The Honourable Joe Oliver, Minister of Finance, tabled the government's 2015 Federal Budget (Budget 2015) on April 21, 2015 (Budget Day). As widely anticipated, Budget 2015 fulfilled the government's promise to balance the budget in 2015, while announcing a number of targeted tax proposals benefiting families and businesses.
Budget 2015 proposes a number of business income tax, international tax, personal income tax and charity measures which are discussed below. The government's intentions in introducing these measures are to improve fairness and integrity of the tax system, help the Canadian economy grow, spur job creation and to reduce the tax compliance burden.
BUSINESS INCOME TAX MEASURES
Small Business Tax Rate
Budget 2015 proposes to reduce the federal small business corporate tax rate from its current 11% to 9% over four years beginning in 2016. The rate reduction will be fully implemented beginning in 2019. The rate applies to the first $500,000 per year of qualifying active business income of a Canadian-controlled private corporation.
Budget 2015 also proposes to adjust the gross-up factor and dividend tax credit (DTC) rate applicable to non-eligible dividends (generally dividends distributed from corporate income taxed at the small business tax rate).
These measures will be implemented as follows:
Synthetic Equity Arrangements
The dividend rental arrangement rules in the Income Tax Act deny the inter-corporate dividend deduction to a shareholder where the main reason for an arrangement is to enable the shareholder to receive a dividend on a share and the economic risk associated with the share accrues to someone else.
Budget 2015 proposes to expand those rules to deal with situations where a shareholder (often a financial institution) enters into a financing arrangement, called a "synthetic equity arrangement", in which the shareholder retains ownership of a Canadian share but transfers all or substantially all of the risk of loss and opportunity for gain or profit in respect of the share to a tax-indifferent counterparty (such as a tax-exempt Canadian entity or a non-resident person) under one or more arrangements (such as an equity derivative). Some taxpayers have taken the position that the existing dividend rental arrangement rules do not apply to these arrangements, with the result that the taxpayer receives a tax-free intercorporate dividend and also obtains a deduction for dividend-equivalent payment made to the counterparty, while the tax-indifferent counterparty pays no Canadian tax on the dividend-equivalent payment. More simply put, there is a deduction without an income inclusion. The proposed amendments will extend the dividend rental arrangement rules to synthetic equity arrangements, thereby denying the taxpayer an intercorporate dividend deduction in respect of any dividend that it receives on a Canadian share that is subject to a synthetic equity arrangement.
The proposed rules will include an exemption where a taxpayer obtains representations from its counterparty to the synthetic equity arrangement that the counterparty is not a tax-indifferent investor and either:
- does not reasonably expect to eliminate all or substantially all of its risk of loss and opportunity for gain or profit in respect of the share; or
- has transferred all or substantially all of its risk of loss and opportunity for gain or profit in respect of the share to its own counterparty and has obtained the representations described above from that counterparty.
This measure, which will apply to dividends that are paid or become payable after October 2015, will not apply to agreements that are traded on a recognized derivatives exchange unless it can reasonably be considered that the taxpayer knows, or ought to know, the identity of the counterparty to the agreement.
The government has invited comments by August 31, 2015 on an alternative proposal that would deny the inter-corporate dividend deduction on dividends received by a taxpayer on a Canadian share in respect of which there is a synthetic equity arrangement, regardless of the tax status of the counterparty. The government notes that such a proposal would have a broader effect on affected taxpayers, but would eliminate some of the complexities of the measure described above.
Tax Avoidance of Corporate Capital Gains (Section 55)
Budget 2015 proposes to expand the circumstances in which the anti-capital gains stripping rules in Section 55 of the Income Tax Act may apply.
Subsection 55(2) of the Income Tax Act is an anti-avoidance rule that taxes certain otherwise non-taxable inter-corporate dividends as capital gains. For example, Subsection 55(2) will generally apply where Corporation A, which might otherwise realize a (taxable) capital gain on the disposition of its shares of Corporation B, reduces that capital gain (and therefore Corporation A's corporate tax) by first receiving a (non-taxable) dividend from Corporation B that in substance reflects the untaxed appreciation in the value of the Corporation B. Such transactions are known generically as "capital gains strips". The rule works by deeming the otherwise non-taxable dividend to be a capital gain that is, as such, subject to tax.
