accrual basis (you have to value financial assets that fluctuate…?)

2 - Putting taxpayers in a position to pay cash that they don’t have (a fictitious gain)

3 - No way to account for inflation

4 - Corporate tax preference

5- Encourage the accumulation of wealth / Encourages people to save rather than spend (but this has never been studied)

1- Horizontal equityTaxpayers with the same ability to pay should pay the same tax

2 - Vertical equityTaxpayers with a higher ability to pay should pay more tax

Comprehensive Tax Base Royal Comission re: Comprehensive Tax Base

- CTB = people should be taxed on their entire wealth, AKA both income and capital

- Argues against the CGE because “a dollar gained through the sale of a share, bond, or piece of real property bestows exactly the same economic power as a dollar gained through employment or biz”

- Therefore, equity principles dictate they should be taxed in the same way

Boundaries of Tax Justice, Christians 3 principles to designing a just tax system:

1. Taxation as a matter of state choice 2. Income taxation as the just choice 3. Taxpayers + their income: thresholds to just taxation ● Result: construct a comprehensive tax base

The Case for a Capital Gains Preference, Cunningham + Schenk LOW-DOWN: “The argument that a CG preference would stimulate economic growth is not very compelling” - depends on how much the preference would increase domestic investments / they’re against the CGP because it doesn’t actually solve any of these problems:

● Bunching (i.e. CGP is to account for the fact that people would get hit with a super-high tax rate when they dispose of capital property, BUT CGP isn’t targeted to doesn’t really help those few cases)

● Double tax on corporate earnings: CGP is a second-best solution, integration is 1st

● Inflation: CGE exclusion bears no relation to actual inflation or time the asset is held

● Risk: CGE encourages risk-taking (but not really b/c its unclear that the income tax discourages risk-taking in the first place)

● Lock-in effect > would not exist if gains were taxed as they were accrued! Also makes everyday transactions more complex b/c people are trying to turn them into CG transactions (not a productive use of time + resources, and breeds uncertainty b/c it’s not applied to all capital

The Lock-In Effect ● Full taxation on CGs creates a lock-in bias — people don’t

want to dispose of assets b/c they don’t want to get taxed

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○ If we give people ½ the tax rate, they’ll be more likely to dispose assets, and their economic behavior will be less distorted by the “lock-in effect”

○ 1972-1989: CGs were taxed at 75%

CGE for Trusts● They die every 21 years ● You can transfer capital gains to a trust for your spouse and

children and avoid some tax implications The point: if you are expecting to accumulate capital gains, and you want to limit your exposure upon death, you can transfer them to other persons, and for as long as they live they’re not going to be taxed

Corporate Integration Regime re: Dividends Integration = tax strategy to reimburse corporations for their initial tax paymentDividends = NOT capital gains; a return of corporate profit proportionally to the ultimate owners of the biz, shareholders

● When the income gets distributed, the rate is paid at the top rate by the shareholders instead of taxed 2x

● Unless the tax is integrated with the taxation of the incomes of the individuals who hold interests in these organizations, the tax system cannot be either equitable or neutral

How do we justify the capital gains exemption for stocks? ● Corporate tax rate is 26.7%; Shareholders get reimbursed the

corporate tax to pay their personal tax ● Individuals get taxed at 54% — but they can recover ½ of the

capital gain through being reimbursed corporate taxes ○ We have corporate tax to make corps pre-pay the tax

before it gets distributed to shareholders

○ The corporate tax thus gets reimbursed to shareholders

● Dividend Tax Credit (DTC): you gross-up (multiply by 1.38) your dividend so it goes back to pretax corporate earnings; then, you figure out how much tax you would pay on that amount based on your marginal rate; last, you subtract the DTC of 15.02% from your gross amount + any provincial credits

So shouldn’t we also give preference (dividend tax credit for corporate taxes) when shareholders sell to third parties?

