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                                                           Taxation Law Summary

A FRAMEWORK FOR THE CRITICAL STUDY OF TAXATION LAW

Three Classical Criteria:
       o Equity
                  Horizontal Equity: People in the similar circumstances should pay similar amounts of tax
                  Vertical Equity: People in different circumstances should bear appropriately different tax rates
                  Background Norms Behind Tax Policy:
                       Formal Equality - just look at what dollar income a person earns; if same income, then same tax
                       Substantive Equality - look at what kind of expenses, costs of living and other factors to determine tax rates;
                           to assist certain people with certain lifestyles
                     Equity requires a fair sharing of the tax burden based on the ability to pay. This calls for graduated rates that rise
                      as income rises. This is a ―progressive‖ system.

       o Neutrality (also called ―efficiency‖)
                    Ideally, iindividuals should not be encouraged to choose one form of economic activity over another, or one
                     domestic arrangement over another, for tax reasons rather than based on what is the best investment or what are
                     their own true preferences
                  We have strong faith in market to allocate resources in the most efficient way and taxes should not distort market
                   choices
                  We also have strong faith in the need of government to encourage certain behaviour and allocate resources to
                   compensate shortfalls of market  but this can be interpreted as distorting natural choices
                    In a system focused on the ability to pay, the provisions that violate neutrality, such as tax concessions, tend also
                     to violate equity by abandoning the criterion of ability to pay in favour of other policy objectives
                    Government continues to use the tax system to pursue various social and economic policies, often using
                     deductions from income or credits against tax as the means of providing the desired incentive.
                    The Act may also indirectly create changes, such as individuals trying to claim income as business income so as
                     to benefit from the greater amount of deductions.

       o Simplicity
              Tax system should be as simple as possible to administer and comply with
              Goes back to the Rule of Law, transparency of laws and importance for people to understand what the rules are
              Tax laws cannot be enforced retroactively
              Simplicity competes with the other 2 objectives of equality and neutrality – tensions between and within them
              People are entitled to arrange their affairs to minimize taxes
              Therefore, there is a high expectation in tax jurisprudence to state very clearly what is owed and under what
                       circumstances to prevent tax avoidance
                      Government attempt to close these loopholes through legislation - there is constant efforts to find and plug loopholes

ITA s.117(2) – Federal Tax Brackets for 2006/07 – p.xix
      ($0-approx $8000) - no tax (Basic Personal Credit) – BPC (Fed) $8839, (ON) $8377
      15.5% - $36,378 or less
      22% - $36,379 to $72,756
      26% - $72,757 to $118,285
      29% - $118,286 and up
      Brackets must be adjusted according to Consumer Price Index to take inflation into account
      Otherwise, "Bracket Creep" would occur: People's incomes may rise with inflation but this may bump you into the next income
         bracket when your spending power has not increased
      Thus, brackets must be indexed to maintain the same purchasing power for taxpayers
      "Marginal Rate" means the rate you pay on the last dollar of income
      eg. if you made $100,000, your marginal rate is 26%
      but this doesn't mean you pay 26% on your entire $100,000 because you pay lower rates on the first few chunks of your
         income - this is a Marginal Progressive Rate Structure

Tax Expenditure
   once you have defined the 4 structural elements and set benchmark, any deviation from that benchmark to achieve non-tax policy
    purposes constitutes a tax expenditure (any concessions, reductions, tax reductions, tax breaks)
   granting a tax concession is the same effectively as writing a cheque (a direct payment) to the taxpayer
   tax expenditures means costs to gov in foregone revenue-  seen in either reduced services or shifting tax burden to someone else
   tax system is not only a way for government to collect revenue but is also gov's indirect spending instrument
   tax expenditures are preferred over direct transfer programs because often more efficient than setting up a separate system to pay
    out
   also, less stigma - a tax credit can be given anonymously without meeting with a welfare worker, for example
   but tax expenditures can be buried in ITA which leads to less visibility
   direct expenditures go through public account system in Parliament - an institutional process for people to ask questions about
    spending but tax system is so complex that not many politicians can understand mechanics of tax expenditures
   the lack of visibility can make tax expenditures attractive at times to appeal to an unpopular group or there are certain inconsistent
    goals that gov wants to achieve, tax expenditures can make it more discreet
   federal gov has almost unlimited taxing powers constitutionally, but has much less power in spending areas (because this is left to
    province) but federal gov wants more influence and contact with taxpayers and they can do so by legislating tax expenditures
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    Surrey argues that tax expenditure programs should be evaluated in a similar way as direct spending programs -
    Evaluate the Policy Objectives:
               o     Is there a clear policy objective?
               o     Are they being achieved?
               o     Could they be better-achieved through direct expenditure?
    Evaluate Cost: How much government revenue is lost as a result of the measure?
               o     with tax expenditure, no budget is set, just keep paying whatever is necessary
               o     Difficult to estimate the amount of revenue foregone by the tax concessions, since people would alter their behaviour
                     if the concessions were removed
    Evaluate Distribute Impact: who receives the benefits?
               o     is the benefit appropriate for the target group - relates to whether policy objective is being met
               o     the reason tax expenditures can have different distributive effects is b/c different income groups may engage in
                     different activities that benefit from tax expenditure
               o     the mode of delivery also affects it - is it a deduction, a credit of a refundable credit?

Difference Between Deductions and Credits
                   Key difference on tax liability:
                   Deduction reduces income subject to tax
                   Credits reduce tax payable directly
                   Basic steps:
         Gross Income - Deductions = Net Income X Apply Rates = Basic Tax payable - Credits = Tax liability

                        Example:
Suppose that an individual has $150,000 of gross income and is taxed at a marginal rate of 50%. What would be the value to that
individual (in terms of taxes saved) of receiving a $100 deduction? A $100 credit? How does it affect your answers if the taxpayer
instead has gross income of $30,000 and a marginal rate of 25%?

Assume they pay marginal rate on the last $1,000 of their income
If no deduction: $1000 @ 50% = $500
If $100 deduction: $900 (net income) @ 50% = $450
Deduction gave them a tax savings of $50 because without the deduction, the $100 would be taxed at 50%
If $100 credit, face value of the credit is the value of the tax saving – a dollar for dollar value
Thus, tax payable would be $400 based on calculations of their last $1000 of income
Tax saving is $100 assuming you have at least $100 of tax payable to use this credit

If Gross Income is $30,000, on the last $1000 of income
If no deduction: $1000 @ 25% = $250
If $100 deduction: $900 (net income) @ 25% = $225
Tax Saving = $25
If $100 credit:
$1000 - $0 deductions @ 25% - 100 tax credit = $150 tax payable
Tax saving is $100

Notes:
   We see that tax credit is applied in the same way across all income levels
   Credit provides more equal distribution provided you have enough tax payable to use that credit
   Tax programs designed as deductions or credits are often lost on the lowest income earners as they do not have the tax payable or
    taxable income to apply credit to
   Full exemption on scholarship and bursaries will benefit those with higher marginal tax rate than those with lower because they
    would have more tax savings
    -     this exemption falls under deductions and not credits
    -     thus, this questions whether this is promoting access to higher education for lower income families
    -     this may lead to an upside-down subsidy effect which will not match up to the ostensible tax objectives of policy expenditure
   tax credits usually mean non-refundable credits – if you can‘t use up all your credit because you don‘t have enough basic tax
    payable in that taxation year, you cannot claim that credit
   the only way you can get access to it is refundable tax credit (quite rare), meaning the balance you couldn‘t deduct from tax payable
    is refunded to you in a cheque from the government (eg. GST credit, Child Tax Credit)
o   these tax credits are aimed at lower-income families because they won‘t have enough tax payable to claim credit

CONSTITUTIONAL, LEGAL AND ADMINISTRATIVE INFRASTRUCTURE
Constitutional
 taxes are imposed by all levels of government
                 Most co-ordination exists between federal and provincial, each have independent constitutional powers to impose
                  tax, ss. 91 and 92 of Constitution Act, results in heavily overlapping powers
                 Both have power to impose income tax, for provinces need to be for provincial purposes, federal power is not so
                  constrained.
                 Tax collection agreements, first entered in 1962, all provinces except for Quebec have entered in for income tax
                  issues
                 Agreement:
                 Federal government collects all of the income tax, on the provinces behalf, and then remits back to the provinces
                  what they are entitled to.
                 Provinces must adopt the federal definition of taxable income, so there is one common tax base across the
                  country
                 Each province can determine its own rate structure and credits for taxable income
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    Direct Tax: levied on the very person intended to bear the burden of that tax
       o eg. Income tax, sales tax
    Indirect Tax: intended to be passed on to another person through the price of the good or service
       o eg. import duty imposed on person who imports the good expecting them to include the duty in the price when they sell the
              good, energy tax, excise tax
    overall fed sys is progressive, prov taxes are mildly progressive (relies more heavily on non-income taxes)
    municipal taxes are regressive b/c they rely heavily on property tax - property taxes get passed on through higher rent

Legislative Infrastructure
 Division of labour between Ministry of Finance and Ministry of Revenue:
       o Finance designs tax system while Revenue applies and administers the system as enacted by Parliament
       o Finance is pre-legislation, does tax policy research, looks at effects of tax policy, draft legislation
 Finance Minister with Prime Minister make key decision about what will be in budget
 budget sets out anticipated gov expenditures for the year and how they are to be financed - a plan for the future
 tax changes are mostly announced in budget because it is the largest source of revenue
 there may be a Technical Bill done outside budget to address things that don't represent policy changes but to fix drafting errors or
    amendments
 very high degree of secrecy wrt to what's going to be in the budget
 also there is limited scope in debate after the budget is announced b/c the matter of the budget is a matter of confidence
       o means that if the gov can't get its budget passed in Parliament, the gov falls and there must be an election
     Stages of Tax Legislation
     1. Budget plan
     2. Tax Measures: Supplementary Info and Notices of Ways and Means Motion
     3. Draft legislation is circulated in tax community
     4. Then the draft becomes a bill in Parliament
      for the most part, tax changes are enacted with retroactive effect from the day they were first publicly announced (at either
         budget release or press release)
      once gov has announced decision, it's pretty much set in stone, although there may be exceptions
Administrative Infrastructure
 s.150(1)(d)(i) - for individuals, the general deadline is the following April 30
            o (ii)(A) where the person is an individual who carried on a business in the year, the deadline is June 15
            o (ii)(B) extended deadline also applies if your spouse has business income
            o recognition that it may take longer to get all the info to determine net profit for the year
 s.150(1)(a) for corporations, the deadline is within 6 months after the end of the taxation year for the corporation
 s.151 everyone must estimate the amount of tax payable (must make yourself familiar with the tax rules)
 s.152(1) Minister shall examine a TP‘s return and determine amount of refund or tax payable
 s.152(2) the Minister issues Notice of Assessment to taxpayer after examination of tax return
 s.156.1(4) by your balance due day, [tax payable – (a+b)] is due to Receiver General
            o a = source deduction (eg. tax deductions already deducted off your pay cheque)
            o b = any other amount already paid to Receiver General through installment payment
 s.248(1) Definition of "balance due day"
            o for an individual, balance due day is always April 30
            o June 15 is only an extension of the filing deadline - you won't be penalized for sending in your return by June 15
            o but the date at which interest starts to run is April 30
 s.161(1) where you have unpaid taxes owing by April 30, the taxpayer will pay interest to Receiver General on the excess
 Regulation 4301(a) - prescribes rate of interest for taxpayers to government
            o interest rate is this market rate plus 4% premium = 7 + 4% = 11%
            o look at average interest rate on government treasury bill from previous quarter and the interest rate is set based on that
                 (determines "market rate" – 7% in 2006)
 Reg. 4301(b) - if the Minister owes taxpayer refund interest, it is the market rate + 2% premium
 Reg. 4301 (c) - every other provision in which reference is made to rate of interest, just use market rate
 Reg. 4300 Definition of ―Quarter‖ in a calendar year: Jan 1 – Mar 31; Apr 1 – Jun 30; July 1 – Sep 30; Oct 1 – Dec 31
 CRA provides interpretations and bulletins which lists their administrative policies
            o these policies are not law and are not binding in court; courts have dismissed these policies before
            o but they are useful for tax lawyers to know how matters will be administered
Appeals
1) phone tax services office - maybe a misreading error or other admin error that can be resolved easily
2) file a notice of objection - s.165(1) identifies limitation periods for appeal
3) Decision will be given on the notice of objection by Minister – s.165(3)
4) If unhappy, appeal to Tax Court of Canada – s.169(1); Ways tax court can dispose of an appeal – s.171(1)
5) If unhappy with Tax Court, appeal to Federal Court of Appeal (previously called Exchequer Court)
6) With leave only, can appeal to SCC
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MAJOR STRUCTURAL ELEMENTS OF INCOME TAX

Four Main Structural Elements of Income Tax:
             1. Tax Base: what is defined as "income"?
             2. Accounting Period: over what period do we determine income and compute tax on it
             3. Tax Unit: who is subject to tax? (the taxpayer)
             4. Rate Structure: how much tax is payable? s.117(2)

o    Income tax also includes tax credits which operate to reduce tax otherwise payable or to provide direct payments in the form of tax
     refunds.

Who is Subject to Income Tax?
1. “Persons”: The Choice of Tax Unit
o    Basic unit is the individual, reflected in the basic charging provision of the statute, s. 2(1) is the basis of 3 of the major structural
     elements
o    N.B. "individual" is a natural human being whereas a "person" is defined to include a corporation
              o s.2(1) An income tax shall be paid on the taxable income for each taxation year of every person resident in
                   Canada at any time in the year.
              o Taxable base (taxable income)
              o Accounting year (each taxation year)
              o Persons resident in Canada
o The 4th element of tax rates are found in subsection 117(2)
 Definitions s.248:
o Person: includes corporations as well as all individuals; so applies to individuals and the other persons included under the extended
     definition – provided they are resident in Canada at any time in the relevant taxation year – thus the primary tax unit is the individual
o Individual: a person other than a corporation
o Common-law partner: a person who cohabits at that time in a conjugal relationship with the taxpayer (a) for a continuous period of
     one year, or (b) would be the parent of a child of whom the taxpayer is a parent

     Choice of Tax Unit
    Arguments for the Individual Unit:
        An individual unit reflects the Control Principle: individuals should be taxed only on income they legally have control over
        this is in contrast to the Benefit Principle: allocate tax burdens according to the economic benefits that persons derive from
         income received by themselves or others  this principle is used to justify the Joint Unit
        1) we can't assume that income is always pooled and shared in a family; equal sharing is by no means always the rule
        2) we can't assume that there isn't other kinds of sharing that occur in households that are excluded from the traditional
         definition of a family/marital unit (eg. extended family)
        3) it creates disincentives for secondary earners to enter paid labour force (often a woman whose labour supply is more elastic)
               if a secondary earner has to aggregate her income onto the primary earner's already high income, she would be taxed at
                a much higher rate than if she is taxed as an individual
        4) Joint unit violates neutrality by either encouraging or discouraging the existence of the relevant unit
    Arguments for the Joint Unit
        Joint or family unit reflects the idea that people should be taxed on income in which they benefit
        1) the family is the basic consumption unit in society; taxation should be based on benefit rather than legal control to income;
         benefit of family income is usually shared among members regardless of who actually earns the income (benefit principle)
        2) Where the tax is based on the benefits provided by this income, economies from living together suggest the couple should
         be taxed more heavily than 2 single individuals with half the combined income of the couple
        3) There is little empirical evidence that tax penalties on dual-income-earning married couples in the US have had a significant
         impact on the marriage rate – neutrality issue

    Implications of Individual Taxation Under Progressive Rates
         1) Since progressive rates apply to the separate incomes of individual taxpayers rather than combined incomes of family units,
          couples or families with the same total income can face different tax burdens depending on the share of this aggregate amount
          received by each individual
         2) Since the aggregate tax on couples or families in which each member receives a share of the total income is less than tax
          on couples or families in which the same aggregate income is received by a single member, the combination of progressive
          rates and an individual unit creates a strong incentive for taxpayers to split their incomes with an otherwise low-income spouse
          or child.
     –    Some commentators say the difference in tax payable is justified b/c the single-earner couple derives additional ―imputed
          income‖ from the otherwise untaxed services provided by a stay-at-home spouse (childcare, domestic chores)
     –    BUT: 1) the additional burden on single-earner family is unrelated to these untaxed services (which might be provided by hired
          help who is paid out of income that has been subject to tax)
     –    2) it does not explain the differential treatment between dual and multiple-earner families
     –    3) income tax does not generally apply to imputed income so it is unfair to single out this form of imputed income for special
          treatment
     –    So it is best to view such differences tax burdens as a necessary implication of individual taxation under a progressive rate
          system, rather than a deliberate policy choice to achieve equity among families with similar incomes broadly defined (including
          imputed incomes)
         Under a progressive income tax with an individual tax unit, equity demands equal taxation of equal-income individuals, not
          equal taxation of equal-income couples or families
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    Income Splitting and Attribution Rules
        To maintain progressivity of income tax, the tax system opposes efforts to split income with a lower-income spouse/child where
         the income is not actually earned by that spouse/child
        When attribution rules apply, income that belongs to one person is deemed for tax purposes to belong to another person – the
         income is said to be attributed to that other person
        Income shifting is problematic from a tax policy perspective:
        1) Control Principle that justifies an individual unit in the first place
               o    there may not be a real transfer of control over the income in the family even if legal title to the income
               o    the original earner may retain de facto control over how that income is used, including to benefit themselves
        2) Reduces progressivity of income tax to individuals and in particular, high income earners can escape the progressive
         structure
        3) Erosion of revenue for the government
        s.56(2) Indirect Payments an amount that would be included in a TP‘s income if received by the TP is taxable to the TP if it is
         diverted to another person for the TP‘s benefit or the benefit of that other person
               o    prevents a taxpayer from diverting his/her income to someone else and having them taxed in their hands