The policy against capital gains strips is relatively simple to state, but has proven remarkably difficult to capture in clear statutory language, a difficulty that has been compounded by successive court decisions and administrative pronouncements by the Canada Revenue Agency (CRA). Inevitably, taxpayers from time to time conceive of new transactions that appear to circumvent the spirit, if not the letter, of Subsection 55(2), which in turn results in further amendments as the government seeks to protect the integrity of its policy against capital gains stripping.
Budget 2015 proposes several amendments to Section 55 to address the government's latest round of concerns. Of these the most significant will extend reach of Subsection 55(2) to include any dividend if one of the purposes for the payment of the dividend is to reduce the fair market value of any share significantly, or to increase the total cost of all of the property of the dividend recipient beyond certain limits. The amendments will generally apply to dividends received after April 20, 2015.
Certain other anti-avoidance provisions are also proposed to address other specific concerns of the government.
Other Business Income Tax Measures
- Quarterly Remitter Category for New Employers: Budget 2015 proposes to reduce the frequency of employee source deductions remittances (for income tax, CPP contributions and EI premiums) for the smallest new employers (those with withholdings of less than $1,000 per month) by allowing them to remit on a quarterly basis immediately (instead of on a monthly basis) in respect of withholding obligations that arise after 2015.
- Manufacturing and Processing Machinery and Equipment: Budget 2015 also proposes to extend the accelerated capital cost allowance (CCA) rate of 50% on a declining-balance basis for certain machinery and equipment acquired by a taxpayer before 2016 under Class 29 to similar machinery and equipment acquired after 2015 and before 2026 primarily for use in Canada. A new CCA class – Class 53 – will be created for this purpose.
- Agricultural Cooperatives: Budget 2015 proposes to extend the tax deferral measure which allows eligible members of eligible agricultural cooperatives to defer the inclusion in income of all or a portion of any patronage dividend received as an eligible share before 2021 until the disposition (or deemed disposition) of the share.
- Small Business Deduction: In Budget 2015, the government announced it will review the circumstances in which income from a business, the principal purpose of which is to earn income from property, should qualify as "active business income". The government has invited interested parties to submit comments by August 31, 2015.
- Consultation on Eligible Capital Property: The government also announced in Budget 2015 that it will continue to receive submissions on the 2014 Budget proposal to repeal the eligible capital property regime and replace it with a new CCA class. The government intends to release detailed draft legislative proposals for stakeholder comment before their inclusion in a bill.
INTERNATIONAL TAX MEASURES
Withholding for Non-Resident Employers
Budget 2015 contains key measures which will reduce the compliance burden on non-resident employers who send their employees to Canada for short periods of time.
Under existing rules, a non-resident employer whose non-resident employee performs any services in Canada is required to withhold and remit source deductions to the CRA, even if the employee ultimately will not be taxable in Canada, unless the employer or employee obtains a waiver from the CRA before the first payment is due. Obtaining a waiver is slow and a waiver, even if granted, only applies to a specific employee for a specific period of time. In addition, the CRA has aggressively reassessed employers for unwithheld tax, plus interest and penalties, even for minor infractions where no Canadian tax is ultimately payable. Problems have been made worse over the past year as Canada and the United States have started to share information about persons entering and leaving each country under the Canada – United States Beyond the Border Action Plan.
Budget 2015 proposes some welcome relief from withholding and remittance requirements for payments made after 2015 by "qualifying non-resident employers" to "qualifying non-resident employees".
A qualifying non-resident employer (subject to special rules for partnerships) will be an employer who
- is resident in a country with which Canada has a tax treaty,
- does not carry on business through a permanent establishment in Canada, and
- is certified by the CRA.
A qualifying non-resident employee will be an individual who is
- resident in a country with which Canada has a tax treaty,
- exempted by the tax treaty from Canadian income tax in respect of salary for services performed in Canada, and
- not present in Canada for more than 90 days in any 12-month period that includes the time of the payment.