● That’s how we justify the capital gain exemption for shares ● 50% is how we give preference to capital gains because of

situations like the above

Deemed Realization Rules● S.70(5) realization with death: gains on capital property are

realized immediately before death, but then the property is immediately reacquired by the estate. It has full ACB so it isn't taxed by the heirs

● 128.1(1) departure. If you leave Canada at some point during the year, your residency status changes. The rules deem a person to have disposed of all property before departure

○ The gain is realized at time of departure, and Canada taxes that gain, so you leave with full ACB

● 45(1) change in use - when you have business property that you convert to personal property, there is a deemed disposition at FMV.

● You use to be using it as B property, but now you live in it. Now, because its personal, the CCA is not deductible because every deduction has to be related to income from biz or prop

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○ When you change the use we recognize a deemed disposition. We recognize a recapture at 13(21)

○ Only works if you change the use from income earning to personal. If it’s the other way there is not deemed disposition. You'd be entitled to exemption for selling you home (personal residence exemption)

● 104(7) If you put your money in the trust to avoid the disposition at death, you still get taxed, but its earlier so you will conceivably pay less in tax because the trust will grow in value. But every 21 years a trust is deemed to die (so dispose of all its property.)

Personal residence exemption (54 2,3,4)

E= CG (1+n)/P. (the 1 allows for people to get a bit of a tax break) (N is number of years where the property was the principal residence, and P is the number of years you’ve owned the residence)

● Say you own property for 10 years, but only live in it for 5. you realized a gain of $100

○ 100(1+5)/10 = 60○ You can claim $60 as personal residence exemption○ To calculate the taxable gain, it’s the Gain - exemption

Distinguishing between CG and Biz Income ● GENERAL RULE: when property is purchased for some

purpose other than resale, any gain/loss on disposition is a capital loss

Investing vs. Trading ● Depreciable property “straddles” biz profit and CG schemes

● Characterization depends on facts of each case and whether the taxpayer is:

○ A trader who buys/sells properties in the ordinary course of biz (BIZ)

○ A speculator who buys prop in the hope of selling it fast to earn a profit (BIZ)

○ An investor who buys a property to hold and use to earn income or for personal use (CG)

Trading (biz activity)

Investing(Capital gain)

Skill and experience HIGH LOW

Amount/frequency of transactions (most

important)

HIGH (lots) LOW (not lots)

Isolated transaction? YES NO

Intent or secondary intent?

NOTE: 2ndary intent needs to exist at time of

purchase

Quick OR eventual resale

hold property as regular income, or any other purpose

Money used Borrowed funds Savings/other

Period of ownership (most important)

SHORT LONG

Efforts made to attract purchasers/make the property marketable

YES NO (but can be sometimes)

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Transaction’s relationship to the

taxpayer’s ordinary biz

CLOSE RELATIONSHIP

NOT CLOSE

● GENERALLY: Where a transaction yields a gain, taxpayers want it to be CG; when it’s a loss, taxpayer wants it to be biz and thus deductible in full

● NOTE: Canadian securities are allowed to be treated as capital property (available to everyone who is a Canadian resident except for traders or dealer in securities) - s.39(4)

Relevant provisions: s.39(2), s.39(4), s. 45, s. 46, s.54

Relevant cases: Scott v. MNR, Johns-Manville Canada

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How should we tax?Limits on Taxation Taxpayer Bill of RightsNOTE: These are not contained in law; they’re non-binding articulations. There’s technically no legal remedies.

1. You have the right to receive entitlements and to pay no more and no less than what is required by law. 2. You have the right to service in both official languages. 3. You have the right to privacy and confidentiality. 4. You have the right to a formal review and a subsequent appeal. 5. You have the right to be treated professionally, courteously, and fairly. 6. You have the right to complete, accurate, clear, and timely information. 7. You have the right, unless otherwise provided by law, not to pay income tax amounts in dispute before you have had an impartial review. 8. You have the right to have the law applied consistently. 9. You have the right to lodge a service complaint and to be provided with an explanation of our findings. 10. You have the right to have the costs of compliance taken into account when administering tax legislation. 11. You have the right to expect us to be accountable. 12. You have the right to relief from penalties and interest under tax legislation because of extraordinary circumstances. 13. You have the right to expect us to publish our service standards and report annually. 14. You have the right to expect us to warn you about questionable tax schemes in a timely manner. 15. You have the right to be represented by a person of your choice. 16. You have the right to lodge a service complaint and request a formal review without fear of reprisal.

