Canada: Commercial Leasing Bulletin: Tips For Tips: Deductibility Of Tenant Inducement Payments

Update RE: Fuller Landau Group Inc. in its capacity as trustee in bankruptcy of 7636156 Canada Inc. v. OMERS Realty Corporation, 2020 ONCA 681

In October 2020, the Ontario Court of Appeal (ONCA) released its decision in 7636156 Canada Inc. (Re), 2020 ONCA 681 (reviewed in greater detail in our Bulletin here). The ONCA held that a landlord's entitlement to draw on a bankrupt tenant's line of credit is not limited to the landlord's preferred claim for three months' worth of accelerated rent under the Bankruptcy and Insolvency Act. On April 22, 2021, the Supreme Court of Canada (SCC) dismissed the application for leave to appeal, upholding the Ontario Court of Appeal decision.

Tips for TIPs: Deductibility of Tenant Inducement Payments?

Commercial landlords have long competed to attract new tenants, often going to great lengths to induce tenants to choose a unit in their building. This is where the concept of tenant inducement payments comes into play. A tenant inducement payment ("TIP") is an instrument, most often a payment, used by a landlord to attract prospective commercial tenants to their premises. Given the often significant value of these payments, their tax treatment can substantially impact the landlord's finances.

In 1997, the SCC simultaneously released three rulings ("SCC Trilogy"), which had significant tax consequences for landlords who pay and for tenants who receive TIPs. In Canderel Ltd. v. R. ("Canderel") and Toronto College Park Limited v. R. ("Toronto College Park"), the SCC was called upon to determine the appropriate manner in which a landlord may deduct a TIP from its business income. In the third case Ikea Ltd. v. R. ("Ikea"), the SCC was called upon to determine how a TIP was to be treated in the hands of a tenant. The SCC Trilogy established a set of principles to determine how to draw the most accurate picture of a landlord's profit in a given year, including how it chooses to deduct its TIPs.

The SCC Trilogy

SCC Trilogy Quick Summary

In Canderel and Toronto College Park, the SCC concluded that the primary purpose of the payments in question were to induce the tenants to enter into leases and provide immediate benefits to the landlord. In both cases, the landlord was entitled to deduct the TIPs in the year in which they were paid, rather than amortizing the TIPs over the term of the lease to which it relates. In both of these cases, the TIPs yielded immediate benefits for the landlords and, perhaps more importantly, they were not linked to any capital outlays by tenants. In Ikea, the SCC held that the tenant was required to include the entire TIP in its income in the year received. Further details provided below.

Canderel Ltd. v. R.¹

In Canderel, the landlord entered into an agreement to develop a commercial office in downtown Ottawa. During construction, vacancy rates rose tremendously and Canderel was forced into intense competition for new tenants. In response, Canderel reallocated losses to TIPs. ² That year Canderel deducted the entire amount of those TIPs but was reassessed by the Minister of National Revenue ("MNR"). The case was subsequently appealed until presented at the SCC.

The SCC held that the determination of profit is a question of law and the goal is to obtain an accurate picture of a taxpayer's profit for a given year. Once a taxpayer has established that he/she/it has provided an accurate picture of income for the year and the tax treatment used is not inconsistent with (i) the Income Tax Act, (ii) established case law principles, and (iii) well-accepted business principles, the onus shifts to the MNR to show that the figure provided by the taxpayer is not accurate or that another method of computation would provide a more accurate picture.

Applying these principles, the SCC allowed the landlord to fully deduct the TIPs from its business income in the year in which they were paid, explaining that the amortization of the TIPs over the lease terms, as argued by the MNR, did not provide a more accurate picture of the landlord's income for the year.

Toronto College Park Limited v. R.³

In Toronto College Park, the landlord made two TIPs - one for a future tenant and the other for contractors employed by the Ministry of Government Services of Ontario (for the Ministry's benefit) - after suffering start-up rental losses in a new commercial building in Toronto. All parties agreed that the payments were being made in the ordinary course of business and for the purpose of earning income.⁴ The MNR reassessed the landlord's 1983 tax return, claiming the payments were capital in nature and requiring the TIP deductions to be amortized over the lease term.

To view the full article, please click here.

Footnotes

1. Canderel Limited v R, [1998] 1 SCR 147, 155 DLR (4th) 257.

2. Ibid, at para 11.

3. Toronto College Park Limited v R, [1998] 1 SCR 183, 155 DLR (4th) 285.

4. Ibid, at para 2.