Budget 2015 proposes to amend the existing anti-avoidance rule in the foreign accrual property income (FAPI) regime relating to the insurance of Canadian risks. The FAPI regime generally requires that income from property earned by, and income from certain businesses carried on by, a controlled foreign affiliate of a taxpayer resident in Canada be included in the taxpayer's income on an accrual basis.
Under the current rules, a specific anti-avoidance rule in the FAPI regime is intended to prevent Canadian taxpayers from shifting income from the insurance of Canadian risks to a foreign affiliate resident in a lower-tax jurisdiction. Budget 2014 amended the anti-avoidance rule to curtail certain sophisticated tax-planning arrangements sometimes referred to as "insurance swaps". Some taxpayers, however, have entered into alternative arrangements that are intended to achieve tax benefits similar to those that the Budget 2014 amendment was intended to prevent. Under these alternative arrangements, the affiliate receives consideration with an embedded profit component (based upon the expected return on the pool of Canadian risks) in exchange for ceding its Canadian risks. The Budget 2014 amendment may not apply to these alternative arrangements if the affiliate does not enter into an insurance swap transaction that provides it with economic exposure to the Canadian risks.
Budget 2015 will amend the existing anti-avoidance rule to ensure that profits of a Canadian taxpayer from the insurance of Canadian risks remain taxable in Canada. In particular, it will be amended so that:
- a foreign affiliate's income in respect of the ceding of Canadian risks is included in computing the affiliate's FAPI; and
- for these purposes, when an affiliate cedes Canadian risks and receives as consideration a portfolio of insured foreign risks, the affiliate is considered to have earned FAPI in respect of the ceding of the Canadian risks in an amount equal to the difference between the fair market value of the Canadian risks ceded and the affiliate's costs in respect of having acquired those Canadian risks.
This measure will apply to taxation years of taxpayers that begin on or after Budget Day. The government has invited interested stakeholders to submit comments on this measure by June 30, 2015.
Update on Tax Planning by Multinational Enterprises
In Budget 2014, the government announced that it would consult on changes to international tax planning provisions in order to inform Canada's participation in discussions within the OECD and the G-20 regarding base erosion and profit shifting (BEPS) by multinational enterprises. The announced aim of the consultations was to obtain views on how best to ensure tax fairness and protect the Canadian tax base while maintaining an internationally competitive tax system.
Budget 2015 notes that the government looks forward to the conclusion of the BEPS initiative, and announces the government's intention to move forward in this area in a way that will balance the fairness, tax base protection, and international competiveness of the Canadian tax system. No other details are announced.
Update on the Automatic Exchange of Information for Tax Purposes
In 2013, G20 members committed to the automatic exchange of tax information in respect of financial accounts as the new global standard. In November 2014, a new common reporting standard developed by the OECD received the endorsement of the G20, which committed in February 2015 to work towards legislative implementation. Foreign tax authorities will provide information to the CRA relating to financial accounts in their jurisdictions held by Canadian residents and the CRA will, on a reciprocal basis, provide corresponding information to the foreign tax authorities on accounts in Canada held by residents of their jurisdictions. The standard does not require reporting on accounts held by residents of Canada with foreign citizenship. Canada proposes to implement the common reporting standard starting on July 1, 2017, allowing a first exchange of information in 2018. Financial institutions will be expected to have procedures in place to identify non-resident held accounts to report the required information.
The information will begin to be exchanged on a reciprocal, bilateral basis pursuant to formal exchange arrangements, to be entered into once the CRA is satisfied that each jurisdiction has appropriate capacity and safeguards to protect taxpayer confidentiality and ensure that the exchanged information is used only by tax authorities and only for tax purposes. The government will release draft legislative proposals for comments in the coming months.
Streamlining Reporting Requirements for Foreign Assets
Budget 2015 proposes to reduce the foreign asset reporting compliance burden for taxpayer's holding specified foreign property having a cost of less than $250,000 throughout the year, permitting such taxpayers to report under a new simplified foreign asset reporting system currently being developed by the CRA.
PERSONAL INCOME TAX MEASURES
Tax-Free Savings Account (TFSA)
Budget 2015 proposes to increase the TFSA annual contribution limit to $10,000 from the current level of $5,500. This increase will apply as of January 1, 2015. The TFSA annual contribution limit will no longer be indexed to inflation.