Avoidance/Tax Shelters FUN FACT: There is a legal right to avoid tax!

Canada Trustco: In order for the MNR/CRA to use general anti-avoidance rules (GAAR) to void/block a transaction, 3 elements must be established:

1. Transaction gave rise to a tax benefit re: s.2452. The principal purpose of the transaction is to realize a benefit 3. It causes abusive tax avoidance re: s.245(4)

a. Why is the benefit incurred available under the ITA? b. Did the impugned avoidance transaction frustrate/do

violence to Parliament’s intent in enacting the provisions?

Christians on Avoidance● We’ve moved to using soft-law instruments (NGOS, activism,

media) to push tax policy towards viening tax avoidance as immoral, which through flawed logic should make it illegal

● This transparency should creare pressure on the gov’t, not create a non-legal standard

● AC says there is a difference between evasion and avoidance and the gov’t needs to draw the line in law to prevent the blurring of those lines

○ These can be enforced with compliance to agreed-upon rules and standards, not the court of public opinion

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INDEX A: Case Chart Case Facts Holding / Ratio

WHO SHOULD WE TAX?

Thomson v MNR (1946)

Thomson is super rich and become a resident of Bermuda to avoid taxation in Canada. Also has mansions in North Carolina and New Brunswick, spent a lot of time in the NB home.

Thomson is a resident. To define residency, use common sense and contextual definition. “Sojourn” means “temporary residence or residence for a temporary purpose.”

Beament v. MNR B was a volunteer soldier in the CDN army before practising law in Ottawa. He married aUK citizen and established a home there until 1946, when he moved back to Canada w/wife and kids.

The words “resident” and “ordinarily resident” should be given their everyday meaning — so he’s entitled to the income tax deduction during his period of absence

McFadyen v R (2000)

Taxpayer moved to Japan with his wife, who accepted a position at the Canadian embassy there. The taxpayer lived in Japan for three years and was employed there at various times. While in Japan he obtained a certificate of residency of Japan.

The court concluded that the taxpayer maintained ties with Canada that were largely economic but partly personal (family ties, real property, furniture and appliances, Bank accounts, a safety deposit box, registered retirement savings plan, credit cards, and a provincial driver’s license), and thus considered him to be ordinarily resident in Canada during the period he was in Japan. Plus, he ultimately went back to Canada after his time in Japan, so that supported the court’s conclusion that he never truly severed ties with Canada.

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Laerstate Trying to figure out where the Central Management and Control (CMC) and Place of Effective Management (POEM) of Laerstate, who had one sole shareholder and director, was - UK or Netherlands.

CMC = “where a business keeps house and does business, where the real business is carried on” - a question of fact● A board needs to use its discretion in order to be found as CMC; if they’re just acting on the director’s instructions and not

deciding on their own, the CMC rests with the director/decision-maker

POEM = a tie-breaker for dual-resident companies, purpose is to decide where the “real, effective” management is found when different activities are happening in diff. States

WHAT SHOULD WE TAX? Income

Bellingham v. the Queen FCA (1996)

B’s lands were expropriated by the provincial government. He got compensation that was the value of the land, interest (to compensate for not receiving all the cash at once), and another type of “interest” that was penal for under-compensation.

The penal interest looked like a windfall/gift, and thus is not taxable. Windfalls are not taxable. Court defines income from a source as (a) Recurrent (b) Expected (c) Consideration/quid pro quo and (d) From a productive source (i.e. source needs to be able to produce income)

Schwartz v. Canada SCC (1996)

S was hired, promised income + stock options. 2 months before he started, the company cancels the contract. S sues for compensation. Gov’t wanted to tax this as income from employment; he argued it was a non-taxable amount.

Court rules this is an amount for wrongful dismissal; it’s almost like a damage or tort compensation. Thus, not taxable.

The Queen v. Johnson

J bought into a Ponzi scheme and made $30,000, but last check didn’t cash. Court ruled that her profit from the scheme was taxable.

It doesn’t matter how the salary was received, it counts as income if it meets the criteria set out above.

