Budget 2013 was tabled on March 21, 2013. Heenan Blaikie's National Tax Group has prepared the following overview of some of the more significant tax-related measures.
I. INCOME TAX CHANGES FOR BUSINESS
Mandatory Disclosure of Third Parties Assisting with SR&ED Program Claims
Budget 2013 proposes to introduce measures to provide the Canada Revenue Agency ("CRA") with new resources to better respond to high risk SR&ED claims. The proposals will require more detailed information to be provided on claim forms regarding preparer information and billing arrangements where one or more third parties has assisted with the preparation of claim forms. The proposals would also introduce a new penalty of C$1,000 imposed for each claim where information is missing, incomplete or inaccurate. The preparer and claimant will be jointly and severally liable for the penalty. This proposal is intended to curtail inappropriate conduct by third party consultants.
Reductions in Benefits for Mining Expenses
Budget 2013 proposes to take measures to better align the deductions available in the mining sector with those in the oil and gas sector. Budget 2013 proposes to gradually treat pre-production mine development expenses (the intangible expenses incurred for the purpose of bringing a new mine for a mineral resource located in Canada into production) as Canadian Development Expenses ("CDE") thus entitling them to be deducted at a rate of 30% a year on a declining balance. Currently, these expenses qualify as Canadian exploration expenses ("CEE") which may be fully deducted in the year incurred or carried forward for use in future years. The transition in the treatment of pre-production mine development expenses as CDE will be phased in commencing in 2015. This change will not apply to expenses incurred before March 21, 2013 or to expenses incurred before 2017 meeting certain other conditions.
Budget 2013 also plans on phasing out the additional capital cost allowance ("CCA") currently available for certain assets acquired for use in new mines or eligible mine expansions. This accelerated CCA available in addition to the general 25% declining balance CCA is computed as up to 100% of the remaining cost of eligible assets not exceeding the taxpayer's income for the year from the mining project (calculated after deducting regular CCA). The additional deduction will be gradually phased out starting in 2017. This change will not apply to assets purchased before March 21, 2013 or to assets purchased before 2018 meeting certain other conditions.
However, in keeping with recent tradition, Budget 2013 proposes to extend the Mineral Exploration Tax Credit to flow-through share agreements entered into on or before March 31, 2014.
A Boost for Manufacturers and Processors
Class 43 M&P machinery and equipment will be eligible for accelerated 50% straight line CCA under class 29. This accelerated CCA treatment will only be available for machinery and equipment acquired after March 18, 2007 and before 2014.
Another expansion of the Thin Capitalization Rules
The thin capitalization rules limit the ability of Canadian corporations to deduct interest payable on debt owed to certain non-residents. In 2012, these rules were extended to apply to structures involving partnerships and corporations. Budget 2013 further expands the thin capitalization rules to apply to "branch" operations of foreign corporations, to trusts that carry on business in Canada and also to Canadian trusts that have a 25% or greater non-resident beneficiary.
These rules are clearly targeted at various trust structures that were used to avoid the old thin capitalization rules. The new rules operate somewhat differently than the existing corporate rules, but the net effect is the same, to destroy the Canadian tax incentive to exceed a 1.5:1 debt to equity ratio vis a vis non-residents who hold 25% or more of the borrower's equity.
The expanded thin capitalization rules will apply to taxation years that begin after 2013. Once the new rules apply, there will be no grandfathering for existing debt.
Expansion of Accelerated Write-off for Class 43.2 Clean Energy Equipment
The accelerated write-off available for clean energy generation equipment will be expanded so that biogas production equipment using more types of organic waste will be eligible. It specifically includes pulp and paper waste and wastewater, beverage industry waste and wastewater, and separated organics from municipal waste. Budget 2013 also proposes to broaden the range of cleaning and upgrading equipment entitled to the accelerated write-off to include all equipment used to treat eligible gases from waste that is eligible under class 43.2. This expanded treatment will be available only for equipment acquired on or after March 21, 2013 that has not previously been used.
Reserve for Future Services
Where a taxpayer is funding future reclamation obligations (such as a waste disposal facility), the reserve for future services under 20(1)(m) of the Income Tax Act will no longer be available.