Minimum Withdrawal Factors for Registered Retirement Income Funds (RRIFs)
Budget 2015 proposes to adjust the RRIF minimum withdrawal factors applicable for 2015 and subsequent taxation years. The mandatory minimum withdrawal amounts for individuals aged 71 to 94 will decrease as a result of this adjustment. RRIF holders who at any time in 2015 withdraw more than the reduced 2015 minimum amount will be permitted to re-contribute the excess (up to the amount of the reduction in the minimum withdrawal amount provided by this measure) to their RRIFs. Similar rules will apply to those receiving annual payments from a defined contribution registered pension plan and pooled registered pension plan.
Home Accessibility Tax Credit (HATC)
Budget 2015 proposes to introduce a new non-refundable tax credit for seniors and persons with disabilities on expenditures made after 2015 for work performed on an eligible dwelling that allows a qualifying individual to gain access to or be more mobile within the dwelling. The HATC will provide tax relief of 15% on up to $10,000 of eligible expenditures (such as wheelchair ramps, walk-in bathtubs, wheel-in showers and grab bars) per calendar year, per qualifying individual, to a maximum of $10,000 per eligible dwelling.
Repeated Failure to Report Income Penalty
Budget 2015 proposes to amend the "repeated failure" penalty. The repeated failure penalty has been widely criticized as unfair and has been characterized by the courts as "harsh", particularly where the first failure to report income involves minimal or no unpaid tax.
Prior to the amendment, a penalty equal to 10% of the amount of unreported income was imposed on a taxpayer if the taxpayer had a similar failure in any of the three preceding taxation years. In some circumstances, the amount of the "repeated failure" penalty, which may apply to an innocent mistake, can exceed the penalty that would be imposed if the taxpayer knowingly or in circumstances amounting to gross negligence failed to report the amount (known as the "gross negligence" penalty).
As proposed, for taxation years commencing in 2015, the failure to file penalty will only be imposed if the unreported amounts in both the current and preceding year exceed $500. Further, the amount of the penalty will be the lesser of:
- 10% of the amount of unreported income; and
- 50% of the difference between the understatement of tax (or the overstatement of tax credits) related to the omission and the amount of any tax paid in respect of the unreported amount (e.g., by an employer as employee withholdings).
By taking into consideration the amount of the tax associated with the unreported income in the determination of the penalty, the amended provision both avoids absurdly harsh results when applied to lower income taxpayers (who may receive a large number of information slips each reporting relatively small amounts) and ensures the penalty will not exceed that which would be applied if the taxpayer's conduct justified the gross negligence penalty (which is generally equal to 50% of the understatement of tax or overstatement of credits). The repeated failure penalty will not apply if the gross negligence penalty is assessed.
Alternative Arguments in Support of Assessments
In response to the decision in Her Majesty the Queen v. Last, 2014 FCA 129 (leave to S.C.C. denied), Budget 2015 proposes to amend the Income Tax Act, Part IX of the Excise Tax Act (GST/HST), and Excise Tax Act, 2001 (certain excise duties) to permit the Minister to increase or adjust an amount included in an assessment under objection or appeal, provided that the total amount of the assessment does not increase.
Information Sharing for the Collection of Non-Tax Debts
In addition to collecting the taxes imposed under the Income Tax Act, the Excise Tax Act, and the Excise Act, 2001, the CRA acts as a central collection agency with respect to many federal and provincial programs, such as the Canada Student Loans Act. Currently, the CRA cannot use taxpayer information to collect debts under many of these programs. Budget 2015 proposes to broaden the ability of the CRA to use confidential taxpayer information to collect non-tax debts.
Other Personal Tax Measures
- Lifetime Capital Gains Exemption for Qualified Farm or Fishing Property: Budget 2015 proposes to increase the Lifetime Capital Gains Exemption to apply to up to $1 million of capital gains realized by an individual on dispositions of qualified farm or fishing property that occur on or after Budget Day (increased from $813,600 in 2015).
- Registered Disability Savings Plan (RDSP): Budget 2015 proposes to extend to the end of 2018 the measure introduced in Budget 2012 to allow a qualifying family member (i.e., a beneficiary's parent, spouse or common-law partner) to become the plan holder of a RDSP for an adult individual who may lack the capacity to enter into a contract.