     Basic Attribution Rules
     s.74.1(1) Transfers and loans to spouse/common-law partner
     o    Where an individual has transferred or lent property to or for the benefit of his or her spouse/CLP, or a person who has since
          become the individual‘s spouse/CLP, the transferee‘s income or loss from the property is attributed to the transferor

     s.74.1(2)Transfers and loans to minors
     o    Where an individual has transferred or lent property to or for the benefit of a related minor, the transferee‘s income or loss from
          the property is attributed to the transferor.
     –    Related minors include children and other descendants (grandkids, great grandkids), nieces, nephews, siblings, provided that
          they are under 18

     o    The transferor must be a Canadian resident to be taxed but it doesn‘t matter if the transferee is not a Canadian resident
     o    s.74.1(1) catches anticipatory transfers with the language ―or who has since become the individual‘s spouse/CLP‖
     o    N.B. Attribution is only for tax purposes
     o    Transferor must continue bearing the tax burden of the property even though the transferee now holds legal title to the property
          and all future incomes that is generated from it
     o    Transferor and not the transferee will be taxed on whatever profit that is generated from the property (hence attribution)
     o    Exception: Canada Pension Plan or a comparable provincial pension plan will not be subject to attribution because policy
          concerns dictate that CPP savings should be encouraged

     s.248(5) "Substituted Property" may include any number of substitutions - attribution rules still cling to the property no matter how
     many times it is converted

     Definitions
     Arm’s Length – s.251(1)
     (a) related persons shall be deemed not to deal with each other at arm‘s length
     (b) taxpayer and a personal trust are deemed not to deal with each other at arm‘s length if the taxpayer would be beneficially
          interested in the trust
     (c) where paragraph (b) doesn‘t apply, it is a question of fact whether persons not related to each other are at a particular time
          dealing with each other at arm‘s length

     Related Persons – s.251(2)
     (a) individuals connected by blood relationship, marriage or common-law partnership or adoption
     (b) a corporation and (i) a person who controls the corporation, if it is controlled by one person

     Blood Relationship, Marriage, CLP, Adoption – s.251(6)
     Persons are connected by
     (a) blood relationship if one is the child or other descendant (eg grandchild) of the other or one is the brother or sister of the other
     (b) marriage if one is married to the other or to a person who is so connected by blood relationship to the other; and
     (b.1) common-law partnership if one is in a CLP with the other or with a person who is connected by blood relationship to the other
     (c) adoption if one has been adopted, either legally or in fact, as the child of the other or as the child of a person who is so
           connected by blood relationship (otherwise than as a brother or sister) to the other
     –     diagonal/lateral relationships (eg. nieces, uncles) are not considered to be blood relationships

     Common-law Partner – s.248(1) A person who cohabits in a conjugal relationship with a taxpayer for at least one year OR would
     be the parent of a child with the taxpayer. If two cohabitees stop living together for 90 days because of a breakdown in their
     relationship, they are not considered cohabitees any longer.

Transactions
Transfers and Loans
   Attribution rules apply where a TP has transferred or loaned property to a spouse or a related minor
   Transfer of property is usually done through a gift or sale of property
   A gift is the transaction at which the attribution rules are primarily aimed
    o     The gift divests the donor of the income produced by the transferred property, and, since the donor receives no consideration,
          the divested income is not replaced from assets received in return for the transferred property
   A sale is also a transfer, except that s.74.5(1) exempts a sale for FAIR MARKET VALUE
    o     The reason for the exemption is that, if a FMV has been paid by the transferee spouse/CLP/related minor, then the transferor
          has simply substituted another potentially income-producing asset for the one transferred  thus, there is no income splitting
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Transfers for Fair Market Consideration – s.74.5(1)
Attribution rules in s.74.1(1) and (2) and s.74.2 do not apply to any income, gain, or loss from transferred property or from property
substituted therefore if:
(a) the FMV of the transferred property, at the time of transfer, did not exceed the FMV of the property received by the transferor as
consideration for the transferred property
(b) where the consideration includes indebtedness:
      (i) interest was charged on the indebtedness at a rate equal to or greater than the lesser of:
              (A) the prescribed rate and,
              (B) the rate that would have been agreed on, having regard to all the circumstances at the time of the indebtedness was
              incurred, between parties dealing with each other at arm‘s length,
      (ii) the amount of interest payable in respect of the indebtedness was paid not later than 30 days after the end of a particular
          year
      (iii) the amount of interest payable each taxation year preceding the particular year in respect of the indebtedness was paid not
          later than 30 days after the end of each such taxation year; and
(c) where the property was transferred to or for the benefit of the transferor‘s spouse/CLP, the transferor elected in the transferor‘s return
of income for the taxation year in which the property was transferred not to have the s.73(1) (re: Inter vivos transfers) apply.

Loans for value – s.74.5(2)
Attribution rules in s.74.1(1) and (2) and s.74.2 do not apply to any income, gain or loss derived in a particular taxation year from lent
property or from property substituted therefore if:
(a) interest was charged on the loan at a rate equal to or greater than the lesser of
           (i) the prescribed rate that was in effect at the time the loan was made, and
           (ii) the rate that would have been agreed on at the time the loan was made between parties dealing with each other at arm‘s
           length;
(b) the amount of interest payable in respect of the particular year in respect of the loan was paid not later than 30 days after the end of
the particular year; and
(c) the amount of interest that was payable in respect each taxation year preceding the particular year in respect of the loan was paid not
later than 30 days after the end of each such taxation year.

Spouses (or CLPs) Living Apart – s.74.5(3)
Where an individual has lent or transferred property to or for the benefit of a person who is the individual's spouse or CLP or who has
since become the individual's spouse or CLP:
(a) S. 74.1 does not apply to any income or loss from the property (or property substituted therefor) that relates to the period throughout
which the individual is living separate and apart from that person b/c of a breakdown of their marriage or CLP, and
(b) S. 74.2 does not apply to a disposition of the property (or substituted) occurring at any time while the individual is living separate and
apart from that person b/c of breakdown of their marriage or CLP, if an election is completed jointly with that person not to have this
section apply is filed with the individual's return of include for the taxation year that includes that time or for any preceding taxation year

Back to Back Loans and Transfers – s.74.5(6)
Where an individual has lent or transferred property:
(a) to another person and that property (or substituted), is lent or transferred by any person (third party) to or for the benefit of a specified
person with respect of the individual, or
(b) to another person on condition that property be lent or transferred by any person for the benefit of a specified person with respect of
the individual,
… the following rules apply:
(c) for the purposes of ss. 74.1, 74.2, 74.3 and 74.4, the property lent or transferred by the third party shall be deemed to have been lent
or transferred by the individual to or for the benefit of the specified person, and
(d) for the purposes of S. 74.5(1), the consideration received by the third party for the transfer of property shall be deemed to have been
received by the individual

Where Sections 74.1 to 74.3 do not apply – s.74.5(12)(b)
Sections 74.1 to 74.3 do not apply in respect of a transfer by an individual of property
(b) as or on account of an amount paid by the individual to another individual who is the individual's spouse or CLP or a person who was
under 18 years of age in a taxation year and who:
      (i) does not deal with the individual at arm's length, or
      (ii) is the niece or nephew of the individual,
that is deductible in computing the individual's income for the year and is required to be included in computing the income of the other
individual

Exception from Attribution Rules – s.74.5(13)
SS. 74.1(1) and (2), 74.3(1), and 75(2) do not apply to any amount that is included in computing a specified individual's split income for a
taxation year


    These stipulations ensure that artificial sale for inadequate consideration or for consideration in the form of an interest-free debt
     cannot be used as a device to divert property income from the vendor to the purchaser who is a spouse, CLP or related minor
    a loan is treated in the same way as a transfer for the purposes of the attribution rule
    s.74.5(2) basically exempts a loan if the loan is made at a commercial rate of interest and if the borrower actually pays the interest
     regularly

Indirect Transfers
     s.74.5(6) deals with ―back-to-back transfers and loans‘, which is the intervention of a third party individual that masks the transfer of
      the property to a spouse, common-law partner, or related minor.
     Specifically provided for by subsection 74.5 (6) (see above), which treats the transaction as if the property had been given directly.
                                                                                                                                             7
Attributable Income
Income from Property or Substituted Property
    attribution rules only apply where there has been a transfer or loan of property
    “Property‖ means property of any kind whatever whether real or personal or corporeal or incorporeal and includes money, unless a
     contrary intention is evident – s.248.1
    Money cannot yield income or capital gains by itself but as soon as the recipient of the money invests the money in income-yielding
     investments that have been substituted for the money, the attribution rules will continue to apply
     o     this is b/c the rules apply not only to the property transferred or loaned but to substituted property as well
    If the recipient sells the property and reinvests the proceeds of sale, the attribution rules continue to cling to the new investments
     o     income from the new investments (or capital gains from the disposition) will be attributed in the same way as if the investments
           were the original subjects of the transfer or loan
    However, second generation income (income generated from the income of the transferred property) is NOT subject to attribution

Substituted Property – s.248(5)
(a) where a person has disposed of or exchanged a particular property and acquired other property in substitution therefore and
    subsequently, by one or more further transactions, has effected one or more further substitutions, the property acquired by any such
    transaction shall be deemed to have been substituted for the particular property; and
(b) any share received as a stock dividend on another share of the capital stock or corporation shall be deemed to be property
    substituted for that other share.

Income from Business Excluded
   Attribution rules do not attribute income from a business since the provisions refer to income from property only
   This gap in the rules may be explained on the basis that income from a business does not flow automatically from the ownership of
    the property but requires activity on the part of the transferee

Capital Gains
    Attribution of capital gains or losses is governed by S. 74.2, which applies where the transferee is a spouse or a common-law
     partner.
    When property is transferred from one spouse to another, any income from the property will be attributed to the transferor by virtue
     of S. 74.1(1) and any capital gain arising from the later disposition of the property by the transferee will be attributed to the
     transferor by S. 74.2
    This section is limited to spouses and common-law partners, and does not apply to transfers to a related minor and any capital gains
     or losses at disposition.

Intra-Family Transfers
Spouse or Common-law Partner
    The attribution will continue so long as the transferee remains the spouse or common-law partner of the transferor, and the
     transferor remains a resident of Canada
    An end of the relationship, or the death of either party, or the permanent departure from Canada of the transferor, will bring the
     attribution to an end.
    S. 74.5(3) provides that attribution of income under 74.1 is suspended as long as a separation continues where they are living
     separate and apart because of a breakdown of their partnership
     o Attribution of capital gains under 74.2 is not suspended automatically, but will be suspended if both spouses jointly elect to
           suspend attribution of capital gains.
     o If the separation is ended by reconciliation, the attribution rules will return to form.
     o If the marriage is ended by divorce, the attribution rules will cease to apply.
Related Minor
    Attribution of property income under S. 74.1(2) occurs if property is transferred or loaned or for the benefit of a person who was
     under 18 years of age
     o     The practical effect of the section is that a transfer or loan to a minor attributes only if the minor transferee is the child,
           grandchild, brother, sister, niece or nephew of the transferor.
     o     The attribution will continue for so long as the transferor remains a resident of Canada, and the transferee remains under the
           age of 18.
     o     In the taxation year in which the transferee attains 18, attribution ceases.
     o     The death of either transferor or transferee will also bring the attribution to an end

Kiddie Tax
The Scheme
 you cannot directly transfer property to a family member or spouse without triggering attribution rules
 to get around this, you set up a family corporation with Dad as Director and sole shareholder for Class A Voting Shares
 Mom and Kids will subscribe to non-voting shares with their own money at fair market value
    o cannot use Dad's money b/c that would trigger attribution rules
 Dad has discretion as to distribution of dividends to any particular class
 he can announce that Class B gets the dividends and Mom and Kids can receive $30-35K income without being taxed and after that,
    they are taxed at the lowest rate
 Thus, income shifting is achieved
Caselaw
 Neuman (SCC 1998) ruled that attribution rules do not apply where the earner sets up a corporation with shareholders as the people
    to which the income is being transferred and paid out as dividends of the corporation
 Dad has no control over what the corporation does - it's a separate entity
 shareholders have no automatic right to dividends and Dad had nothing to do with it personally
                                                                                                                                               8
    Dad, only in the capacity of a Director, is distributing dividends to shareholders
    Therefore, allowed the kiddie tax scheme to operate
ITA Provision – Enacted in response to Neuman (overrules it)
 s.120.4 - important modification to attribution rules known as "kiddie tax" (applies only to private corporation dividends)
     o government said instead of coming up with a new attribution rule to catch these income shifting, they will just tax minors at top
          marginal tax rate of 29% on any dividend income from private corporations
     o all the provinces have enacted parallel legislation
     o Exception: if you are a minor and you inherited the shares from your parent, then the tax rule doesn't apply b/c it's not income
          shifting
     o OR, if the shares are inherited from anyone and the minor is in post-secondary education or qualifies for disability tax credit,
          the rule doesn't apply either

Recognition of Family Relationships – Personal Credits
   the Act takes family relationships into account in determining the amount of tax payable by individuals despite that it uses the
    individual as the basic unit of personal income tax calculations
   s.118(1)(a) Married or Common-Law Status – where and individual who is married or in a CLP who supports the individual‘s
    spouse/CLP and is not living separate and apart from b/c of relationship breakdown, that individual may receive a deduction in the
    amount determined by the formula                 AXB
                                          A = appropriate percentage for the year
                                          B = total of $7131 + [$6055 – (C – $606)]
                                          C = the greater of $606 and the income of the spouse/CLP for the year; or if they are living
                                          separate and apart at the end of the year b/c of breakdown, the spouse‘s income for the year
                                          while not so separated
   Other Credits – s.118.1
   Basic personal exemption of $8,839 for 2006 is increased by up to $7,505 for TPs supporting a cohabiting spouse or related
    dependent who earns no more than $629
   Additional credits are available for each disabled dependent over age 17 and for TPs who share accommodation with aged or
    disabled relatives over age 17
   s.118.2 allows TPs to claim medical expenses in respect of services provided to the TP, the TP‘s spouse or dependant

     Justification for Giving Personal Credits
    Although the Control Principle underlying the choice of the individual unit might suggest that it‘s irrelevant to look at family
     relationships in computing an individual‘s tax liability, the existence of legal and ethical support obligations arguably reduces the
     individual‘s effective control over income to which he or she is legally entitled
    Thus, exemptions for the basic costs of supporting economically dependant spouses, children and other relatives, and additional
     relief for extraordinary costs related to medical care or disability might be justified on the grounds that these costs reduce the TP‘s
     ability to pay

2. Residence
    Residence is the principal connecting factor which is used for Canadian income tax
    Canadian residents are subject to tax on their worldwide income, though the Act permits a non-refundable credit for income taxes
     paid to foreign governments and income from some foreign sources is exempt from Canadian income tax under bilateral tax treaties
    The factor of residence produces a large class of TPs with strong social and economic ties with the country  thus tax is justifiable
    They are people with moral obligation to finance the government and they are all people against whom enforcement is practicable

Taxation of Residents
   s.2.1 provides that an income tax is payable on the taxable income of every person resident in Canada at any time of the year
   s.3(1) defines income as income ―from a source inside or outside Canada‖ for the year
   For non-residents, they are not liable to pay Canadian income tax unless the person received certain kinds of income from
    Canadian sources

Definition of ―Residence‖
    The concept of Canadian residence is undefined in ITA except for an extended meaning under s.250
    Canadian courts have held that it ―should receive the meaning ascribed by common usage‖
    Thomson v. M. N. R. (1946 SCC) defines ―reside‖ as being ―to dwell permanently or for a considerable time, to have one‘s settled
     or usual abode, to live, in or at a particular place‖
    SCC concludes that residence is ―chiefly a matter of the degree to which a person in mind and fact settles into or maintains or
     centralizes his ordinary mode of living with its accessories in social relations, interests and conveniences at or in the place in
     question‖

Guidelines for Determining Residence (in Duff Text)
1. It must be assumed that every person has at all times a residence
2. A person may be resident in more than one country at the same time
3. Residence is primarily a question of fact
4. A TP‘s intentions to reside in a particular jurisdiction must always be viewed objectively against all surrounding facts. The concept of
    ―residence‖ must be distinguished from that of ―domicile‖, which turns largely on the individual‘s intentions.
5. Residence generally involves a TP‘s physical presence in the jurisdiction or the ownership of a right to occupy a building in the
    jurisdiction. Where a TP is not physically present, residence may turn on social or economic ties.
         CRA says the most significant residential ties are the individual‘s (a) dwelling place(s), (b) spouse/CLP, and (c) dependants.
         Secondary residential ties may also be considered (p.38-9):
                o   eg. personal property in Canada ( furniture, clothing, automobiles, etc.)
                o   Social ties with Canada (membership in recreational clubs and religious orgs)
                o   Economic ties with Canada (employment with Canadian employer, bank accounts, RRSPs, credit cards, etc.)
                                                                                                                                           9
          Retention of a Canadian mailing address/P.O. Box may also be of limited importance.
6.   Where a TP has resided in Canada for a lengthy period of time, clear and ―virtually irreversible‖ measures are required to terminate
     this residency