Additional Deduction for Credit Unions
Credit Unions are currently eligible for the small business deduction (reduced rate of income tax) on qualifying business income as well as an additional deduction available only to credit unions on income that is otherwise not eligible for the small business deduction subject to certain limits. Budget 2013 proposes to phase out this additional deduction for credit unions over fivef calendar years beginning in 2013.
Corporate Group Taxation
Budget 2013 announced that the Minister of Finance is no longer considering the introduction of a formal system of corporate group taxation.
Electronic Suppression of Sales Software / Zapper Software
Budget 2013 proposes new administrative monetary penalties and criminal offences for the use of software that hides sales to evade the payment of GST/HST and income tax.
Registered Pension Plans ("RPPs"): Correcting Contribution Errors
Administrators of RPPs will be able to make refunds of contributions in order to correct reasonable errors without first obtaining approval from the CRA. Refunds must be made no later than December 31 of the year following the year in which the inadvertent contribution was made.
II. MORE RESTRICTIONS ON LOSS TRADING
Loss trading has long been seen by CRA as a threat to the integrity of the tax system. Budget 2013 contains two proposals directed at curtailing loss trading arrangements.
Trust Loss Trading
Budget 2013 proposes to extend to trusts (with appropriate modification) the existing corporate loss-streaming rules that apply on an acquisition of control of a corporation. A trust will be subject to loss-streaming rules where a person or partnership becomes a majority-interest beneficiary of the trust or a group becomes a majority-interest group of beneficiaries of the trust. Existing relieving corporate continuity rules (with appropriate modifications) will be applied to trusts. Subject to limited grandfathering, this measure and any additional relieving rules resulting from public consultation will apply to transactions that occur on or after March 21, 2013.
Corporate Loss Trading
Budget 2013 proposes to introduce an anti-avoidance rule that will deem an acquisition of control of a corporation to have occurred when a person or group acquires shares of the corporation that represent more than 75% of the fair market value of the corporation without otherwise acquiring control of the corporation, if it is reasonable to conclude that one of the main reasons that control was not acquired was to avoid the loss restrictions that would applied on an acquisition of control. Subject to limited grandfathering, this measure applies to shares acquired on or after March 21, 2013.
III. AGGRESSIVE TAX PLANNING
In recent years, high income taxpayers have been using a number of arrangements to reduce their taxes. Budget 2013 proposes to curtail, through legislative amendments, the use of a number of popular arrangements which have been on CRA's hit list.
Synthetic dispositions are arrangements whereby taxpayers effectively dispose of the economic value of a property without the sale of its legal title. Since there is no actual disposition of the property, the accrued gain remains untaxed. Synthetic dispositions can take many forms, including forward contracts, collared options, swaps and exchangeable debt. Budget 2013 proposes to treat synthetic dispositions as actual dispositions where a taxpayer (or a person who does not deal at arm's length with the taxpayer) enters into one or more agreements that have the effect of eliminating all, or substantially all, of the taxpayer's risk of loss and opportunity for gain or profit in respect of a property. In such cases, the taxpayer will be deemed to have disposed of the property for proceeds equal to fair market value at the time of entering into the synthetic disposition and to have then reacquired the property at a cost equal to such fair market value. However, the taxpayer will not be considered to continue to own the property for the purpose of certain beneficial holding-period tests.
Character Conversion Transactions
Character conversion transactions are transactions which generally have the effect of converting returns on an investment from ordinary income into capital gains. These transactions typically involve an agreement to buy or sell a capital property at a future date for a price that is determined by reference to some other measure, such as a basket of portfolio investments. In this way, the taxpayer obtains the economic benefit of having invested in the reference assets by way of selling the capital asset. Budget 2013 proposes to tax any return arising under such an arrangement as being on income account. The amount of any income (or loss) from the reference assets will then be added to (or deducted from) the adjusted cost base of the capital property.