- Transfer of Education Credits – Effect on the Family Tax Cut (FTC): Budget 2015 proposes to revise the calculation for the FTC to include transferred education related amounts (tuition, education and textbook tax credits) for the 2014 and subsequent taxation years. This revision will ensure that families receive the appropriate value of the FTC.
Donations Involving Private Corporation Shares or Real Estate
Currently, dispositions of listed securities and ecological gifts, and exchanges of partnership units for listed securities, are exempt from capital gains tax where certain conditions are met. Budget 2015 proposes to expand this exemption in respect of certain dispositions of private corporation shares and real estate where:
- cash proceeds from the disposition of the private corporation shares or real estate are donated to a qualified donee within 30 days after the disposition; and
- the private corporation shares or real estate are sold to a purchaser at arm's length with both the donor and the qualified donee to which cash proceeds are donated.
The exemption will be available to the extent that the cash proceeds from the disposition of the shares or real estate is donated.
Proposed anti-avoidance rules will provide that the exemption will not be available in the following circumstances:
- the donor (or a person at non-arm's length with the donor) directly or indirectly reacquires the shares or real estate disposed of within 5 years;
- in the case of shares, the donor (or a person at non-arm's length with the donor) acquires shares substituted for the shares disposed of within 5 years; or
- in the case of shares, the shares that have been disposed of are redeemed within 5 years and the donor is not dealing at arm's length with the issuing corporation at the time of the redemption.
Where the anti-avoidance rules apply, the exemption will be reversed by including the previously exempted amount in the income of the donor in the year of the reacquisition by the donor (or the non-arm's length person), or the redemption.
This measure will apply to donations made in respect of dispositions occurring after 2016.
Investments by Registered Charities in Limited Partnerships
Budget 2015 proposes that a registered charity will not be considered to be carrying on a business solely because it acquires or holds an interest in a limited partnership. Registered charities designated as charitable organizations or public foundations are prohibited from carrying on a business unless that business qualifies as a "related business". Typically, investments in limited partnerships do not meet the "related business" test. Registered charities designated as private foundations are prohibited from carrying on any business at all. The sanctions for violating these restrictions can include suspension of receipting privileges and revocation of registered charity status.
To ensure that a registered charity's investment in a limited partnership remains a passive investment (as opposed to the carrying on of a business) this measure will apply only if:
- the charity – together with all non-arm's length entities – holds 20% or less of the interests in the limited partnership; and
- the charity deals at arm's length with each general partner of the limited partnership.
This measure, which will apply in respect of investments in limited partnerships that are made or acquired on or after Budget Day, will be of particular interest to investment fund managers who have structured certain investment products as trusts, instead of limited partnerships, to facilitate investments by registered charities.
Gifts to Foreign Charitable Foundations
Budget 2015 proposes to allow foreign charitable foundations to be registered as qualified donees if they receive a gift from the Canadian government and are pursuing activities related to disaster relief or urgent humanitarian aid or are carrying on activities in the national interest of Canada. This measure will apply on Royal Assent to the enacting legislation.
PREVIOUSLY ANNOUNCED MEASURES
Budget 2015 confirms the government's intention to proceed with the following previously announced tax and related measures, as modified to take into account consultations and deliberations since their announcement or release:
- Legislative proposals providing new rules to ensure an appropriate income inclusion for stub-year FAPI on dispositions of foreign affiliate shares.
- Measures relating to the GST/HST joint venture election.
- A proposed change to the limit on the deduction of tax-exempt allowances paid by employers to employees that use their personal vehicle for business purposes.
- Regulatory proposals establishing a CCA rate of 30% for equipment used in natural gas liquefaction and 10% for buildings at a facility that liquefies natural gas.
- Measures to support Canadian mining by extending the 15% Mineral Exploration Tax Credit for investors in flow through shares until March 31, 2016 and ensuring that the costs associated with undertaking environmental studies and community consultations that are required in order to obtain an exploration permit will be eligible for treatment as Canadian Exploration Expenses.
- Measures to make the new Family Caregiver Relief Benefit and Critical Injury Benefit non-taxable to Veterans.
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