Person Deemed Resident – s. 250(1)
   s.250(1) A person is deemed to have been resident in Canada throughout a taxation year if the person:
         (a) sojourned in Canada in the year for a period of, or periods the total of which is, 183 days or more
   Thomson defines ―sojourn‖ as ―to make temporary stay in a place; to remain or reside for a time‖
   Sojourn means presence in Canada where the nature of the stay is either outside the range of residence or what is commonly
    understood as temporary residence or residence for a temporary purpose (Thomson)
Thomson v. MNR (1946 SCC)
   Facts: contended that he was a mere sojourner and that since he never remained in Canada for 183 days in the year, he should not
    be deemed a resident
   Held: he was a resident even though he spent less than 183 days in Canada
   Ratio: his visits did not have a transient character of sojourning; they were not unusual, casual or intermittent, for they were part of
    his permanent and settled routine of life; Thus, even if a sojourns for less than 183 days, can still be deemed resident after
    circumstances are considered

Ordinarily Resident – s.250(3)
    s.250(3) provides that a reference to a person resident in Canada includes a person who was at the relevant time ordinarily
     resident in Canada
    Reinforces the proposition that a temporary absence from Canada, even one lasting for the full taxation year in issues, does not
     necessarily result in a loss of Canadian residence
    Recent decisions have relied on this provision to conclude that TPs who neither lived in Canada nor maintained a Canadian dwelling
     during one or more years were nonetheless ―ordinarily resident‖ in Canada over a longer period of time
     o     Thomson v. M.N.R. (Dissent): The aim of Parliament was to tax, not only the residents of Canada, those who have their
           permanent home, their settled abode, but also, those who live here most of the time, even if they are absent on temporary
           occasions.
                   The first group comes under the classification of ―residents‖, the second under that of ―ordinarily resident‖

Example of No Taxes on Worldwide Income
Paul J. Nicholson v. The Queen (TCC 2003) - handout
      Canadian resident can be taxed on their worldwide income as well as Canadian income
Arguments for Residency
      many socio-economic connections to Canada while he was working abroad
              o family members still in Canada, still has interest in matrimonial home, part of his income is paid to Canadian account
              o he is only paying minimal taxes in UK (perhaps trying to avoid taxes in UK)
              o it's a short-term contract - he was on a work visa in UK
              o s. 250 - a resident is someone who is ordinarily a resident in Canada
                         just because someone is temporarily absent and continue to have economic ties in Canada, they will not
                              lose their residence
                         that he was a long-time resident before he left will require a severance that is virtually irreversible to lose
                              residency
      a very short absence from Canada - he was only gone for a year or so
Arguments Against Residency
      when he left, he did not plan to return to Canada because he understood that there was no job waiting for him
              o intention of the taxpayer can be a factor
      he married another woman in the UK and she arranged her work around his work in the UK
      he got his kids to visit him in UK
      seems like he's gradually consolidating new relationships in the UK
Held
      Court held that he was not a resident during that period of time and was not subject to worldwide income and only on
          Canadian-sourced income
      when he left Canada, he expected to be gone long-term and his return was out of his control
      he developed new relationships in the UK
      it‘s not unusual for family members to live in different countries b/c of employment opportunities
                                                                 ***
Residence of Corporations
   A company resides for the purposes of income tax where its real business is carried on … where central management and control
    actually abides – De Beers Consolidated Mines Limited v. Howe (1906 HL)
   Canadian courts have generally held that ―central management and control‖ abides in the jurisdiction in which a majority of the
    board of directors resides and meets – Dilt v. Canada (1978 Canada)
   Corporations deemed resident s.250(4)(a) – deems all corporations that were incorporated in Canada after April 26, 1965 to be
    resident in Canada
    o    this deeming rule displaces the ―central management and control‖ test with a test of corporate citizenship based on jurisdiction
         of incorporation
    o    For companies incorporated before April 26, 1965, the central management and control test may still play a role
   s.250(4)(c) deems all corporations incorporated in Canada prior to April 27, 1965 and at any time thereafter were resident in
    Canada or carried on business in Canada to be resident in Canada
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Where Residence is Unclear
   concerns for taxpayer about double taxation
   Foreign Tax Credit s. 126 - allows a Canadian resident to claim a credit against Canadian tax liability for taxes paid to a foreign
    country on the same income
   Canada-US Tax Convention provides tie-breaker rules about residence
    o    Art. IV deals with residence - a residence of a contracting state (Can & US) means someone who is subject to tax under
         domestic law of the contracting state
    o    if you meet the residency requirements under both countries, then you are a resident in both countries
    o    Art.IV (2) – If an individual is a resident of both Contracting States, then his status shall be determined as follows:
                 (a) If you only have one permanent home available in one of the countries, then you will be a resident in THAT country
                 "Permanent home" - a place you can always go to, you can travel there and stay there any time
                 Crashing at a relative's is not a permanent home
                 If you have permanent homes in both contracting states, then you will be a resident with which your personal and
                  economic relations are closer (centre or vital interests)
                 This is similar to the residency test in Canada, go through economic and social connections
                 (b) If there are equal connections to both state, then you will deemed to be a resident of the country to which you have
                  a habitual abode  this means where you spend most of your days by adding it up
                 (c) If you have been each country for equal amounts of time, have an habitual abode in both States or in neither State,
                  then you are a resident of the country of which you are a citizen
                 (d) If you have dual citizenship, then you have to go talk to the competent

3. Taxation of Aboriginal People
    It's a misconception that Aboriginal people pay no tax in Canada
    In fact they pay all taxes unless they can fit themselves in a very narrow exemption in s.87 of Indian Act
    To qualify for exemption, you must satisfy the requirement of an "Indian" - there are many groups that won't qualify (Metis, Inuit)
    A corporation owned by Indian cannot get tax exemption since a corporation cannot be Indian
    Exemption applies only to income or transactions that have a strong nexus to a reserve
    Exemption is unavailable to those living off-reserve or those living on reserve if income derived from off-reserved employment
    Personal property situated on reserve is exempt  ―income‖ is considered personal property, but the problem is determining
     whether it‘s ―situated on reserve‖

The Situs of Income Rule
Nowegejick v. The Queen (1982 SCC)
   N was an Indian of Gull Bay Reserve and lived on reserve
   he was employed by a logging company owned by the band which has a head office on reserve but the logging (the work) is done
    off-reserve
   Revenue Canada says N is not allowed exemption b/c he worked off reserve but N won his case and got exemption
   Ratio:
    o Income is personal property within meaning of s.87(1)(b)
    o To decide whether exemption is allowed we use Conflict of Laws Rule: when there is a debt, the debt is situated where the
          debtor (payor) resides because that's likely where the debtor has his assets and the debt can be enforced
    o SCC says this is not the only way to establish the situs of income although they conceded to Crown on using this rule
    o Where he did the services is irrelevant under this way of situating the income b/c income is situated where the payor resides
   for a corporation (which is a legal person), its residence is where the centre of control is located (where head office is)
   Aboriginal employment agency may be contracted by Aboriginal/non-Aboriginal employer and the agency hires employees paid by
    the head office on reserve - this will qualify for exemption

The Response to Situs of Income Rule
Williams (1992 SCC)
    SCC decides that the situs of income rule was too easily manipulated
    W lived on reserve and performed services on reserve, he lost his job and started collecting EI
    his EI income now comes from HR Canada based on his qualifying employment on reserve before
    Revenue Canada says the income is not from reserve now so he should not be exempt
    SCC says the Conflict of Laws Rule doesn't really suit the purpose of the Indian Act
    Discuses 3 possible purposes of the exemption under s.87:
                1. Political justification - Sovereignty of First Nations People
                      –    that First Nation People are sovereign and properly immune from taxes imposed by Canadian gov
                      –    this is reflected in many treaties negotiated – they already made contributions in form of land concessions
                      –    the courts didn't focus on this reason
                2. Protective Rationale
                      –    Crown has a fiduciary duty to AP and an obligation to protect them from interference on their reserve
                      –    taxation is a problem if it erodes the land or property that's held on reserve held by them as Aboriginal people
                      –    this is to protect reserves from being eaten away by taxation  gov can‘t take back what it gave by treaty
                3. Remedial Rationale
                      –    tax exemption helps to offset economic disadvantages faced by Aboriginal people after centuries of oppression
    Court leaned very heavily in favour of the protective rationale
     o Remedial rationale is rejected in almost all subsequent cases, Sovereignty rationale is ignored in this case
     o Exemption does not apply where Aboriginal chooses to acquire or hold their property in the commercial mainstream
     o Aim of test is to prevent the erosion of property by taxation  if would erode, then exempt from tax
           use Connecting Factors Test to examine factors that connect them to reserve – not just the situs of the debtor
          –     where the work is performed
          –     location/residence of employer
          –     nature, location and surrounding circumstances of the work performed by the employee, and whether the work serves
                members of the reserve community
                                                                                                                                          11
           –    residence of the employee
           –    whether the income is being earned in the commercial mainstream
    in Williams, there were connecting factors to the reserve:
           –    his EI was based on his previous income earned on reserve, the work was done on reserve  thus, it made sense to
                extend exemption to EI payments
           –    but this destabilized the Situs of Employer Rule
    CRA came out with guidelines which help people determine whether they would be connected to resident or not, which emphasized
     heavily on where the services were performed
    Post-Nowegejick: where income earning is taken off-reserve, the exemption is usually denied even when employer and employee
     live on reserve

Shilling v. Canada (2001 Federal Court of Appeal)
      S is a First Nation member in Ontario and spent much of her life living on reserve
      but is finding it difficult to continue to do so although she goes back to visit and participate in tribe life regularly, she is works
          off-reserve in a health services company in Ontario
      Fed CA concludes that her income is not situated on reserve - she loses the case and leave to appeal to SCC was denied
      court says the only factor connecting her to the reserve is that the company is on reserve (paid from the reserve)
      there are no other connections
      her income is earned in the commercial mainstream and therefore should be subject to tax
      Comments:
      on the other hand, one can argue her income benefits the reserve but Fed CA does not accept this argument because lots of
          people work for social services that benefit Indians and are still subject to tax
      some criticize the use of the word "choice" because if you want exemption, you have to be restricted to the types of work within
          the boundaries of the reserve
                o this runs against neutrality principle
      argument that she set up her affairs to minimize her taxes shouldn't harm her case because we are all entitled to arrange our
          affairs to minimize taxes

What is Income? Defining the Tax Base
  The tax base is defined as the amount to which the rate or rates of tax is applied to determine the amount of tax payable
  s.2(1) defines the tax base as the taxpayer‘s ―taxable income
  s.2(2) defines taxable income as the taxpayer‘s income for the year as computed by s.3
  The tax base includes all of the rules respecting measurement of income, including exemptions and deductions, as well as
   inclusions
              o    Inclusions – amounts that are added in computing a TP‘s income
              o    Deductions – subtracted from these amounts
              o    Exemptions – excluded all together

Computation of Income – s.3 of Division B
s.3(a) – Determine income for the taxation year
    TP must include the total amounts of income from a source inside or outside Canada for the year from each office,
     employment, business and property
                 o     income is computed on a source-by-source basis and cannot merge sources
                 o     can‘t use losses from one source to offset income from another source
                 o     expenses of one source can only be deducted against that source
                 o     compute income from each source, then aggregate them
                 o     only positive amounts entered in this section
                 o     capital gains are not income from a source
s.3(b) – Capital Gains
                 o     kg = proceeds of disposition – cost
                                  if negative  capital loss (kl)
    s.38 – taxable capital gain = ½ of capital gain; allowable capital loss = ½ of capital loss
    s.3(b)(i) Determine the amount if any by which the total of (i) exceeds (ii)
     (i) the total of:
          (A) all tkg from disposition of non-listed personal property (non-LPP), and
          (B) the taxable net gain from disposition of LPP (already deducted loss within net amount)
                       o     s.54 – ―listed personal property‖ means a TP‘s personal-use property
                       o     lists specific kinds of property primarily used for personal use and enjoyment by TP and family
                       o     eg. works of art, jewellery, rare books, stamp, coin  aimed at collectors
                       o     ―personal-use property‖ s.54 defined as property used primarily for the personal use and enjoyment of TP and
                             family – not owned to earn income but a consumption expense instead
                   losses on personal use property are non-deductible as a general rule because if we allow it, we will undervalue the
                    person's ability to pay taxes
                   However, LPP are also often held for investment value  therefore results in creation of (i)(B)
                   While we do not usually allow deductions for loss of LPP, the gains and losses on LPP are netted against one another,
                    but ONLY against one another  you can't use losses to offset any other gains other than those from the sale of LPP
           (i)(B) Taxable Net Gain from Disposition of LPP (s.41) = ½ (kg LPP - kl LPP)
                 o     only if you have a positive amount do you include this as taxable net gain under (i)(B)
                 o     if you have a negative amount, then you'd put a 0 in (i)(B) and then set the amount aside
                 o     if you have a tng in a following year, you can use that loss to set off the gain from a sale of another LPP

          (the total of above) exceeds
                                                                                                                                           12
     (ii) the amount by which “allowable capital losses” from non-LPP exceed allowable business investment losses (abil) for
     the year          [allowable kl (non-LPP) – abil]                (ABILs are ignored here and deducted under s.3(d) later)
          s.39(1)(c) abil = ½ of business investment loss (loss on sale of shares or debt of ―small business corporation‖)
          Small Business Corporation (s.248(1)) - a Canadian resident private corporation AND controlled by Canadian residents and/or
            private corporations, must use at least 90% of its assets in carrying on its business in Canada
          we allow this to be deducted as a regular business loss instead of deducting it under s.3(b)
          ABIL is really a capital loss (it's cut in half) but it's deducted like a business loss
          it‘s a hybrid deduction to give incentive to make riskier investments
          this is advantageous because it allows the ABIL to be deducted against any source of income, whereas s.3(b) will only allow
            losses to be deducted against taxable capital gain
          allowable kl can only be deducted against tkg - they have restricted deductibility
                       o    Why? Because it makes sense to have one half deduction if there is one half inclusion
                       o    Because you can control the timing of kg - you can time your investments to minimize your tax burdens and the
                            law tries to prevent people from realizing investment losses to offset business income
                                                   akl can include: LPP, non-LPP, ABILs, non-ABILs (all subject to one-half calculation)
    s. 3(c) Determine the amount, if any, by which (a) + (b) exceeds deductions permitted by subdivision e (childcare, moving
     expenses, spousal support, RRSP contributions, etc.) [(a)+(b) – deductions]
    s.3(d) Determine the amount, if any, by which (c) exceeds losses for the year from office, employment, business, property
     or abil
                       o    this is where abil is deducted against any source of income
                       o    if you have no income to deduct losses against, they can be carried back 3 years and forward for 20 years -
                            s.111(1)(a)
                       o    depending on the year the non-kl arises, the carry-forward year will be different (b/c of legislative amendment in
                            2006)  the 20-year carry-forward applies only if non-kl was realized in 2006 or later
                       o    2004-2005 has a 10-year carry-forward period; prior to 2004, the carry-forward was 7 years

Income v. Capital v. Consumption
   Income Tax applies to the flow of a TP‘s receipts over a specific period of time (typically a year)
   Capital Tax applies to the stock of capital or wealth held by a TP at a particular point in time
   Consumption or Expenditure Tax applies to a particular use of the TP‘s income or capital to purchase goods and services
   Basic distinction between capital and income: Capital is the source, income flows from this source
   Sale of the source itself does not give rise to income for it is simply proceeds from realizing the source itself
   Capital gains is NOT a source of income, as seen in the language of s.3(a)

Source Concept of Income
   The specified sources in s.3(a) are not exhaustive
   SCC has held that the language of s.3(a) also contemplates income from unenumerated sources (Schwartz)
    o    affirms that ―income from all sources, enumerated or not, expressly provided for in Subdivision D or not‖ are taxable under the
         Act
   Despite this general language, Canadian courts have tended to limit the sources of taxable receipts to those specifically identified in
    the Act, which led to many amendments to include amounts otherwise excluded in computing income from a particular source or
    from all sources as a whole
   The assumption that income must be derived from a productive source requires that a TP‘s income or loss from each source be
    computed separately and only subsequently aggregated under s.3 to determine the TP‘s net income from all sources
   Income NOT from a source:
    o    Capital gains
    o    Unrealized gains
    o    Income that does not have a source

Schwartz v. Canada (1996 SCC)
Facts
    taxpayer received settlement of a claim for damages arising out of the cancellation of an employment contract prior to the date when
     the employment was to commence  received $360,000 cash as settlement
    Crown argued the settlement was taxable as income from an unenumerated source (source being the employment contract), or it‘s
     a retiring allowance which is included under s. 56 and defined under s. 248
    Atkins case 1976 ruled termination pay not caught as retiring allowance since wasn‘t voluntary – section b was for non-consented
     loss of employment after this case since wasn‘t included in a)
Issue: Whether the damages should be assessed as
           1) a retiring allowance under S. 56, or
           2) an unenumerated source under section 3, or
           3) neither and treated as a windfall?
Held: The damages are not subject to tax either under s.56 as retiring allowance or as an unenumerated source under s.3(a).
Majority Decision:
Issue of s.3(a) Unenumerated Sources
 Affirms that s.3(a) can include unenumerated sources – the listed ones are just examples and not exhaustive
 in this case, the damages should not be included as an unenumerated source by relying on the wording of s.3(a) b/c Parliament has
     already legislated on loss of employment income and since it isn't included there, it shouldn't be included here
               where something has been addressed by specific rules by Parliament, and where it appears to conflict with a more
                    general provision, the specific provision should be looked at
 To find that the damages are taxable under s.3(a) would disregard the fact that Parliament has chosen to deal with the taxability of
     such payments in the provisions relating to retiring allowances
                                                                                                                                              13
Issue of Retiring Allowance
   Held that the damages received do not constitute a retiring allowance under s.56(1)(a)(ii)
    o     s.248(1) “retiring allowance” means an amount received in respect of a loss of an office or employment …
 Court does not think this is a retiring allowance b/c retiring allowance is made in respect of a loss of employment (defined in s.248(1)
    as an individual being ―in the service" of another person)
 Employment does not necessarily begin from the moment the contract is entered into
 There cannot be a loss of a position that has yet to be held, under the definition of ―retiring allowance‖ in s.248(1)
 Court found that Schwartz was not ―in the service‖ of Dynacare when the contract was breached
 If Parliament had wanted to include retiring allowances payments made in respect of the cancellation of an employment contract
    occurring before the employee had become under obligation to provide services to the employer, it would have specifically referred
    to the notion of prospective or intended employment
 Therefore, the money received by Schwartz cannot be considered a retiring allowance
    Concurring Judgment: judges did not like that majority‘s conclusion that the Minister can tax on sources not specifically identified in
    the Act