Roszko v. The Queen

R was lending money and promised interest in return, but got only 20% of his total capital back. There was a written K re: how the money should be invested.

Court ruled that he was not taxable; loan had to be invested in a specific way, and he needed to be paid interest, according to the K.

Wages (Business/Property vs. Income/employment)

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Independent Contractors vs. Employees

Wiebe Door Services Ltd. V MNR (1986)

WD installs/repairs doors via workers who operate as if they are running their own business. They are responsible for their own taxes, tools, contributions for workers’ compensation, EI, and Pension Plan. Are they independent Kers or employees?

Established the “total relationship” test for determining if workers are employees or ICs. See notes above.

Goldman v. MNR (1953)

Goldman is a shareholder representing a committee in a company which hired “Mr. Black” to provide legal services to the committee. G and B struck a deal to get some of B’s remuneration to G.G characterizes it as a windfall (unexpected amount). Was the amount of money a gift (non-taxable) or remuneration (taxable)?

Gratuity, aka a windfall in connection with your employment, is taxable. Even though it looked like a gift, the arrangement between the parties was that G would get remuneration. The company bore the cost of the payment.

Pluri Vox v. The Queen TCC (2011)

PV carries on the business of media monitoring and translation. The company operated without much supervision. R does not participate in daily operations of the company. He also has a law practice. He is the only shareholder and directs the activities of PV. R determines the contractors pay. No contract between PV + R. According to R, he is an IC since he incurs risk.

Employees who make commission are still employees. Traditional IC v. E tests don’t work well in cases of sole directors/shareholders.

Connor Homes Were the workers staffing CH employees, or independent contractors?

Establishes 2-step test where you look (1) at the intentions of the parties via contract language etc and then (2) if that is reflected in reality (using the Wiebe Doors four-in-one test of control, integration, and economic reality - Ownership of tools, Chance of profits, Risk of loss etc.)

Employee benefits

Lowe (1996) L was an account exec at an insurance company. Co. organized a trip for all the brokers to NOLA, got L and his wife plane tickets, hotels, etc. The trip also covered entertainment - dinners, social

Test: A benefit is an economic advantage conferred onto the employe. If it offers a personal economic advantage to the taxpayer, it’s taxable; if there’s no economic advantage to them,

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events, etc. Can L. write it off as a benefit? it’s not includable.

Court ruled the trip was not taxable, because there’s no personal economic advantage for L and his wife. The employer got the economic advantage, not the employee.

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Savage (1983) SCC

S was working for insurance company. Ambitious insurance salespeople could take professional development courses. They would pay themselves, but if they passed, the employer would give you a bonus. Is the bonus an employee benefit?

Court says yes, it is —benefit doesn't have to be a payment for services. In respect of employment can be broad. The benefit wouldn't have gone to anyone else who wasn't employed at her company.

Spence Employees of a private school were allowed to enroll their children for a lower price. Is that a taxable benefit? Yes. The court said they are receiving a benefit, but...what was the value?It cost the school $7,000/child to offer this program; normal tuition was $10,000, the employees were paying $5,000.

EQUITY IN TAX LAW - taxpayers in the same economic position should pay the same amount of tax. i.e. people who send their kids to the same school should pay the same amount of tax. You shouldn’t be economically advantaged because you pay less, so courts look at the fair market value of the benefit ($10,000) and tax you on that.

Scott v. MNR (1998)

Scott was a courier who made most of his deliveries on foot. The high level of physical exertion caused him to require one extra meal per day. TP wanted to deduct the expense of this meal – Minister disallowed it.

Scott was entitled to deduct the cost of meals above what a person would normally eat at work. Normally, food/water expenses are not deductible as “the human need for food and water exists apart from the business.” But in this case, the court was able to draw an analogy between a vehicle courier (who may deduct the cost of gas) and the TP who uses his body as the “vehicle” and food and water as “gas.” Thus, the TP was justified in deducting that portion of the “fuel” used solely as a business purpose (i.e., the food consumed above what a person would normally consume in a normal business).