Leveraged Insurance Annuities
Budget 2013 proposes to eliminate certain tax benefits associated with leveraged insurance annuities ("LIAs"). These investment products are generally combined with life insurance policies and purchased with borrowed funds. Under the proposals, income earned in LIAs will be subject to annual accrual-based taxation, premium deductions will not be allowed and the death benefit under a policy held by a private corporation will not increase the corporation's capital dividend account. Grandfathering will be provided in respect of LIAs for which all borrowings were entered into before March 21, 2013.
10/8 Life Insurance Arrangements
A 10/8 arrangement is a life insurance policy where capital is invested in the policy and earns a tax-free return of 8% per annum. The policy is then used to secure a loan at a 10% interest rate. The policy owner benefits from the deduction of the interest on the policy loan while the income earned on the capital invested in the policy accrues tax-free. Budget 2013 proposes to deny any deductions in respect of the interest under the loan or the life insurance premiums for any period after 2013. In addition, no increase in the capital dividend account will be allowed in respect of the death benefit that becomes payable to a private corporation under the policy after 2013 and that is associated with the loan.
Extended Reassessment Period: Tax Shelters and Reportable Transactions
Effective for taxation years ending after March 21, 2013, the normal reassessment period in respect of a participant in a tax shelter or reportable transaction where an information return that is required for the tax shelter or reportable transaction is not filed on time will be extended to three years after the date that the relevant information return is filed.
Taxes in Dispute and Charitable Donation Tax Shelters
Where a taxpayer objects to an assessment of tax, interest or penalties resulting from the disallowance of a deduction or tax credit claimed in respect of a tax shelter that involves a charitable donation, CRA will be permitted to collect 50% of the disputed tax, interest or penalties while the assessment is under objection or appeal. This measure will apply to amounts assessed for the 2013 and subsequent taxation years.
IV. PROTECTING CANADA'S TAX BASE FROM OFFSHORE EROSION
"STOP International Tax Evasion"- A Tax Snitch Program for Canada
Individuals who inform CRA of international tax evasion will receive cash rewards if the tip leads to a recovery of more than C$100,000 of federal tax. The tipster's reward could be up to 15% of the federal tax collected. This program will not apply to domestic tax evasion. The non-compliant activity must involve transactions or property partly or wholly outside Canada. Reward payments will be taxable and tax evaders themselves cannot apply.
This provision could well cause some sleepless nights for tax evaders who have relied on third parties to help them to hide investments offshore or may persuade some tax evaders to come clean and use CRA's voluntary disclosure program to report their foreign income before they are prosecuted.
Form T1135 Revisions
Canadian taxpayers are required to file a form T1135 with their tax returns to disclose most foreign investments with a total value over C$100,000. The T1135 form is being enhanced to require additional information to allow CRA to verify foreign source income. The new form will require taxpayers to disclose the names of foreign banks or other financial institutions where the foreign assets are held and information regarding the income generated by the foreign assets.
Also, taxpayers who fail to file a complete and accurate T1135 on a timely basis will face an increased time limit for reassessment by CRA. In this scenario, CRA will have three additional years for CRA to reassess.
Electronic Funds Transfers
Starting in 2015, banks and other international financial intermediaries will need to report to CRA international electronic funds transfers of C$100,000 or more. CRA will be given additional funding to allow them to monitor these transactions.
Treaty shopping refers to the practice of setting up holding companies and other intermediaries in foreign jurisdictions that have favourable tax treaties with Canada or a third country. The objective is usually to reduce withholding taxes on cross border distributions or avoid or minimize capital gains taxes.
Budget 2013 does not contain any specific rules against treaty shopping. However, the issue is now on the government's radar as a practice, "...that poses significant risks to the tax base." Budget 2013 announces that a consultation paper will be released to address this issue. It appears likely that some action may follow- perhaps even a unilateral move to create a "Made in Canada" limitation of benefits clause similar to the clause that was added to the Canada – US Tax Convention in 2008.