Other Concepts of Income
US    Approach
      Defines not only in terms of productivity but also according to the various forms in which income may be received.
      Income tax applies to capital gains, gifts and inheritances, and other fortuitous receipts such as punitive damages.
      US income tax act has general provision which includes in ―gross income‖ all ―gains or profits and income derived from any source
       whatever‖

Haig-Simons Definition
Alternative concept at odds with the source concept
•    No obvious reason why this source concept should be employed in order to determine the appropriate base of a tax designed to
     allocate the cost of government expenditures among members of the community in a fair and equitable manner.
•    Personal income is merely a share in the total income of society
•    Income equals consumption plus gain in net worth over a taxation year.
•    It does not matter whether the gain in net worth consists of periodic payments from a source, profits from a sale, transfers from
     people, or direct profit from own labour or direct benefit from owned property
•    Doesn‘t matter whether the gain in net worth is expected or unexpected, regular or irregular, deliberate or accidental, realized or
     accrued, in cash or in kind. All gains should be taken into account in measuring a taxpayer‘s income for tax purposes.
•    However, system is difficult to implement, not sufficiently practical; assumes that the accretion in wealth can be quantified in terms
     of market prices or at least objectively valued.
•    Huge valuation task in the case of unrealized gains and non-monetary benefits, problem of detection; more convenient to tax capital
     gains on realization than accrual
•    Liquidity issue – taxpayers might have to sell the assets producing their income in order to pay their taxes, notwithstanding their
     increase in wealth
•    May be overriding social and political reasons for not taxing certain economic gains, even if they constitute gains.

Carter Commission
•       Adoption of a more comprehensive definition of income along the lines proposed by Haig and Simons; necessary both to the equity
        and the efficiency of the tax system.
•       Idea that the traditional source based concept of income was not a satisfactory measure of the annual increase in a taxpayer‘s
        ability to pay tax, because it excluded from income so many accretions in wealth
•       In principle, income should include every accretion to wealth, regardless of its source, because every accretion to wealth increases
        the recipient‘s ability to pay.
•       That income arises where there is an increase in economic power, and that economic power increases when the market value of
        property increases
•       It was inequitable to tax gains only when realized in that those who retained investments which have appreciated in value are
        allowed a tax-free investment of the accumulate gains that are built up free of tax while other, who turn over their investments, are
        denied this privilege
•       Taxes should be allocated according to the changes in the economic power of the individual and families; does not matter if earned
        through working, gained it through operating a business, received it because he held property, made it by selling property or was
        given it by a relative.
•       The sum of the market value of goods and services consumed or given away in the taxation year by the tax unit, plus the annual
        change in the market value of the assets held by the unit
•       That capital gains be fully taxable when realized, that gifts and inheritances should be included in income, and as well as all other
        windfalls

Deductions
Policy concerns:
•    Deduction for costs that must be incurred by a TP in order to obtain income of different kinds is necessary on grounds of equity and
     efficiency, since tax on gross receipts rather than net gains would exaggerate the economic resources available to those who must
     incur larger costs in order to obtain these receipts and discourage these activities by lowering their after-tax rate of return more than
     the reduction of lower cost enterprises
•    Deduction for losses incurred in pursuit of income earning activity justified in order not to discourage these risky enterprises
•    Deductions as tax expenditures by government to encourage specific activities—saving for retirement, contributions to charity
•    Deductions viewed as inequitable way to pursue any policy goal other than an accurate measurement of income—they reduce tax
     payable for higher income TPs by an amount greater than deduction for lower earners
•    Controversy around child-care deductions—inequitable b/c upside down subsidy (a deduction is more valuable to people with higher
     income b/c they have more income to deduct from and thus, lead to more taxes saved)
                                                                                                                                              14
                o   Justified on equity and efficiency grounds b/c it‘s a legit cost of earning income and necessary to eliminate
                    disincentive to participate in paid labour force by "secondary earners" (i.e. women) resulting from non-taxation of
                    self-performed child care
•    Where deductions for personal expenses and other involuntary amounts are considered necessary to exempt basic living costs and
     to properly compare the taxable capacities of differently situated TPs, the purpose of these deductions can be characterized as an
     "accurate measurement of income"
•    Government has responded by converting many of these deductions into non-refundable credits but is this a disguised way of
     moving marginal rate upward?

Exemptions
Fulfill a number of policy goals:
•      Offset costs that TP might otherwise be required to incur in order to fulfill the duties of an office/employment or to obtain income
       from another source
•      Exemptions account for differences in personal circumstances
•      Provide selective relief to TPs receiving specific kinds of income such as social assistance and worker‘s compensation
•      s.81 of Indian Act arguably recognizes jurisdictional autonomy of First Nations through income tax exemptions

Tax Credits
•   Tax credits are subtracted directly from the amount of tax otherwise payable or credited to the taxpayer as a payment of tax,
    resulting in a reduction of tax otherwise payable or a tax refund where not tax is otherwise owing
•   Unlike deductions, which reduce the amount of tax payable by a taxpayer by decreasing the taxpayers income or taxable income
•   Where a credit is subtracted directly from tax otherwise payable, the credit is called a non-refundable credit.
•   Where a credit operates as an overpayment of tax, it is described as refundable.
•   Deductions are widely criticized as an inequitable way to encourage specific kinds of behaviour on grounds that they benefit high
    income taxpayers subject to higher rates than low-income taxpayers subject to lower marginal rates.
•   but, non refundable credits share a basic defect in failing to provide any assistance to person whose incomes are too low to pay any
    tax at all – which means the there is nothing to take the non-refundable credit off from
•   to the extent that these credits are intended to encourage qualifying activities or subsidize eligible TPs, refundability is a more
    equitable way to provide this assistance
•   so, non-refundable credits in Division E are an inappropriate hybrid b/c they neither achieve the goals of a deduction in providing an
    accurate measurement of each TP's ability to pay, nor an equitable method of encouraging specific activities or subsidizing
    particular individuals

When is Tax Liability Computed? The Taxation Year
Taxation Year
s. 2(1): Income tax shall be paid on the taxable income for each taxation year of every person resident in Canada at any time of the year

Tax Year for Individuals
s.249(1) defines ―taxation year‖ as a ―calendar year‖ for individuals
     •    ―calendar year‖ defined in Interpretation Act s.37(1)(a) as ―a period of twelve consecutive months commencing on January 1‖
     •    this forces individuals to adopt a calendar year as a fiscal period – thus year-end for individual’s business’s fiscal period
          must be Dec 31st now
     •    Note: no need to adopt a fiscal year if you only earn employment income – fiscal year only applies to business income from a
          company – sole proprietorship or partnership
     •    Thus both fiscal periods are same – for individual and for individual‘s business

Tax Year for Individuals with Businesses
    •     Owner of the business will have to determine fiscal period for the business but fiscal period cannot straddle 2 calendar years
    •     s.249.1(1)(b) says for most individuals and partnerships, no fiscal period may end after the end of the calendar year in which
          the fiscal period began
    •     s. 11(1) where an individual is a proprietor of a business, their income from the business for a taxation year is deemed to be
          the individuals‘ income for the fiscal periods that end in the year
    •     forces individuals with business to use calendar year as fiscal period

Tax Year for Corporations
s.249(1) defines ―taxation year as ―a fiscal period‖ for corporations
     •    s.249.1(1) Corporations can choose their fiscal period but it cannot be longer than 53 weeks (can be shorter)
     •    after you choose it, must stick with it for future subsequent fiscal periods
     •    to change fiscal period length, must get consent from government – s.249.1(7)
                o    prevents corps from manipulating their year end to achieve tax savings
     •    No consent needed if firm is taken over by an acquirer using a diff fiscal period, amalgamation, etc.
     •    Corporations must file tax returns within 6 months after end of their fiscal period
     •    because corporation can have a fiscal period/taxation year that straddles 2 calendar years, the taxation year is the year in
          which the fiscal period ends
                o    eg. if fiscal year is from May 1, 2003 to April 30, 2004, then this is considered the 2004 taxation year

Implications of Basic Accounting Period
     1) If tax is to be based on each TP‘s income for each taxation year, returns must be filed and tax paid on an annual basis
     2) The division of what is often a continuous flow of income into discrete yearly periods creates incentives for TPs to postpone the
          payment of tax by attempting to delay the recognition of income to subsequent taxation years or accelerating the recognition of
          deductions or credits to the current taxation year
     3) Where income is subject to tax at graduated rates, as in Canada, an annual accounting period may cause relative hardship to
          TPs whose incomes fluctuates and ―bunches‖ in single years compared with a TP whose income is more consistent year to
          year
                                                                                                                                         15
Other Accounting Periods
•   Act allows certain other accounting periods for specific purposes:
              o     farming and fishing as chief source of income – block average taxable income over 5 years
              o     RRSPs – permit TPs to deduct specific amounts contributed to RRSPs which are subject to tax only upon withdrawal;
                    creates a longer lifetime accounting period for income that is saved for retirement
              o     s.111 Carryover of losses:
                             Net capital losses – deductible only against net taxable capital gains, except in TP‘s year of death and the
                              taxation year immediately preceding it (where it‘s deductible against all sources)
                                         infinite carryforward period, can be carried back for 3 years
                             Non-capital losses – fully deductible to Tp‘s taxable income
                                         Carryforward 20 years (under 2006 federal budget proposal) and back 3 years

How Much? Tax Rates
Federal Tax Rates for 2006 in s.117 ITA
                                                         Applying the Tax Rates

The following example demonstrates how to apply the federal and provincial (Ontario) tax rates to an individual taxpayer with $80,000 of
taxable income in 2004. The basic personal credit (―bpc‖) is also factored in. All individual taxpayers are entitled to claim the bpc, and in
effect it creates a zero rate bracket at the bottom of the rate structure.

To find out the 2004 rates, credits and income brackets (federal and provincial) see the chart Tax Rates and Credits, p. xix of your
Annotated ITA, which is based on the statutory provisions but includes the effects of annual indexing for inflation. The statutory rates are
found in s.117(2) of the federal ITA, and ss.4(1),(3) and s.3 (surtax) of the Ontario ITA. The basic personal credits are found in
s.118(1)(c) of the federal ITA and s.4.0.1(4) of the Ontario ITA.

Step 1:              apply federal marginal rates to taxable income, to determine federal tax before credits

                             $35,000 x .16 = 5600
(70,000 – 35,000) = $35,000 x .22 = 7700
(80,000 – 70,000) = $10,000 x .26 = 2600
                                  $15,900 federal tax before credits

Step 2:   subtract the federal bpc to determine federal tax payable

2004 federal bpc = $8012 x .16 = $1282

$15,900 (from Step 1) – 1282 = $14,618 federal tax payable

Step 3:             apply the basic provincial marginal rates to taxable income, to determine basic Ontario tax before credits

                             $33,375 x .0605 = 2019
(66,752 – 33,375) = $33,377 x .0915 = 3054
(80,000 – 66,752) = $13,248 x .1116 = 1478
                                      $6551 basic Ontario tax before credits

Step 4:             subtract the Ontario bpc to determine basic Ontario tax

2004 Ontario bpc = $8043 x .0605 = $486

$6551 (from Step 3) – 486 = $6065 basic Ontario tax

Step 5:             apply the Ontario surtax rates to the amount of basic Ontario tax that exceeds the surtax thresholds

(6065 (from Step 4) – 3856) x .20 = 442
(6065 (from Step 4) – 4864) x .36 = 432
                                                $874 Ontario surtax

Step 6:             add basic Ontario tax plus Ontario surtax to determine total Ontario tax payable

$6065 (from Step 4) + $874 (from Step 5) = $6939 total Ontario tax payable

Step 7:             add federal tax payable plus total Ontario tax payable, to determine the individual’s combined tax payable

$14,618 (from Step 2) + $6939 (from Step 6) = $21,557 combined tax payable

Arguments For and Against Progressive Taxation
 Arguments for progressivity
o   Tend to question the distributive justice of pre-tax incomes, emphasizing the redistributive function of the income tax to moderate
    inequalities resulting from the operation of a market economy.
o High-income tax payers‘ greater proportionate ability to pay, for whom a large proportion of income is available for discretionary use
o Stabilization function of the progressive income tax, which collects proportionately more or less revenue as economic activity
    increases or decreases
                                                                                                                                            16
 Arguments against progressivity
o Flat tax advocates question the redistributive function of the income tax, challenging the implication of this redistribution for
    prevailing notions of private property, questioning the fiscal accountability of a tax designed to fall disproportionately on a minority of
    high income taxpayers
o Graduated rates discourage work effort, risk taking, and savings; encourage tax avoidance and evasion; increase the complexity of
    the income tax and its administration

2006 Income Tax Rate Schedule
Taxable Income                            Tax on Lower Limit              Tax Rate on Excess
$0 – 36,378                               $0                              15.25%
$36,379 – 72,756                          $5,548                          22%
$72,757 – 118,285                         $13,551                         26%
$118,286 and over                         $25,388                         29%

INTERPRETING TAX STATUTES: DEFINING THE LIMITS OF TAX AVOIDANCE

Distinguishing Avoidance and Evasion
Avoidance
    Entirely legal, does not involve fraud or concealment
    Ordering one‘s affairs primarily to minimize tax burden and reduce the tax that would otherwise be payable
    Avoidance cases often has to do with people exploiting potential gaps between the intention and words of statute
    You must have a good faith legal argument to support your interpretation of the Act
    Avoidance results in loss of revenue to the government, which presumably shifts the tax burden onto other TPs through the need to
     maintain tax rates at higher levels than would otherwise be needed
    Equity may be impaired since opportunities for tax avoidance are unavailable to those whose income is derived from wages or
     salary – only those with investments or business income are usually able to profit from tax avoidance
    Neutrality is also impaired when people plan their affairs purely for the purpose of tax avoidance
Evasion
    A deliberate breach of the Act – i.e. failing to file a return, failing to report all taxable income, deduct non-existent expenses
    Evasion is illegal and is subject to both criminal and civil penalties under the Act – s.239(1)
    s.239(2) provides fines and jail terms for evasion

Judicial Approaches to Interpreting Tax Statutes
Strict Construction
     Previously, UK and Canadian courts generally adopted the Strict Construction approach to interpreting tax statutes
     Statutory language was to be construed literally and ambiguities in taxing provisions were to be resolved in TP‘s favour
     Courts had to adhere to the ―letter of the law‖ notwithstanding the ―spirit of the law‖ nor the consequences of the court‘s
      interpretation
     Partington v. Attorney General (1869 HL): "the principle of all fiscal legislation"
                 o   if the person sought to be taxed comes within the letter of the law he must be taxed, however great the hardship may
                     appear to the judicial mind to be
                 o   look only at what the law says, no room for intendment, no equity about a tax
                 o   nothing is to be read in, nothing is to be implied

    More recently, however, Canadian courts have broken with this tradition and focused more on the objects and intentions pursued
     through the statutory text  results in the Modern Rule