The Court claimed this case should not be read broadly. So a construction worker can’t deduct the extra cost of food even if the work is physically demanding because there is no analogy like fuel in the form of food versus fuel in the form of gasoline.

NOTE: No other court cases use Scott.

Determining Business vs. Property Income

Leblanc v. the Queen (2006)

Two weirdo brothers invested millions of dollars in gambling; had friends helping them, made huge profits. Did not report their income as biz income, but CRA says they should have.

Gambling profits are windfalls, thus not taxable. There cannot be a reasonable expectation of profit in gambling, and you can’t deduct the losses—then everyone who lost at gambling would have a biz loss!Organization is paramount. Business is a source, it needs to produce income. Gambling is not capable of this.If significant expertise and skill used, then the profits could be

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taxable, but this is rare. The element of chance is so significant that you can’t sufficiently organize yourself to bend bets.

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Hammill v. Canada (2004)

The appellant is arguing for the deductibility of expenses ($1,651,766) he incurred while selling precious gems to/with a fraudulent selling agent.The fraudulent company also had possession of the appellant's gems.

The resale was fraudulent from the beginning.The appellant didn't do his homework. He was a victim. To determine whether income occurred from business, we have to determine whether or not there is a business. If we can prove that there was fraud, then it cannot be a business.If it is not a business, then we cannot allow deductions. (see s.67)

Canderel (1998) SCC

Canderel, a developer of commercial real estate, deducted from its income for the 1986 taxation year tenant inducement payments (TIPs) totalling just over $4 million. The CRA disallowed the deduction. Were the TIPs were deductible from income entirely in the year in which they were incurred, or should they be amortized over the terms of the leases to which they related?

TIPS were deductible in the year they were incurred.Court outlined the principles of determining income:(1) The determination of profit is a question of law.(2) The profit of a business for a taxation year is to be determined by deducting expenses from revenues for that year(3) The goal is to obtain an accurate picture of the taxpayer’s profit for the given year.(4) In ascertaining profit, the taxpayer is free to adopt any method which is not inconsistent with

(a) the provisions of the Income Tax Act;(b) established case law principles or “rules of law”;(c) well-accepted business principles.

(5) Well-accepted business principles are not rules of law but interpretive aids. The may influence the calculation of income, on a case-by-case basis, depending on the facts.(6) On reassessment, once the taxpayer has shown that he has provided an accurate picture of income for the year, which is consistent with the Act, the case law, and well-accepted business principles, the onus shifts to the Minister to show either that the figure provided does not represent an accurate picture, or that another method of computation would provide a more accurate picture.

The net test now is1. Do you have an organized activity?

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2. Do you have an intention to make money (gross terms)?

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Profits

Friesen v. Canada F buys land, holds it for 5 years. He had a loss on the land, but it went down every year, so it was foreclosed. He argued that he didn’t buy an investment property, but as a business (includes ACNT — a single transaction can be considered a business) and the land was inventory. He wanted to claim the deduction by claiming the lower of FMV and cost. Can he?

10.(1.01) - for one-time transactions, if you’re dealing with ACNT, you can only value your inventory at cost. This is to prevent people from buying real estate and taking full deductions from the loss instead of capital losses.

Ludmer c. MNR (2001) SCC

To determine whether borrowed $ has been put to an eligible use under s.20(1)(c)(i), it has to have been used “for the purpose of earning income” >>> the test is whether the taxpayer had a reasonable expectation of earning income at the time the investment is made — Does not have to be “net income” but just income4 elements must be present to allow for interest deduction (Shell Canada):

1. The amount must be paid or payable in the year in which it is sought to be deducted2. The amount must be paid pursuant to a legal obligation to pay interest on borrowed money3. The borrowed money must be used for earning non-exempt income from biz/prop4. The amount must be reasonable, as assessed by above requirements

Bronfman Trust v. R (1987) SCC

Trust borrowed $ to make a capital distribution to beneficiaries without selling assets, otherwise they would have lost their income-earning property. They borrowed to preserve income-earning assets! NOTE: this was the first case to look closely at deductibility of interest

20(1)(c) — when do you actually have borrowed money for the purposes of earning income from business or property?