V. INCOME TAX CHANGES FOR TRUSTS
Possible Elimination of Graduated Tax Rates for Estates and Certain Trusts
The government announced it will consult on possibly eliminating the tax benefit afforded to estates, inter vivos trusts set up prior to June 18, 1971 and testamentary trusts (trusts settled on death pursuant to terms of a will). Currently, such trusts are taxed using graduated tax rates. In contrast, ordinary inter vivos trusts are taxed at the highest individual tax rate. The government questions the fairness of taxing these trusts differently than other trusts. In addition, the government expressed concern about the potential increased use of testamentary trusts for tax motivated purposes. The government will release a consultation paper to solicit public comment on possible measures.
In response to the recent Federal Court of Appeal decision The Queen v. Sommerer, Budget 2013 proposes to deem non-resident trusts (with the exception of the so-called "immigration trusts") to be resident of Canada if a Canadian resident, regardless of any consideration paid, transfers or loans property to a trust and (i) the property may revert to the resident; (ii) the resident may determine who can receive the property; or (iii) the property cannot be dealt with without the resident's consent or must be dealt with only on the instructions of the resident. In such case, the trust will generally be subject to Canadian tax on its worldwide income. In addition, the trust will not be able to roll out its capital assets to Canadian resident beneficiaries on a tax-deferred basis.
VI. INCOME TAX CHANGES FOR INDIVIDUALS
Restricted Farm Losses
The treatment of restricted farm losses by hobby farmers has been a litigation battleground for decades and in 2012 a Supreme Court of Canada decision made restricted farm losses fully deductible to certain hobby farmers. Budget 2013 proposes to restore the intended policy that restricted farm losses will only be fully deductible where other sources of income are subordinate to farming. Budget 2013 also proposes to increase the restricted farm losses limit to C$2,500 plus ½ of the next C$30,000
Lifetime Capital Gains Exemption ("LCGE")
Budget 2013 proposes to increase the current LCGE from C$750,000 to C$800,000 of capital gains realized on the disposition of qualified property, including qualified small business corporations shares, effective for the 2014 taxation year. The LCGE will also be indexed to inflation for taxation years after 2014. The new LCGE will apply for all individuals, including those who have previously used the LCGE.
Dividend Tax Credit ("DTC")
The gross-up factor for non-eligible dividends will be changed from 25% to 18% of the dividend and the corresponding DTC will be adjusted from 2/3 of the gross-up amount to 13/18 of the amount. This results in a DTC equal to 11% of the grossed-up dividend.
First-Time Donor's Super Credit ("FDSC")
The FDSC will supplement the Charitable Donations Tax Credit ("CDTC") allowing an individual who is a first time donor a 40% federal tax credit for donations of C$200 or less, and a 54% tax credit for donations over C$200 but not exceeding C$1,000. An individual will be a first time donor if neither the individual nor the individual's spouse or common-law partner has claimed the CDTC or FDSC in any taxation year after 2007.
Adoption Expense Tax Credit ("AETC")
The adoption period for which the AETC may be claimed has been extended to include the time that is the earlier of when adoptive parents register with a provincial government for an adoption or make an adoption related application to a Canadian court. The AETC will apply to adoptions finalized after 2012.
Labour Sponsored Venture Capital Corporations
Budget 2013 proposes to phase out the federal Labour Sponsored Venture Capital Corporations tax credit between 2015 and 2017.
Deduction for Safety Deposit Boxes
Effective for taxation years beginning after March 21, 2013, the cost of renting a safety deposit box will no longer be deductible for income tax purposes.
VII. GST/HST CHANGES IN BRIEF
In respect of GST/HST, Budget 2013 proposes:
- to give the CRA authority to withhold GST/HST refunds from registrants who have not provided all of the required information upon registration;
- to clarify that reports, examinations and other goods and services supplied by doctors that are not performed for the purpose of the protection, maintenance or restoration of the health or for palliative care will be taxable;
- to simplify employer compliance requirements where they participate in a registered pension plan;
- to expand the exemption from GST/HST to a broader range of homemaker services; and
- to clarify that GST/HST applies in circumstances where a public sector body is charging for parking in a regular commercial manner.
The members of the Heenan Blaikie National Tax Group are happy to discuss how Budget 2013 can affect you or your business.
Peter L. Clark discusses the highlights of the budget in the video below.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.