M.N.R. v. MacInnes (1954 Ex.Ct.) – example of Strict Construction
   Facts: Husband transfers gifts of money and bonds to wife who then uses the money to purchase other bonds
   Wife then sells the new bonds and purchases other shares, she receives income from these shares
   Issue: Whether the term ―property substituted therefore‖ in s.32(2) includes property substituted for substituted property so that the
    income can be attributed back to the husband.
   Held: No, attribution should not occur because the provision only catches the first substitution
   Court endorses strict construction
   Since words don‘t catch more than one substitution, ambiguity is resolved in favour of the taxpayer
   If Parliament intended to catch infinite substitutions, they should have made this intention clear (which they subsequently did in
    s.248(5)(a)
   Notes:
   What values does SC reflect?
               o    classical/laissez-faire – concern about arbitrary state interference in individual‘s property
               o    hold Parliament to high standard of clear expression to impose tax
               o    similar to criminal law – depriving individual of freedom
               o    individual vs. state – negative liberty (freedom from gov interference)
   Even though Court has now rejected SC, subsequent SCC decisions appear to have retained the doctrine of a residual presumption
    in the TP‘s favour
               o    Johns-Manville Canada v. Canada court said ―where the taxing statute is ambiguous, resolve in favour of TP
               o    Qualified in Corporation Notre Dame de Bon Secours - recourse to presumption in TP‘s favour is indicated only
                    when the court is forced to choose between 2 valid interpretations and is clearly a residual presumption
Modern Rule
   SCC affirmed Driedger‘s Modern Rule, which says ―the words of an Act are to be read in their entire context and in their
    grammatical and ordinary sense harmoniously with the scheme of the Act, the object of the Act and the intention of Parliament‖
    (Stubart)
   Since Stubart, SCC has affirmed this approach to statutory interpretation on numerous occasions
                                                                                                                                          17
5 Interpretive Considerations:
1) Words
         The meaning of a word cannot be determined in isolation but depends on the context in which it is employed
         The word depends both on its connection with other words in the statutory provision and on its setting within the income tax as
          a whole
2) Context
         Commentators distinguish between ―internal context‖ and ―external context‖ of statutory text
               ―Internal Context‖ refers to everything contained within the four corners of the Act, including title, headings, preambles,
                marginal notes, section numbers
               ―External Context‖ refers to info about the world outside the statute that sheds light on the text‘s meaning, including the
                common understanding of the language that the writer and readers are likely to share, the purposes of the text and the
                surrounding background of values in which the text is adopted
         Commentators also distinguish between immediate context of a provision and the broader context of the statute as a whole
               Immediate context – the initial impression of the text‘s meaning based on the potential meaning of individual words,
                grammatical structure of provision, conventional associations among different words, and assumptions regarding the
                purpose of the provision and the manner in which it is drafted
               A reader‘s understanding of grammar, semantics and the world more generally are combined to derive meaning from a
                particular text
3) Scheme of Statute
         A statute begins with a political or social objective, which is then given a framework of the statutory provisions that are required
          to give effect to the objective
         Courts assume that legislatures do not use words unnecessarily, so every word has a role and meaning within the scheme
         Courts assume that legislatures employ a consistent method of expression throughout each statute, such that the same words
          are given the same meaning while different words are given different meanings
         Courts assume that both the provisions and the structure of each statute are designed to implement a coherent statutory
          scheme
         For this reason, courts generally presume that statutes contain no internal contradictions and inconsistencies and interpret
          statutory provisions to avoid such inconsistencies whenever possible
         According to principle of implied exclusion, courts may conclude that the legislature intended to exclude something where it
          has expressly included something else that is similar to the excluded item
         Courts may insist that if the legislature had intended a particular result, it not only would have drafted the statute a particular
          way, but that it SHOULD have drafted it that way
4) Purpose of Statute
         There is a close relationship between the scheme of a statute and the objects/purposes that this scheme is designed to
          advance
         Modern Rule suggests that the words of a statute be read harmoniously with the object of the Act
         Most statutes have several purposes, none of which is pursued to the exclusion of all others
         eg. ITA is designed to (1) raise revenue for government, (2) to do so in an equitable manner, (3) to promote various social and
          economic policies including the redistribution of economic resources
         As statutory drafters try to arrange different statutory objectives into a coherent statutory scheme, so should courts attempt to
          interpret statutes in a manner that recognizes the multiple purposes and minimize unnecessary conflicts among potentially
          competing objectives
         Preambles and formal purpose statements in the body of a statute are the most authoritative evidence of statutory purposes,
          but courts have also looked to LRC reports, government white paper, legal scholars, law review articles, etc.
         But because courts have much discretion in deciding purpose, they should be careful not to rely too heavily on inferences of
          statutory purposes when they are not clearly supported by the words of the statute or the scheme of the Act
5) Intentions of Legislature
         Since the legislature is the primary source of lawmaking in a democratic society, their intentions have special significance in
          statutory interpretation
         4 kinds of legislative intent relevant to process of statutory interpretation:
          1) Where a legislature has enacted specific rules to govern the interpretation of other statutes, the words of these statutes
                are properly read in light of these ―express declarations‖ of legislative intent (eg. Interpretation Act)
          2) Where those most closely associated with the drafting of a statute have expressed their views in extrastatutory materials
                (committee minutes, debates, etc.) these materials should be considered to be evidence of the effective intentions of the
                whole legislature
          3) Draw inferences about legislative intentions by considering words of the Act, read in context of statutory scheme, its
                external context, the evolution of the statute through successive amendments and statutory purpose
          4) Make presumptions about legislative intent based on norms and values reflected in broader legal and political culture

6)   Consequences of Alternative Interpretations
        Where the consequences of a particular interpretation seem absurd, unreasonable or unjust, courts tend to gravitate to
         alternative interpretations that seem more rational, reasonable, and fair
        Courts are able to focus on the concrete and often unforeseeable effects of provisions and are in a better position than
         legislature to judge whether the provision creates unfair consequences

Will-Kare Paving & Contracting Ltd. v. Canada (2000 SCC) – example of Modern Rule
Facts:
    WK bought a plant to produce asphalt for its paving business‘s consumption instead of relying on 3 rd party suppliers
    25% of the asphalt produced was sold to third parties; 75% used for its own paving business
    In 1988-1990, WK claimed the plant was property used primarily in the manufacturing and processing of goods for sale and was
     Class 39 property  thus, WK should be allowed to claim an accelerated capital cost allowance under s.20(1) of ITA
    WK also claimed the s.127(5) investment tax credit on the basis that the plant was ―qualified property‖ within the meaning of s.127(9)
                                                                                                                                       18
    Minister reclassified the plant as Class 8 property and denied the investment tax credit, both on the basis the plant was not being
     used primarily for the manufacturing or processing of goods for sale
    WK wants the plant to be classified as Class 39 instead of Class 8 b/c 39 will give it an accelerated depreciation rate
Issue:
    Does the cost of the plant qualify for the investment tax credit and the accelerated capital cost allowance provided for by Class 39?
Held:
    The plant was used primarily in the manufacturing of goods for its own paving contracts, and not for sale. Appeal dismissed.
Reasoning:
Majority (MAJOR J):
    Two divergent interpretations of what constitutes ―manufacturing and processing goods for sale‖ in Canadian jurisprudence:
     o     Crown Tire Service Ltd. v. Canada (1984)
                Property used to manufacture or process goods to be supplied in connection with the provision of a service, namely
                 through a contract for work and materials, is not viewed as being used primarily in the manufacturing or processing of
                 goods for sale – as such, it does not qualify for either the accelerated kg allowance of investment tax credit
     o     Halliburton Services Ltd. v. Canada & Canada v. Nowsco Well Service Ltd.
                These cases advocate a literal construction of ―sale‖ such that the provision of a services incidental to the supply of a
                 manufactured or processed good does not preclude receiving the benefit of the incentives
                The form of contract entered into between the TP and the customer is irrelevant
                Rather, it‘s the source of the profit (arising out of processing) that is important
     o     Rolls-Royce (Canada) Ltd. v. Canada attempted to reconcile these diverging lines of authority by restricting Crown to
           circumstances where there is no evidence of a discrete and identifiable good manufactured prior to or at the same time as the
           provision of a service
     o     But courts reverted back to the original Crown Tire principles in Hawbodt Hydraulics
     o     WK wants to use the Halliburton & Nowsco interpretation but SCC agrees with Hawbodt/Crown Tire
    MAJOR looks at Parliamentary objective – which was to encourage the manufacturing/processing sector‘s ability to address foreign
     competition in the domestic and international markets and foster increased employment in that sector of Canadian economy
    He rejects the plain meaning interpretation of the concept of sale b/c it would assume that the Act operates in a vacuum, oblivious to
     the legal characterization of the broader commercial relationships it affects
    Reference must be given to the broader commercial law to give meaning to the words (look at CONTEXT)
    Cites Driedger‘s Modern Rule
    Held that it was open to Parliament to provide a broadened definition of ―sale‖ to include the fact situation at bar, but since they
     didn‘t, the court cannot say that this was their intention
    Dismisses the appeal – WK does not get tax credit or Class 39 accelerated kg allowance

Dissent (BINNIE J):
    Taxpayers are not learned in the law to distinguish between sale of goods and contract for work and materials in commercial law
    It's not fair to expect them to know this and do their tax planning
    He prefers the "plain meaning" (popular, less legalistic) meaning of "for sale", which includes asphalt that serves as part of the
     paving contract  says that this is a more sensible reading for the layperson
    Argues that the asphalt disposed of under a contract for work and materials was a ―sale‖ within the plain meaning of the Act b/c at
     the beginning, WK owned the asphalt and at the end, the customer owned the asphalt
    He argues that the adoption of plain meaning approach is consistent with Parliament‘s intent when reviewing related text and
     legislative history
    He also looks at Hansard and an interpretation bulletin put out by Revenue Canada (majority seems to ignore Revenue Canada)
    He insists that it's the legislator's role to express clearly its intent and this is not a difficult task
    PHILIPPS agrees more with the dissent in this case

Judicial Anti-Avoidance Doctrines

1. Form and Substance

US Approach
Gregory v. Helvering, Commissioner of Internal Revenue (1935 US)
Facts:
    G owns all the stock of UMC – UMC holds 1000 shares of MSC – G sets up Averill Corp – transfers 1000 shares to Averill –
     dissolves Averill and liquidate shares back to G – G sells shares and reports a capital net gain instead of as dividends (which are
     taxed at higher rate)
    Facts conform to the statutory definition of corporate reorganization
     o    if you are doing an internal restructuring, there is no tax as long as you are just moving shares between companies (within a
          corporate group) but the ultimate owner of the shares doesn't change
     o    No capital gains tax on the sell of the shares from one company to another (rollover rules)
Held: G should be taxed as receiving dividends and not capital gain.
    Court refuses to treat this as a capital gain, focuses on the word ―reorganization‖
    Found that Averill Corp was nothing more than a mere device which put on the form of a corporate reorganization as a disguise for
     concealing its real purpose to transfer a parcel of corporate shares to G
    The undertaking was a devious form of conveyance masquerading as a corporate reorganization and nothing else
    Court acknowledged that while G has gone through all the required steps for reorganization, it was not a reorganization in the sense
     intended by the legislature
Notes
    The absence of a genuine business or non-tax purpose seems to have been essential to the court‘s conclusion that the TP had not
     effected a plan of reorganization but merely a preconceived plan to transfer shares
    The ―Business Purpose Test‖, Sham Doctrine and ―Form over Substance‖ doctrine emerged from this decision
    The Commissioner appears to conclude that while transactions may have taken the form of a reorganization, in substance they
     amounted to a dividend and should be taxed as such  focus on substance over form
                                                                                                                                             19
Anglo-Canadian Approach

Commissioners of Inland Revenue v. Duke of Westminster (1936 HL)
Facts:
    Duke drew up a deed to pay an annuity to his gardener (Allman) and it was agreed that these payments would not prejudice the
     remuneration to which Allman was entitled for services
    Duke trying to avoid tax by paying annuity instead of wages – Duke won‘t be taxed on paying annuities
    There was a side letter that said the servant had a right to wages but is expected to content with the annuity payments under the
     deed
Issue: Whether these payments were annual payments and thus admissible as deductions in calculating the Duke‘s taxes
Held:
    The payments were considered annuities and not wages
    Court rejected the Substance over Form doctrine because it would involve substituting ―the incertain and crooked cord of discretion‖
     for ―the golden and straight metwand of the law‖
    Court values knowing what the law is with clarity and not to have a discretion system where the law can take away your property
     after the fact
    Also, every man is entitled to order his affairs to minimize tax – the fact that the act was purely tax-motivated is not a problem
    Court recognizes that there may be cases where documents are not bona fide and are only used as a cloak to conceal a different
     transaction, but this is not the case here, for the deeds are bon fide and have been given their proper legal operation
Dissent:
    Finds that the letter was intended to be a binding contract
    The annuity is in legal substance just a wage payment in a different form – substance over form
    Also concerned about the unequal bargaining power of the parties – it‘s unlikely Allman would ask for additional wages b/c the Duke
     is powerful and Allman would want to keep his job
Notes:
    Viscount Simon in CIR v. Wesleyan and General Assurance Society (1948 HL) summarizes the principles:
     o     First, the name give to a transaction does not necessarily decide the nature of the transaction – the question always is what is
           the real character of the payment, not what the parties call it
     o     Second, a transaction, which, on its true construction, is a kind that would escape tax is not taxable on the ground that the
           same result could be brought about by a transaction of another form which would attract tax
    In general Canadian courts have accepted the doctrine that the legal substance of a contract or transaction is to prevail over
     form/nomenclature, but not to the extent of the more expansive doctrine of economic or commercial substance over form adopted in
     the US
    Bronfman Trust – court will look at the underlying commercial and economic realities
    but in Canada v. Antosko, Iacobucci says that although courts must analyze a transaction in the context of economic and
     commercial reality, this approach cannot alter the result where the legal/practical effect (the legal substance) of the transaction is not
     in dispute

2. Sham Doctrine
    Classical definition (Stubart): Involves creating a false impression in the eyes of the taxing authority as to the real nature of the legal
     relationships - some element of deception is required

Dominion Bridge (1975)
  DB manufactures steel products by purchasing raw steel off-shore
  DB set up a subsidiary corporation called Span whose sole purpose is to purchase steel from suppliers in Bahamas
  Span buys steel at market price X from suppliers and then resell the steel at a price of X + 20% markup to DB
  DB deducts the cost of goods from its income
  essentially DB shifts part of its profits to a Span, a corporation that is resident in Bahamas, which covers about 18% of the
   company's profit (Bahamas tax is lower)
  at the time, our tax rules allowed Span to give a tax-free dividend to DB so that DB gets the money back in Canada without paying
   tax on it
  Span was not an independent operation – it was entirely controlled by DB
  Span had no other function other than to camouflage and hide the transfer of profits of DB to the off-shore subsidiary
  all these maneuvers were purely tax motivated – court held it was a sham and the profits were assessed to DB

3. Ineffective Transactions Doctrine
    If tax consequences depend on legal rights/duties actually created by the TP, then courts must scrutinize the conduct and
     documents by which these rights/obligations are created to ensure that everything which appears to have been done was actually
     done according to the law
    Where TPs have failed to follow the necessary formalities through which specific legal relationships are established, courts may
     conclude that the transaction that the have endeavoured to carry out are legally ineffective or incomplete
    In these circumstances, tax will be assessed on the basis of the transactions actually entered into and the legal relationships
     actually created
    In Canada, the doctrine has generally been invoked to challenge tax-motivated transactions involving partnerships, trusts and
     corporations

4. Business Purpose Test
    Stubart considered the adoption of a judicial ―business purpose test‖ like that in the US in Gregory v. Helvering
    Although Stubart was overruled by the enactment of GAAR in 1988, it remains the most authoritative statement of judicial anti-
     avoidance doctrines in Canadian tax law
                                                                                                                                           20
Stubart v. Canada (1984 SCC)
Facts:
    Finlayson (parent co.) owns Stubart, which bought the assets of another business, Stuart
    F also owns Grover, which is losing money
    F decides to sell Stubart‘s assets to Grover and then have Grover hire Stubart continue to carry on the business as Grover‘s agent
    This way, Stubart can transfer its net income realized from the business to Grover
    Grover can applied past losses to the newly transferred assets to avoid tax
    Dept. of National Revenue reassessed Stubart, set aside the transfer of income to Grover and charged it back to the taxable income
     of Stubart b/c the statute doesn‘t allow consolidation of profits and losses among different corporate entities within a corporate group
                o     although you can set off losses against different businesses within one company
Issue:
    Whether a transaction that has been entered into purely for minimizing tax and with no valid business purpose is valid
Held:
    SCC rejects Business Purpose Test and reaffirms that a transaction can be effective for tax purposes even if there is no business
     purposes and was done purely for tax purposes
    Furniss v. Dawson (1984 HL)
     o    decision was released during hearing of Stubart
     o    D owned shares of an operating company (Opco)
     o    Opco doing very well and D is ready to realize the latent capital gain but when D sells shares, capital gain rules will apply
     o    D finds a 3rd party purchaser to buy his shares
     o    before D sells, he goes to Isle of Man (a tax haven) and incorporates a new company there (Holdco)
     o    D then transfers his shares from Opco to Holdco
     o    there is no capital gain tax because it's just internal reorganization done on a roll-over basis
     o    Now, 3P is entering a P+S Agreement with Holdco; D is not mentioned anywhere
     o    HL was not okay with this despite the strict construction rule
     o    they develop Step Transactions Doctrine - a new anti-avoidance doctrine; not dissimilar to US Business Purpose Test
                   where, in a series of transactions, there is inserted a step that is purely for the purpose of tax avoidance, that
                    step will be ignored in determining the tax effect of a series as a whole
     o    means that they ignored the intervening transfer to Holdco – treated it as a direct sale by D to 3P, giving rise to kg tax
    SCC rejects Business Purposes Test for 4 distinct reasons:
     1. Tax incentives/Tax expenditures are not only for the purpose of raising revenue but also to encourage social and economic
          activities
               Without the inducement offered by the Act, the activity may not be undertaken by the TP for whom the induced action
                would otherwise have no bona fide business purpose
               Thus, imposing a business purpose requirement might bar the TP from undertaking the very activity Parliament wishes to
                encourage
     2. Tax avoidance can be a legitimate business purpose because it can free up more capital to run the business and more profit
          will result
          • Duff disagrees with this – Caselaw shows that for an activity to qualify as a ―business‖, it must not only be engaged in by
                the TP with a reasonable expectation of profit, but that profit must be anticipated from the activity itself rather than
                exclusively from the provisions of the taxing statute
     3. Institutional reason – proper role of courts and legislatures
          •     It‘s not the proper role of the court to create anti-avoidance rules when there is already s.137 (rule against artificial
                transactions) in existence
          •     It‘s proper for US courts to create BPT because they do not already have anti-avoidance legislation
     4. Rule of law must be protected – too much judicial discretion in Business Purpose Test
          •     For courts to try to stretch the law to meet hard cases is not merely to make bad law but to run the risk of subverting the
                rule of law itself
          •     Disagreeable as it may seem that some TPs should escape what might appear their fair share of tax, it would be far more
                disagreeable to substitute the rule of caprice for that of law