Purpose test: Money must be used for the purpose of earning income from business or property. This income wasn’t USED for biz income ; it was used for capital distribution. You have to look at the direct use of borrowed funds >>> you have to trace the money directly to the income-producing use.

Regal Heights RH wanted to buy land for shopping center – Prime real estate near the Trans-Canada HWY. Partnership formed, bought land, transferred to corporation. Never managed to sign an anchor tenant. So it subdivided the land, sold it. Was the sale biz income or a capital gain?

Primary objective – Earning rental income which is recognized as income from a business. Found a secondary objective – To sell for a profit (a plan B). Court finds that that there was always an intention to sell for profit if the mall did not pan out – Was an ACNT, thus biz income.

NOTE: if you buy property with the intention of making money on disposition, then it is BUS INCOME. Capital gain is

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the enhanced realization, it’s not really an intention, but more just something that happens by chance, it is not when you plan to make money on disposition. Thus in Regal, the primary intention – to develop – and thus if eventually resold, then it would be capital gain b/c the resale was mere enhanced value

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WHEN SHOULD WE TAX? (CCA, depreciation, general anti-avoidance rules, etc.)

Canada Trustco Mortgage v. R (2005) SCC

A taxpayer who lent mortgages + leased assets; he bought trucks, leased them back to the vendors, and claimed CCA to realize a tax advantage. Is that cool?

Yes, it is - this was a regular buy-and-leaseback agreement which is part of commercial dealings.

In order for the MNR/CRA to use general anti-avoidance rules (GAAR) to void/block a transaction, 3 elements must be established:

4. Transaction gave rise to a tax benefit re: s.2455. The principal purpose of the transaction is to realize a

benefit6. It causes abusive tax avoidance re: s.245(4)

a. Why is the benefit incurred available under the ITA?

b. Did the impugned avoidance transaction frustrate/do violence to Parliament’s intent in enacting the provisions?

HOW MUCH/HOW SHOULD WE TAX?

Scott v. MNR (1963) SCC

A lawyer bought 149 agreements + mortgages at a discount using his own and borrowed money, held them and made a profit. How should they be taxed?

He’s a trader whose gains were income from a business.

Johns-Manville Canada Inc. v. The Queen (1985)

JMC owned a pit ore mine and had to buy additional land around the periphery to continue necessary wall sloping etc. Can they charge the purchase cost to expense instead of capital?

YES. Common sense approach dictates that expenditures were part of day-to-day biz operations, not part of a plan to assemble assets (once-and-for-all acquisition). There’s also no entitlement to CCA. Look at whether it’s “fixed capital” or “circulating capital”.3-step test outlined in Sun Newspapers Ltd:

1. What is the character of the advantage sought?2. Was the practice recurring + incorporated into biz

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operations?3. What means were used to secure the advantage?

Tax Avoidance

Regina v. Porisky and Gould (2012)

Porinsky and Gould sold materials which urged others to structure their affairs as a “natural person” so as to be exempt from paying tax. They earned a ton of money and never paid tax.

This was tax evasion. Sentenced to jail time and fines.“Mr. Porisky’s theory not only does not bear any logic but it also fails to accord with common sense. It is a failed attempt at word magic and has no validity.”

783783 Alberta Ltd. v. Canada (2010)

VUE Weekly, the plaintiff, is suing the gov’t because they claim that SEE Magazine, their competitor, got preferential tax treatment reserved for Canadian newspapers despite being owned by Conrad Black, who renounced his citizenship.

Court rules that the government does not owe a private law duty of care in tort to taxpayers. Says their relationship is to ensure that the TP is fairly assessed, not to protect taxpayers from losses arising from competitive advantages.

Duke of Westminister v. Commissioners of Inland Revenue (1936)

The Duke made payments to his employees (servants) that had to be made even if they stopped working for him. Are they salary/wages or annual payments?

Salary/wages — “every man is entitled if he can to order his affairs so that the tax attaching under the appropriate acts is less than it otherwise would be. If he succeeds in ordering them to secure this result, then...he cannot be compelled to pay any increased tax.” Basically - tax avoidance is legal and A-OK.

SEE ALSO: Canada Trustco.

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