    Court gives guidelines for interpretation and gives a new rule for interpretation (see 3):
     1) Where the facts reveal no bona fide business purpose for the transaction, s.245 may be found to be applicable depending
          upon all the circumstances of the case.
     2) In those circumstances where s.245 does not apply, the older rule of Strict Construction prevails, but will not assist the TP
          where (a) the transaction is legally ineffective or incomplete; or (b) the transaction is a sham
     3) The formal validity of the transaction may be insufficient where:
              a) the setting in the Act of the allowance, deduction or benefit sought to be gained clearly indicates a legislative intent to
                   restrict such benefits to rights accrued prior to the establishment of the arrangement adopted by a TP purely for tax
                   purposes
              b) the provisions of the Act necessarily relate to an identified business function
              c) ―the object and spirit‖ of the allowance/benefit provision is defeated by the procedures blatantly adopted by the TP to
                   synthesize a loss, delay or other tax saving device, although these actions may not attain the heights of ―artificiality‖ in
                   s.245
                o     This may occur where the TP, to qualify for the allowance/benefit, takes steps which the terms of the provision may,
                      when taken in isolation and read narrowly, be stretched to support
                o     But when the provision is read in context of the whole Act and with the object and spirit of the Act and the specific
                      provision in mind, the result produced by the TP‘s actions would not, by itself, avail him of the benefit
    Court held that neither the carry-forward provisions, nor any other provision in the Act, have been shown to reveal a parliamentary
     intent to bar the appellant from entering into such a binding transaction and to make payments here in question
                                                                                                                                           21
The General Anti-Avoidance Rule (GAAR) – s.245(2)
•   Government white paper overruled Stubart and introduced GAAR in 1987; repealed the former s.245(1) of ITA and created new
    s.245
•   Addresses aggressive tax planning which erodes tax revenues, the rampant avoidance which undermines the integrity of the system,
    the unwillingness of courts to intervene with a business purpose rule, and the difficulty of piecemeal anti-avoidance legislation
•   GAAR intended to strike a balance between TPs‘ need for certainty in planning their affairs and the government‘s responsibility to
    protect the tax base and the fairness of the tax system
•   GAAR is effective for transactions entered into, on or after September 13, 1988
•   s.245(2) is a provision of last resort
               o     before applying GAAR, you have to apply all the other provisions in the Act first, if still successful tax avoidance, then
                     see if GAAR applies
               o     GAAR preserves all the pre-existing judicial anti-avoidance doctrines (Sham, incomplete transaction, etc.)
               o     GAAR denies the tax benefit of a transaction (includes an arrangement or event) if it is an ―avoidance transaction‖
•   s.245(3) To be characterized as an avoidance transaction, it must
            1) be a transaction or part of a series of transaction that, but for the GAAR itself, would result directly or indirectly in a tax
                  benefit; and
            2) It may not reasonably be considered to have been undertaken or arranged primarily for bona fide purposes other than
                  to obtain the tax benefit
               o     Note that s.245(3) does not permit a transaction to be considered an avoidance transaction just because some
                     alternative transaction that might have achieved an equivalent result would have resulted in higher taxes because
                     tax planning is a legitimate and accepted part of Canadian tax law

•    Tax Benefit
•    s.245(1) defines ―tax benefit‖ as including the avoidance, reduction or deferral of tax, or any other amount payable under the Act (i.e.
     interest and penalties) or an increase in refund of tax or other amount payable under the Act
•    Unlike the former s.245(1), which applied only to deductions in respect of disbursements or expenses, the scope of GAAR is
     virtually unlimited, applying to any transaction resulting in any advantage under the ITA or a tax treaty
•    To find a tax benefit, one must imagine a notional amount of tax or other amount payable/refundable absent the avoidance
     transaction or series of transactions
•    Existence of a tax benefit should be easily determined by comparing the tax consequences that would result from the transaction
     but for GAAR, with those that would result if the transaction had not been done
•    Court should find a ―benchmark transaction‖ that TP might otherwise have reasonably carried out, but for existence of the tax benefit
                o     this may depend on the primary purpose for which TP entered into the transaction (possibly linked to 2nd requirement)

•    Non-Tax Purpose Test
     o   we see an expanded business purpose test – now read as bona fide non-tax purposes
     o   The name was amended b/c Parliament recognizes that transactions may be carried out for legitimate purposes, such as
         personal reasons, that are not business related
     o   s.245(3) says it‘s not an avoidance transaction if it ―may reasonably considered‖ to have a non-tax purpose
                ―reasonably‖ suggests that the non-tax purpose test is intended to be objective – thus not concerned with what was in the
                 TP‘s mind, but with what a reasonable TP in the TP‘s circumstances would have considered to be the purpose of the
                 transaction (Canada Trustco)
     o   Technical notes say that a transaction will not be considered to be an avoidance transaction because, incidentally, it results in
         a tax benefit or because tax considerations were a significant, but not the primary, purpose for the transaction
     o   Alternatively, if you have a transaction that produces a tax benefit in any way, it is an avoidance transaction unless you can
         show that it was undertaken for a primary non-tax purpose
     o   if the transaction has both a primary non-tax purpose and a tax avoidance purpose, then you have to weigh the 2 purposes
     o   having a tax avoidance motive is okay as long as it's not the dominant purpose
     o   if it is, then you may be caught by the GAAR

•    Series of Transactions
     o    s.245(3)(b)
              A transaction may be characterized as an avoidance transaction if it is part of a ―series of transaction‖ that collectively
               results in a tax benefit, even though the individual transaction alone does not result in a tax benefit
               o     Thus, GAAR introduced ―step transaction‖ concept  the primary intention of each step must be to achieve some
                     non-tax purpose or else the tax benefit will be denied where the series as a whole results in a tax benefit
     o    s.248(10) – ―series of transactions‖ is deemed to include any related transactions or events completed in contemplation of the
          series
     o    Canada Trustco – SCC concludes that the ordinary meaning of ―series of transaction‖ includes ―a number of transactions that
          are ‗pre-ordained in order to produce a given result‘ with ‗no practical likelihood that the pre-planned events would not take
          place in the order ordained‘.‖
     o    Can read these interpretations of ―series of transactions‖ together to form an expanded definition of the phrase

Misuse and Abuse
•   s.245(4) the tax benefit will not be denied if the avoidance transaction would not result in a misuse of the provisions of the Act or an
    abuse of the Act read as a whole
•   Clarifies that the GAAR is not to apply to tax-motivated transactions that are otherwise in accordance with the object and sprit of the
    provisions in the Act, so as not to catch legitimate tax avoidance, or interfere with social/economic policy objectives of tax
    expenditures
•   Excludes from GAAR any tax-motivated transaction consistent with the object and spirit of the Act, whether or not the transaction is
    positively intended or deliberately encouraged by the provisions of the Act
•   Misuse of a provision occurs when a transaction is structured to take advantage of technical provisions of the At that would be
    inconsistent with their overall purpose
•   Abuse of the Act as a whole may occur where a transaction does not constitute a misuse of a specific provision, based on a narrow
    reading, but is inconsistent with the overall policy of the Act
                                                                                                                                        22
•    Two-stage Analysis to determine whether there has been misuse/abuse (OFSC Holdings):
              o   1) Identify the relevant policy of the provisions or the Act as a whole
              o   2) Determine whether the avoidance transaction constitutes a misuse or abuse having regard to this identified policy
                  (consider the facts)
                            To deny a tax benefit where there has been strict compliance with the Act, on the grounds that the
                             transaction constitutes a misuse/abuse, requires that the relevant policy be clear and unambiguous

Tax Consequences
•   s.245(2) says where there‘s an avoidance transaction, ―the tax consequences to a person shall be determined as is reasonable in
    the circumstances in order to deny [the] tax benefit‖ that would otherwise result from the transaction or series
•   s.245(1) defines ―tax consequence‖ broadly as ―the amount of income, taxable income, or taxable income earned in Canada of, tax
    or other amount payable by or refundable to the person under this Act, or any other amount that is relevant for the purposes of
    computing that amount‖
•   s.245(1) and (2) authorize adjustments to any amount relevant to a TP‘s current or future tax liability
•   These remedial provisions apply to ―any person‖ even if he was only indirectly or marginally involved in the avoidance transaction
•   s.245(5)(a) GAAR may be used to adjust not only deductions in computing a TP‘s income from all sources and available tax credits
•   s.245(5)(b) GAAR may be used as an attribution rule to allocate any deduction, income, loss, or other amount to any person
•   s.245(5)(c) authorizes CCRA and the courts to recharacterize the nature of any payment or other amount
•   s.245(5)(d) The tax effects that would otherwise result from the application of any other provisions of the Act may be ignored
•   Limits – Powers of revenue authorities and courts are limited in 2 ways:
    1. The tax consequences must be ―reasonable in the circumstances‖
    2. They must be determined in order to deny the tax benefit
    •    Thus, CCRA has precise orders to deny the tax benefit that would otherwise result from the avoidance transactions or series –
         the same tax benefit that must be identified as part of the determination that a particular transaction is an avoidance
         transaction

Steps to Applying GAAR
    1. The provisions must be interpreted and applied in accordance with their object and spirit using the Modern Rule
    2. Therefore, if a transaction is not in accordance with the object and spirit of the other provisions of the Act read in the context of
         the Act as a whole, those provisions should be interpreted not to apply to the transaction – GAAR is unnecessary
    3. But, if a transaction is within the object and spirit of the other provisions of the Act, it must be determined whether the
         transaction is an avoidance transaction under GAAR s.245(3)
    4. If the transaction is found to be an avoidance transaction, then determine whether s.245(4) (Misuse & Abuse) applies. If it does,
         then s.245(2) will not be applied to deny the tax benefit of the transaction.

McNichol v. Canada (1997)
•   M and law partners had a firm, bought a building with a corporation they set up (Bec)
•   Firm paid rent to the corporation because the law allows corporation to pay lower taxes than a partnership
•   There were disputes among partners - sold the building to an arm's length 3rd party
•   After selling, only cash is left in the partnership and the partners wanted access to the cash and wanted to wind-up the corp
•   Easiest way to wind-up and distribute to the partners would be to treat it as a dividend fully included in the income (with a dividend
    tax credit) – but this is not ideal for tax purposes
•   Used surplus stripping arrangement instead - converting what would otherwise be taxed as a dividend into a capital gain
    o When a corporation distributes its profits to its shareholders, it would be treated as dividend
    o But if shareholders dispose of shares to a 3rd party, the money they get from a 3rd party would be treated as a capital gain and
          be taxed at a lower rate
•   Government is aware that people will want to make these surpluses into capital gain and thus, there is a Anti-Avoidance rule in the
    ITA - s.84.1
    o If you dispose of your shares to a non-arm's length person, what would otherwise be a capital gain is deemed to be a dividend
    o But if you find an arm's length purchaser to buy shares from you, that will keep you safe from Surplus Stripping Rules and
          make it a capital gain
    o However, b/c of the particular circumstances in the sale in McNichol, the government assesses the facts with the Sham
          Doctrine and the GAAR
•   in this case, the partners found Forestell, a man with a shell corporation Beformac
•   Beformac bought Bec shares with a loan from CIBC; F pledges Bec‘s assets (cash amount equal to loan) as collateral for CIBC loan
•   Beformac and Bec are then amalgamated and they used the money that was in Bec to repay the loan
•   The proceeds from the sale of Bec‘s shares to Beformac was divided among the partners as capital gain  each partner received
    $75,000 tax free ($300,000 in total)
•   F is in effect sharing the tax advantage that BEC got – got $20,000 that was left after repayment of the loan
•   Sham Doctrine
•   NB GAAR does not exclude traditional anti-avoidance doctrines, court also considered whether it was a sham
•   Court concluded that it was not a sham b/c Beformac and BEC had a arm's length relationship with independent advice and different
    interests
•   GAAR is used as a last resort
    o there must be a benefit relative to some other way the transaction could be taxed
    o have to pick a benchmark transaction to see if there is a tax benefit - the easiest benchmark was to wind-up the corp and
          distribute it as a dividend
           Once someone has done something unusual and there has been a tax benefit, it usually falls within the ambit of GAAR
           b/c too many hoops to jump through to get to objective - worked in the court's argument that it was anti-avoidance
•   Was the transaction undertaken primarily for a bona fide non-tax purpose under s.254(3)? NO
    o The onus was on the McNichol to establish that there was a non-tax purpose but they failed to do so
    o M argued that the main purpose of the sale was to terminate the partners‘ association with each other but court doesn‘t agree
    o To dissociate, the partners only had to choose between payment of a liquidating dividend and the sale of shares. They chose
          sale of shares, which was not selected for bona fide non-tax reasons – they only chose it because they would save tax
                                                                                                                                         23
•    Is the transaction saved by s.245(4) Abuse/Misuse?
     o Even though it's an avoidance transaction, it will be saved by GAAR if they can show that it was not a misuse of the provisions
           of the act or abuse of it as a whole  this is considered the saving clause- introduced after the first drafting of the GAAR
     o The object of GAAR is to thwart abusive tax avoidance transactions and surplus stripping is abusive to the object and spirit of
           the Act
     o Therefore, the transaction is not saved by s.254(4) b/c it was designed to effect, in everything but form, a distribution of Bec‘s
           surplus, which results in a misuse of ss.38 and 110.6, and an abuse of the provisions of the Act read as a whole, which
           contemplate that distributions of corporate property to shareholders are to be treated as income in the hands of the
           shareholders
•    Held: The avoidance transaction was caught by GAAR and the sale of shares was taxed as a dividend instead of kg

•    Notes:
•    Does GAAR add anything to Stubart?
     o Stubart says that even though it's technically compliant, if it is against the object and spirit, which makes GAAR appear
           meaningless – doesn‘t add anything new
     o Others argue that it gives a clear legislative signal that courts should uphold the object and spirit of the act and protect it from
           technical subversions
•    in McNichol, it seems that GAAR adds something after Stubart b/c although the pre-existing anti-avoidance rules didn't catch surplus
     stripping, GAAR did
•    court focuses on the effect of the transaction, which was to undermine the objective of the Act

Jabs Construction
•    Eric Jabs owns Jabs Construction and had longstanding joint ventures with Callahan (property developer)
•    Later, they wanted to go their separate ways but they are co-owners of 13 properties
•    They agree that J will sell its part interest in these properties to C
•    in 1991, J creates Felson Foundation (private charitable foundation)
     o private charitable foundation has 10 years to create an endowment before donating money to charities, so within the 10 years,
           FF can lend its money back to JC
•    Prior to closing the sale to Callahan, Jabs Construction gave the properties to the FF
•    Under s.110.1, capital property can be donated to a registered charity without triggering capital gains tax (known as a ―rollover‖).
•    The donor of the property is entitled to deduct the value of the charitable donation in computing its income (up to the original cost of
     the property).
•    In November 1992 C purchased the properties from the FF at fair market value – A registered charity is exempt from tax on all its
     income, including any capital gains.
•    Following the sale, the FF loaned the cash proceeds to JC at a rate of interest exceeding the prescribed rate of interest
•    JC used the loaned funds in its business, and deducted the interest payments in computing its business income.
•    FF paid no tax on the interest income, as registered charities are exempt from tax on their income
•    As a result of these transactions the JC reported no capital gain on the disposition of the properties
•    CRA rejected the taxpayer‘s position  it denied the charitable deduction and the interest deduction, and assessed Jabs
     Construction on the basis that it had realized the capital gain on the 13 properties  JC appealed
•    CRA says this is abusive since the gift to FF was made after JC agreed to sell to C
•    CRA also didn't like the loanback - JC has realized the value of the investment and is making use of them in his business
•    s.118.1(16) Loanback Rule – where you make a gift to a non-arm's length charity and you make use of the gift within 5 yrs after gift
     was made, you cannot claim the charitable deduction if you are a corporation – this was not in effect at time of case
     o     if this provision was in effect at time of case, the first of the tax advantages (the charitable deduction) would not have been
           available
Abuse and Misuse
•    Although he did not have to pay tax on his donation to FF, it is not a misuse or abuse of the Act b/c it is simply a use of a provision
     of the Act for the very purpose for which it was designed - such gifts are however precisely what subsection 110.1(3) contemplates
Loanback
•    loaning of money by a private foundation to persons with which the foundation does not deal at arm's length is specifically
     contemplated by section 189 of the Act which in essence penalizes a non-arm's length borrower from a private foundation to the
     extent that the interest paid on the debt falls below the prescribed rate
•    Judge accepts Mr. Jabs' testimony that he believed that loaning the money to the JC was a prudent investment for FF and resulted
     in a better rate that could have been achieved elsewhere and was less subject to the vagaries of the stock market
Held:
•    Judge can found nothing in the entire series of transactions that could justify their being avoidance transactions, either separately or
     collectively
•    Section 245 is an extreme sanction – it should not be used routinely every time the Minister gets upset just because a TP structures
     a transaction in a tax effective way, or does not structure it in a manner that maximizes the tax

Canada Trustco
Mathew (Kaulius)
    •   set out a series of guidelines on how to apply GAAR
    •   GAAR has not eliminated Duke of Westminster but calls for a balancing instead
             o fairness, predictability, certainty and concern of abuse of tax avoidance of the GAAR
    1. "tax benefit" is a pure question of fact and trial courts are best positioned to assess them
             o appeal courts should be loathe to interfere
    2. Burden of proof for misuse/abuse is on the minister
             o benefit of the doubt is given to tax payer
             o this comes uncomfortably close to Strict Construction approach
    3. Implicit affirmation of form over substance
                                                                                                                                    24
Brian Arnold - Suggestions for Amending GAAR
o argued that courts have rendered GAAR ineffective
•   Change primary purpose test to a main purposes test  that tax avoidance doesn't have to be the primary purpose
•   Amend s.245(4) to apply if either an avoidance transaction or the series as a whole is abusive
•   Require the courts to consider several factors, including economic substance, in determining abuse
•   Deem transactions without economic substance to be abusive
•   Create a presumption that an avoidance transaction is subject to the GAAR unless the taxpayer shows that it is consistent with the
    purpose of the Act
•   Repeal the concept of misuse
•   Define the concept of abuse
•   Repeal s.245(4) – misuse and abuse provision
•   Add an automatic penalty

The Role of Tax Lawyers: Personal Values and Professional Ethics

Professional Responsibility for Tax Planning
•   fundamental tension between lawyer's role as advocate and officer of the court to see to the due administration of justice (RPC
    4.01(1))
•   Rules of Professional Conduct R.2.02(5): When advising a client, a lawyer shall not knowingly assist in or encourage any dishonesty,
    fraud, crime, or illegal conduct, or instruct the client on how to violate the law and avoid punishment
•   ITA s.163.2 3rd Party Civil Penalties - can apply to tax advisors
               o if you participate or acquiesce in a client making a false statement
McDonnell
•  in terms of any broader duty to the public, it has to be satisfied outside the lawyer-client relationship
•  lawyer's duty is to engage in law reform
•  very few people in the country understand how the system work so if tax professionals do not share their knowledge of loopholes,
   gov may not be aware – gov needs to know to draft effective legislation
•  if you are engaging in some aggressive tax minimizing planning, you have an obligation to disclose what you've done to RC
•  should not just leave it in your return only to be discovered in an audit
•  there is a strong consensus that tax professionals should never play the audit lottery, hoping they would never find out
              o you should always have solid proof to support your argument
McQuaig
•  doesn't believe that tax lawyers will advise government of loopholes
•  tax lawyers are immersed in culture or serving and advocating for client, they have financial incentive to do so
•  unlikely that they will align their interests with the government and the public


INCOME OR LOSS FROM AN OFFICE OR EMPLOYMENT – Part I, Div. B, Subdiv. a
•   s.3(a) – TP‘s income for the year includes income from each office and each employment
•   s.3(d) – permits TPs to deduct their losses from each office and employment in computing their net income for the year
•   Rules governing computing a TP‘s income/loss from office/employment are in subdivision (a) of Division B (ss.5-8)
•   s.5(1) defines employment/office income as the ―salary, wages, and other remuneration including gratuities, received by the TP in
    the year‖
•   s.5(2) defines employment/office loss as ―the amount of the TP‘s loss, if any, for the taxation year from that source computed by
    applying, with such modifications as the circumstances require, the provisions of the Act respecting the computation of income from
    that source‖
•   s.248 Definitions:
    o     Office – means the position of an individual entitling the individual to a fixed or ascertainable stipend or remuneration and
          includes judicial office, the office of a minister of the Crown, the office of a member of the Senate or House of Commons of
          Canada, a member of a legislative assembly or a member of a legislative or executive council and any other office, the
          incumbent of which is elected by popular vote or is elected or appointed in a representative capacity and also includes the
          position of a corporation director, and ―officer” means a person holding such office.
               typically, denotes a subsisting, permanent and substantive position which has an existence independent of the person
                who fills it, and which goes on and is filled in succession
    o     Employed – means performing the duties of an office or employment.
    o     Employee – includes officer;
    o     Employer – in relation to an office; means the person from whom the officer receives the officer‘s remuneration
    o     Employment – means the position of an individual in the service of some other person (including Her Majesty or a foreign
          state) and servant or employee means a person holding such a position.

Characterization
Employees Versus Independent Contractors
•   The existence of an employment relationship was traditionally based on the legal right of one party to control and direct the manner
    in which the employee performs contractual obligations (confirmed by Black’s Law Dictionary‘s definition of ―employee‖)
•   Thus, courts have traditionally distinguished between a ―contract of services‖ between an employee and an employer, and a
    ―contract for services‖ involving independent contractors
•   This distinction is important because:
               o    The hirer makes no deduction for income tax payable for independent contractors
               o    For employees, the hirer has to remit taxes (CPP and EI) to government by source deduction system
               o    Also, deductible expenses are greater for business income than for employment income – presumption in favour of
                    deductibility with business income; resumption against deductibility with employment income
                                                                                                                                          25
Wiebe Door Services Ltd. v. M.N.R. (1986 FCA)
•   Wiebe Door was assessed to pay EI and CPP premiums because the workers were characterized as employees and not
    independent contractors – Wiebe argues that all of the workers were independent contractors
•   Issue: Whether there was a contract for service (employment) or a contract for service (independent contractors)
•   The Tests:
    o    Control Test
               The traditional common-law criterion of employment relationships from R. v. Walker (1958)
               Looks to the degree of control the employer has over the work that is performed
               Hirer of ICs can control what has to be done, but a hirer of an employee can also say how it has to be done
               Indicia of Control:
               1) Place where the work is done – on company premises or where the worker wants
                                         if work at home, less supervisions over how work is done, thus less control
            •   2) Time of work - does hirer choose when the work is done or does the worker set their own hours?
            •   3) Quantity of Work - can a worker choose to take on certain kinds of work or not?
            •   4) Exclusivity - can worker go out and take jobs from other people/clients, or are they expected to be available full-time,
                which would suggest an employment relationship
            •   5) Nature of Reporting - does the worker report frequently, in detail, asked to be accountable for things done that day?
            •   6) Assistance - is worker able to decide to hire assistants/subcontractors or are they expected to perform work
                personally (more suggestive of employment)?
            •   Must look at all these indicia in combination and determine which is more likely - employee or contractor
    o    Economic Realities/Entrepreneur Test
               sometimes folded in together with Control Test and referred to as 4-in-1 / Four-fold Test
               looks at ownership of tools, chance of profits, risks of loss (If affirmative answers to all this, then likely self-employed)
               Elements of capital-labour here – if worker has own capital, likely to be IC
    o    Integration/Organization Test
            •   notion that if the work is done as an integral part of the business, then the person is more likely an employee
            •   whereas if the work is merely accessory to the business, they are more likely to be an independent contractor
            •   This is Lord Denning‘s test but court criticized it because in a factual relationship of mutual dependency, it will always
                be true that without the work of the ―employees‘ the ―employer‖ would be out of business
            •   Some critics say this test can be used by should consider it from the POV of the worker – Is this their own business or
                are they assisting someone else?
    o    Specified Result Test
            •   An employee is likely hired over a period of time without reference to a specific result
            •   Whereas an IC is likely hired to obtain a specific result for the hirer
            •   can really be thought of as one of the indicia of Control Test instead of a separate test
              o    whether hirer will tell worker to do this or that, or whether they will just stand back and let them produce
•   We should use multiple tests to take all the factors into account
•   Fundamental question: Whose business is this? Is it the hirer‘s business or the worker‘s business?

Wolf v. Canada (2002 FCA)
   aerospace engineer hired on short term contract
   worked entirely on hirer's premises, not responsible for overhead expenses
   but he was held to be an independent contractor by Federal CA
   2 main issues:
              o    Re-interpretation of notion of risk
                              court focuses on the fact that he has no pension, not protected by employment standards law, has no job
                               security or severance pay, not entitled to employment insurance
                              looked at a wider range of risk factors
              o    A greater weight being placed on the express terms of the contract
                              looked at what the worker agreed to
                              DECARY J: the arrangement is not radically inconsistent with the K's stating that this is an independent
                               contract arrangement - should give more weight to the contractual intent

Inclusions

Remuneration
•  s.5(1) include in a TP‘s income from an office or employment ―fees, salary, wages, gratuities, and other remuneration‖
•  s.6(3) deems certain amounts to be ―remuneration for the payee‘s services rendered as an officer or during the period of
   employment‖
   o    Amount received during a period of employment under an agreements made prior to, during or immediately after the period of
        employment is deemed to be employment income unless you can show otherwise – reverse onus
   o    Eg. If it's a signing bonus for accepting employment, even if it's paid, or agreed to before employment starts, it's considered
        employment income
•  s.6(1)(c) requires TPs to include ―director‘s or other fees received by the TP in the year in respect of, in the course of, or by virtue of
   an office or employment‖
•  There are no official definition of these terms in the Act, so use ordinary definitions:
              o      Fees – Refers to fixed payments in respect of an office
              o      Salary – Fixed payment made by employer at regular intervals, usually monthly or quarterly, to person doing other
                     than manual or mechanical work
              o      Wage – An amount paid at regular intervals especially by the day or week or month, for time during which the
                     workman or servant is at employer‘s disposal; usually based on an hourly rate
              o      Gratuities – Amounts paid to an officer or employee on account of legally non-enforceable claims
              o      Remuneration – A more general concept comprising of the specific kinds of payments above
                                                                                                                                          26
Benefits
•   s.6(1)(a) requires TP to include in income from an office or employment, the value of board, lodging and other benefits of any kind
    whatever received or enjoyed by the TP in the year in respect of, in the course of, in virtue of an office or employment
               o    this provision captures ―in kind‖ benefits
•   Policy Considerations - in favour of taxing in-kind benefits:
         o     Revenue Protection
         o     Horizontal Equity
                  if you have 2 taxpayers with one who is receiving cash and the other in kind, they will be taxed differently
         o     Vertical Equity
                  employees with better paid, higher status jobs likely have more power to extract these kinds of in-kind benefits
         o     Upside-down Subsidy Problem
                  a deduction is more valuable to people with higher income b/c they have more income to deduct from and thus, lead
                    to more taxes saved
                  an exemption from tax has the same effect as a deduction
         o     Neutrality Issues
                  if certain things are tax-free, there may be over-investment in those kinds of things
•   Policy Considerations against taxing in-kind benefits:
         o     Simplicity
                  very costly to keep track of and attach a value to many in-kind benefits, esp. smaller items
                  CRA may allow something to be tax free b/c the costs of complying with the tax rules to the Nth degree would be
                    prohibitive

    not every payment, service or extra item provided to an employee is considered a benefit
    courts have distinguished between items that are extra compensation (thus, taxable) and those that are merely part of the conditions
     of the employment - things provided by the employer so you can do your job (thus, not a benefit and not taxable)
     o     eg. chair you sit on, your desk, carpeting under your feet - they all have value but they aren't a benefit b/c they are part of the
           infrastructure necessary to do your work; business cards, business travel (plane tickets), travel costs to move between job sites,
           uniforms,
     o     eg. employee purchases supplies necessary for workplace and employer reimburses them - not taxable
    but the line is not always easy to draw  essential line to draw is between consumption and production or personal and work life
    items that subsidizes your personal consumption should be taxable
    items that simply facilitates production of income should be deducted from your real ability to pay tax (your income)
    Items that are presumptively personal:
     o     food, clothing, shelter, basic necessities of life, health and fitness related items, educational services, leisure and recreation,
           cost of traveling from home to workplace (commuting expenses - associated with where you choose to live rather than your
           workplace)
    Items that help you to produce at work:
     o     educational programs to upgrade knowledge, special clothing, particular forms of travel that allows you to get there on time
           (may be more expensive), alarm clocks
     o     but these items are not deductible because if we allow all these things to have some link to be deducted, there would be
           nothing left in the tax base
     o     for equity, neutrality reasons, these should be included in the tax base
    Items that are considered Production and not taxable:
     o     some items overlap with personal items - business trips, laptops, travel, work lunch
     o     courts would ask what is the primary purpose? Who benefited primarily from these items?
     o     It will be hard to avoid these mixed purpose items

•    Application of s.6(1)(a) involves 3 steps:
     1. The characterization of a benefit,
     2. The determination of a relationship between the benefit and the TP‘s office/employment,
     3. The valuation of the benefit to be included in computing the TP‘s income

1. Characterization of a Benefit

Lowe v. Canada (1996 FCA)
Facts:
•    Lowe was account executive at insurance company – his job to encourage insurance brokers to sell policies for his company
•    he goes on a trip to New Orleans – an incentive reward trip offered to employees for meeting quota
•    Lowe was told to bring spouse and be involved – spouses attended meetings and to build rapport with other spouses
•    CRA finds a taxable personal benefit b/c vacation has a value – a portion of the trip should be taxable based on that enough time
     was spent on personal recreational activities
Issue: Is the value of the trip a taxable benefit to Lowe?
Held: The trip should be tax exempt
Analysis:
•    Is there material acquisition of something of value that is of economic advantage?
     o     Trip expenses should not be regarded as a personal benefit unless it represents a material acquisition for or something of
           value to him in an economic sense
     o     If the part which represents a material acquisition or something of value was merely incidental to what was primarily a business
           trip, it should not be regarded as a taxable benefit
•    Is the employee obligated to go or did he have a choice?
     o     Trial judge finds that the spouse had no obligation to go on the trip but CA disagrees b/c spouse was requested to go along
•    How much time was spent on business and on leisure?
     o     Lowe and spouse worked more than 8 hours a day, had very little personal time on the trip
     o     Wife attended meetings as Lowe and also attended to the brokers and their wives – had to network and form rapport
•    Did the employee enjoy the trip?
                                                                                                                                        27
     o    Any enjoyment was viewed as merely incidental to what was primarily a business trip – main purpose was to benefit employer
     o    People can enjoy their work/jobs – enjoyment is too difficult to gage b/c it‘s subjective

CCRA’s Interpretation Bulletin on Paid Vacations
  Where an employers pays for a vacation for an employee, the employer‘s family, or both, the cost thereof to the employer
   constitutes a taxable benefit to the employee under paragraph 6(1)(a); the value of which is equivalent to the FMV of the
   accommodation less any amount which the employee paid therefore to the employer.
  In any case, the taxable benefit may be reduced if there is conclusive evidence to show that the employee was involved in business
   activities for the employer during the vacation.
  In a situation where an employee‘s presence is required for business purposes and this function is the main purpose of the trip, no
   benefit will be associated with the employee‘s traveling expenses necessary to accomplish the business objectives of the trip if the
   expenditures are reasonable in relation to the business function.
  Where a business trip is extended to provide for a paid holiday or vacation, the employee is in receipt of a taxable benefit equal to
   the costs borne by the employer with respect to that extension.
  Such a trip will be viewed as a business trip provided the employee is engaged directly in business activities during a substantial
   part of each day otherwise it will be viewed as a vacation and a taxable benefit, subject to a reduction for any actual business
   activity.

Dunlap v. Canada (1998 TCC)
   company had an extravagant Christmas party where employees were given a room to stay at the hotel for the night
   Revenue Canada assessed employees on the value of it - about $200-300 per person
   it's not relevant whether you enjoyed it, it was given to you
   court said it was a material acquisition and there was a benefit

2. Relationship Between Benefit and Office or Employment

R. v. Savage
    S took a series of courses to upgrade her knowledge of the insurance industry
    Company paid her $300 for passing the exams but S did not report that in her computation of income
    Minister assessed that the $300 constituted income of the TP from an office or employment
    s.6(1)(a) includes in income the value of benefits ―of any kind whatever … received or enjoyed … in respect of, in the course of, or
     by virtue of an office or employment‖
    Court found that the payments to S were in relation to her employment b/c she took the courses to improve her knowledge in the
     business for better opportunities of promotion
    This case is cited for its low threshold for establishing relationship between benefit and employment – if the person would not have
     received the benefit, if not for the employment, then the relationship is established
    Post-Savage:
    Mindszenthy v. Canada – employee received a Rolex watch from the president of the company; court found that it was a taxable
     benefit despite it being a gift not for the purpose of employment
    Blanchard - only some link is needed to be considered to be employment
    Giffen - frequent flyer miles accumulated from business travel was a taxable benefit – free tickets exchanged were held to be linked
     to employment
    overall, thrust of caselaw is that it isn't difficult to establish link to employment

3. Valuation

Detchon v. Canada (1995TCC)
    Teachers at a private school were provided with free tuition for their children at the school
    Minister says the free tuition is a taxable benefit
Held:
    Free tuition was a taxable benefit for the purpose of s.6(1)(a) – the teachers got something for nothing
    Teachers argue that the value of the tuition is close to nil b/c the school is never full and it doesn‘t cost the school much more to
     have the teachers‘ children there
    Also, there was implicit pressure to have kids in the school because it would make the school look bad if the teachers didn‘t put their
     own kids there
    The average cost of educating a child there is $5000, the tuition charged for regular students is $11,000
    Court held that the teachers should be taxed for the $5000 benefit they received
    Held that is would not be just and reasonable to other TPs that employees, solely because of their occupations and low level
     salaries, obtain a tax free benefit from an employer who does not pay a higher wage – to permit this tax advantage would go against
     object and spirit of the Act

Notes:
   It doesn‘t matter whether the benefit is convertible into money – it can still be taxable (Waffle v. MNR)
   In case re: air miles, the proper measure of the value of a benefit in the form of a reward ticket is the price which the employee
    would have had to pay for a revenue ticket entitling him to travel on the same flight in the same class of service and subject to the
    same restrictions as are applicable to reward tickets (Giffen v. Canada)
   When an employee is rewarded with non-cash items that is personalized with a corporate logo, the amount to be included in the
    employee‘s income may be reduced by a reasonable amount (Wisla v. Canada)
   It doesn‘t matter whether the employee uses the benefit/property, as long it is available to him, it‘s accordingly a benefit to him
                                                                                                                                          28
Benefits in Respect of a Housing Loss
Caselaw on this subject has mixed results – on exam, present the competing arguments and the underpinning tax policy

Cases where court found a taxable benefit:
Pezzelato
   moved to new city, couldn't sell his old house
   needed to use bridge financing and employer paid interest
   court said this is economically the same as having a higher salary
   a mortgage subsidy may not be in the amenities of the house but it's the same in its monetary value
   employer should gross up and can deduct that grossed up benefit if they want to keep the employees whole

Phillips
    railway worker in Moncton got a $10,000 lump sum after CNR closed their yard
    CNR offered their employees jobs in Winnipeg, gave them money to cover higher housing costs in Winnipeg
    court said if they allowed this, they would open the way to all kinds of tax avoidance planning
    this would allow argument that b/c cost of living is higher in Winnipeg, their salary might have to be raised and would that increase
     not be subject to tax?

Cases where court DID NOT find a taxable benefit:
McInnis
   person retiring from military and military pays his retirement moving costs to go back to Maritimes (where he came from before he
    joined military)
   court held there was no economic gain b/c they were simply putting him back in the same position he was in before he took his job

Splane
   re: mortgage interest subsidy for higher interest rates
   Splane got mortgage in a city with lower rate
   when he moved to a new city, he had to get a new mortgage at a higher interest rate and the employer gave him a subsidy
   court said not taxable b/c he was simply restored to the position he was in – thus, no value was conferred on employee
   employee was assisting the employer by making this move

Hoefele
   mortgage interest subsidy to cover the cost of a more expensive house in Toronto
   taxpayer had to borrow more funds to buy a house in Toronto
   employer arranged with the bank to pay for the higher mortgage costs for that house
   court said this is not taxable b/c net worth was not increased
   many people argue that Phillips and Hoefele are completely inconsistent
   courts tend to get a bit confused when it is not dealing with a lump sum cash infusion

Ransom
   reimbursed for loss on sale of house
   court said this isn't a benefit b/c it's not different from a business travel expense
   otherwise the employee would be out of pocket - would be worse off if company doesn't make him whole
   there is no clear prevailing authority on the interpretation of the word "benefit"
   equality is all about the person you're being compared to

 NB – s.6(23) potentially overrules these decisions but court decided that the reimbursement was not a ―benefit‖, thus not within definition
of Act. See below – ―Eligible Housing Loss‖

Provisions on Housing Loss Benefits
    s.6(19) Benefit re: housing loss – deems ―an amount paid at any time in respect of a housing loss (other than an eligible housing
     loss) to a TP in respect of, in the course of or because of, an office or employment‖ to be a benefit received because of the
     office/employment
    s.6(21) Housing Loss – defines a ―housing loss‖ at any time as the amount by which the greater of the cost of the residence and its
     highest FMV during the previous six months exceeds its FMV at the time if it is not disposed of or the lesser of its FMV and the
     proceeds of its disposition it is disposed of
    essentially, housing loss is:
     o greater of (a) original cost of house, and (b) highest fair market value in last 6 months
           minus
           (c) lesser of proceeds and fair market value
     o (b) accounts for the depressed housing prices of many people leaving town
     o eg. if the cost was $100,000, 3 months ago fmv was $15,000, proceeds was $130,000
     o the employer would reimburse you for $20,000
     o since the first $15,000 is tax free (s.6(20)), only half of the remaining $5000 is taxable = $2500
     o thus, $17,500 total would be tax free
Eligible Housing Loss:
     s.6(20) Formula for calculating tax payable – deems ―an amount paid at any time in a taxation year in respect of an eligible
      housing loss to or on behalf of a TP in respect of, in the course of or because of, an office or employment‖ to be a benefit received
      by the TP at that time b/c of the office/employment
                 o    (a) The first $15,000 of reimbursement for loss can be received tax-free
                 o    (b) Amounts above that are taxed at one-half
     s.6(22) defines an ―eligible housing loss‖ in respect of a residence designated by a TP as ―a housing loss in respect of an eligible
      relocation of the TP or a person at non-arm‘s length with the TP‖
                 o    no more than one residence may be designated as an eligible relocation
                                                                                                                                        29
    s.248(1) defines ―eligible relocation‖ as a relocation that enables a TP to be employed at a new work location, provided that the TP
     ordinarily resided at the old residence before the relocation and at the new residence after the relocation
                 o     the new residence must be not less than 40 km closer to the new work location than the old residence
    s.6(23) talks about different forms of assistance with respect to housing
     o a clarifying provision for s.6(1)(a)
     o "an amount paid or the value of assistance provided by any person in respect of, in the course of or because of, an individual's
          office or employment in respect of the cost of, the financing of, the use of or the right to use, a residence" is a benefit
     o text says this provision overrules the mortgage subsidy cases but the court in those cases said it wasn't taxable because it
          wasn't a "benefit"
     o can argue that it was not "assistance provided" but simply making them whole, covering a work-related expense like a business
          trip – i.e. reimbursing housing loss s.6(21)
     o if you have to relocate and your employer subsidizes your loss on the old house
Computation Rule for Taxes on Housing Loss
   o the first $15,000 of reimbursement for loss can be received tax-free (recognizes that employees may not want to relocate) –
         s.6(20)
   o amounts above that will only be included as to one-half
   o to have an eligible housing loss, you must have an eligible relocation, defined in s.248.1
   o recognizes that there are factors that there is a strong link to work for incurring these housing losses b/c you're not controlling
         the timing of the move
   o it is also possible that your employer's decision to transfer you will have an impact on housing prices
          eg. if a manufacturer in a small town shuts down and relocates workers, housing prices would go down
    How do you quantify what the housing loss is?
    Eg.
         Cost of house      $200,000
         Relocation FMV     $190,000
         Proceeds           $200,000

    there doesn't appear to be any housing loss but the formula in s.6(21) allows us to take the lower of FMV or proceeds ($190K)
    employer can pay $10K to employee tax-free
    Why would we allow this?
    in the event that the employer buys the house from the employee (often happens - will buy for at least the cost of FMV if it's gone up)
    if the employer buys it, they've already paid the $10K in the price
    paying something over and above the FMV of house looks like a benefit but it is an eligible housing loss
    What if you do sell to a 3rd party for $200K despite it being assessed at $190K?
    there is nothing in the provision that says you can only get tax-free payment if employer buys your house
    legislators probably think that realistically, it is unlikely employer will not pay over and above the FMV of house if the sellers have
     already recovered the "loss" in the price

Stock Option Rules
Policy Underpinnings:
    SO must be included in the tax base as employment income for equality, neutrality and simplicity, just like including other fringe
     benefits
    perhaps even more so, since they are often obtained by higher-paid employees
    they are difficult to value, which explains the complex regime to determine their value
    they could be seen as investments as well as fringe benefits
    normally when an investor disposes of shares, we would treat their profit as capital gain
    some argue that to treat SOB as an employee benefit simply b/c one received it through their employment violates horizontal equity
     vis-à-vis other investors
    could also argue that the employer is taking on more risk than other forms of payment should the shares drop in value
    there is a layer of politics in the rules - has to do with the attractiveness of stock options to companies and employees - much
     lobbying about these rules
    thus, we have a system that is a series of compromises of taxing it as capital gain and employment benefit

ITA Provisions

1. Calculating the Benefit
    s.7(1)(a) Calculating the amount of benefit
     o    (i) the value of the securities at the time the employee acquired them; MINUS
     o    (ii) the amount paid or to be paid to the qualifying person by the employee for the securities, AND
     o    (iii) the amount, if any, paid by the employee to acquire the right to acquire the securities

2. Timing Inclusions
Normally, the year of inclusion is the year of acquisition, unless you can fit yourself under deferrals in CCPC s.7(1.1) or non-CCPC
s.7(8) – you MUST meet the requirements under each provision. If you do not, then you use the default timing rules under s.7(1)(a)
    s.7(1.1) Stock Option Deferrals in CCPC (Canadian-Controlled Private Corporation)
     o    condition for deferral: the corporation must be a CCPC and the employee is dealing at arm's length with the corporation
     o    If the employee is also a controlling shareholder, then they are related ( non-arm's length) they cannot defer using this rule
     o    Because they already have stake in the company, their fortunes are tied very closely with the company and thus, they don't
          need extra incentive to invest in the company
     o    You'd compute the quantum of the benefit in the exact same way as you would in s.7(1)(a)
    s.7(3) – a grant of stock option to an employee is not deemed to be a benefit received or enjoyed until employee exercises his SO
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    s.7(4) – Where a person ceased to be an employee before all things have happened that would make subsec.(1) applicable, (1)
     shall continue to apply as though the person were still an employee and the employment were still in existence
    s.7(5) – s.7 does not apply if the benefit conferred by the agreement was not received in respect of, in the course of, or by virtue of,
     the employment
    s.7(7) “qualifying person” means a corporation or a mutual fund trust
    s.7(8) Deferral of non-CCPC employee options – i.e. publicly listed corporations
     o     effect of this provision is exactly the same as s.7(1)(a) except the words "year of acquisition" is changed to "year of disposition"
     o     but conditions of fitting yourself in is very different – s.7(9)+(10):
               1. Shares must be acquired after Feb. 27, 2000
               2. Conditions in s.110(1)(d) are met – Offsetting Deductions
               3. Employee is not a "specified shareholder" of the corporation (a shareholder who holds 10% or more of any class of
                     shares)
                                 you already have significant capital at stake and we will not give you additional tax benefits
               4. Shares listed on Stock Exchange (a public company)
               5. Monetary cap of $100,000 worth of option/year based on the value of the shares at the time the option was granted
                                 any amount above cap would be treated under normal rules s.7(1)(a)
               6. Must elect into the deferral (as opposed to CCPC rules which is automatic) by Jan 16 in the year following the
                     acquisition
               7. Employee must be resident of Canada
     o     If all these conditions are met, the quantum is computed
     o     If you meet all conditions but don't elect deferral, the normal timing rules in s.7(1)(a) apply
     o     Deferral is positive b/c you can pay your taxes later
     o     but in the year of acquisition you might have business losses or lower tax rates and thus, it is more beneficial to be taxed in
           that year

3. Offsetting Deductions
    s.110(1)(d) Offsetting Deductions
     o     allow TPs to deduct half of the amount of the benefit deemed by s.7(1) to have been received in computing their taxable
           incomes provided that:
            1. They are prescribed shares
            2. Exercise price cannot be less than the fmv of shares when option was granted
                 •   eg. if Z Co. told Z she can buy shares at $4 instead of fmv of $6 - then there is an immediate benefit and cannot use
                     offsetting deduction b/c there was no risk at all
            3. Arm's Length Requirement
                 •   don't have to give someone non-arm's length incentive for investment b/c they already put their capital at risk

               the effect is to reduce it to a capital gains rate but remember that SOBs are still considered employment income and
                cannot be used to offset capital losses
    s.110(1)(d.1) - CCPC Shares
     o    2-year holding period - allow corporation to hold onto your capital for at least 2 years
     o    then the company will give you taxable capital gain benefits
     o    if the share in CCPC happens to be a prescribed share at arm's length, even if you have not held the shares for 2 years, you
          may be eligible for offsetting deductions under s.110(1)(d)

    s.248(1) Definition of “specified shareholder” – a TP who owns, directly or indirectly, at any time in the year, not less than 10%
     of the issues shares of any class of capital stock of the corporation or of any other corporation related to the corporation
    s.251(1) Arm’s Length – related persons are deemed not to deal with each other at arm‘s length
    s.251(2)(b)(i) Definition of “Related Persons”
                o    A corporation and a person who controls the corporation are considered ―related persons‖

Taylor v. M.N.R. (1988 TCC)
•   T received stock options in each of two corporations for being a director for each corporation
•   Minister wants to include these stock option benefits in the computation of T‘s income
•   Taylor‘s Arguments
•   1) He is not an employee
    o     s.7(1) requires the TP to be an employee for the benefit to be taxable
    o     Court uses s.248(1) definition of ―office‖, which includes the position of a corporate director
    o     Therefore, Taylor is an employee for the purposes of the ITA
•   2) Even if he is an employee, he did not receive SO ―by virtue of his employment‖
    o     s.7(5) provides that the benefit must be received in respect of, in the course of, or by virtue of the employment in order to be
          taxable
    o     Although directors do not have ―employment‖ under the s.248(1) definition of the word, the court uses a broader definition of
          the word in the Oxford English Dictionary and Black‘s Law Dictionary to catch Taylor‘s situation
    o     Court holds that where the context of a particular section clearly renders the statutory definition inapplicable, reference must be
          made to the ordinary meaning of the word
    o     The purpose of s.7(5) is to exclude from income only the amount of any benefit received for consideration extraneous to a TP‘s
          employment
    o     Thus, the intent of the act would require that the word ―employment‖ be given an inclusive, rather than an exclusive
          interpretation
•   3) He was given the options not as remuneration but because the companies wanted to enhance their reputation by associating with
    him – court rejects this argument
    o     investors are attracted to the company not just b/c T‘s name is on the prospectus but because of his presumed competence in
          performing his duties as a director
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•    Held:
•    The corporations granted T the options as consideration for his services as a director and are taxable pursuant to s.7(1) since he
     received the benefits by virtue of his employment with the corporations
•    Although it is necessary to relate the benefit received to the services performed, the connection does not have to be substantial
•    The words ―in respect of‖ are words of the widest possible scope to convey some connection between 2 related subject matters
     (Nowegijick v. The Queen)
•    Bottom Line: he was ―hired‖ as an employee in order to perform as a director

Deductions from Employment Income
•   s.8(1) Deductions Allowed
    o     TPs may in computing their income from an office or employment deduct specific amounts as indicated ―as are wholly
          applicable to that source‖ or ―as may reasonably be regarded as applicable thereto‖
•   s.8(2) Limitations
    o     Limits the amounts that may be deducted in computing income from office/employment to ONLY the amounts specifically listed
          in s.8
•   s.67 General Limitations re: Expenses
    o     Expenses are only deductible to the extent that they are reasonable
•   s.67.1 Food and Entertainment Expenses
    o     limits food and entertainment expenses to 50% of the amount otherwise deductible
•   s.8(1)(i) - Dues and Other Expenses of Performing Duties
                (i) professional dues can be deducted to the extent that the taxpayer has not been reimbursed
                (ii) if you have to rent an office or hire an assistant, you can deduct that
                (iii) cost of supplies consumed directly in the performance of the duties and the employee was required by the contract
                      of employment to supply and pay for them – can be deducted
                            sometimes it's obvious you have to buy this thing to do your job properly even if it's not written down or
                                discussed with your employer – court says this is sufficient
                            however, if it's a pure choice by the employee to buy this item, then it won't satisfy this requirement
                            eg. clothing is not deductible, even if it's distinctive work clothing
                                       you can wear it outside of the workplace
                                       it doesn't fit the definition of being consumed the way paper is
Supplies
•   Difference Between Current and Capital Expenses:
•   Martyn v. MNR (1964)
     o Airline pilot wants to deduct the cost of clothing that he was required to wear for his job
     o Minister disallowed the deduction because expenditures for uniforms and accessories did not come within s. 8(1)(i)(iii)
     o Held: Clothing cannot be said to be consumed in the ordinary meaning of the word nor can be regarded as coming under the
          heading of supplies in the ordinary meaning of the word
     o ―Supply‖ means to furnish with commodity; ―Commodity‖ means a thing produced for use or sale
     o Therefore, the word ―supplies‖ is not appropriate to use in connection with a uniform
     o The cloth it‘s made out of is a commodity but the combination of the material and the tailoring skill results into a finished article
          of special personal value to its owner and capital in its nature
     o capital expenses have an enduring input to the work over a period of years and not used up immediately or in the year it is
          purchased  this is the reason why tools are not deductible under s.8(1)(i)(iii)
   Fardeau v Canada (2002) – monthly fees for cell phones and pagers
    o RCMP officer wants to deduct cost of cell phone, pager and clothing
    o Court holds that clothing are certainly supplies because s.8(1)(i)(iii) is precisely intended to cover the items of clothing officers
          have to supply and pay for out of their own pockets
    o The phone and pager are tools but the fees and costs are all deductible under s.8(1)(i)(iii)
    o court says we should revisit the Martyn decision and broadened the law and considered fees as supplies consumed –
          ―consumed‖ is a word of some elasticity
    o overruled Revenue Canada's interpretation bulletin of 1994 which did not allow deduction of clothing or cell phone costs
   Carson v. MNR (1996)
    o teachers can deduct the smaller items (pens, paperclips, etc.) but not books b/c they are longer lasting items and aren't
          supplies
   s.8(10) Certificate of employer
    o employer can sign a cert to say that these items were required
    o usually sufficient to satisfy CRA that the expenses were required, but CRA can still investigate whether these were required by
          the employment contract

Office Rent
    s.8(1)(i)(ii) allows TP to deduct from their computation of income from office/employment, amounts paid in the year as office rent,
     the payment of which by the officer/employee was required by the contract of employment

Prewer v. MNR (1989 TCC)
   Facts
   Employee agreed to take on more work on weekends and at night, she converts a bedroom into a home office to do this work
   She deducted 1/3 of the cost of maintaining the house, not including mortgage interest or capital cost allowance
   Her employer signed a certificate saying she was required to maintain a home office – s. 8(10)
   Minister would now allow this deduction
   Held:
   Court finds that she was required to maintain a home office despite the requirement being absent from her employment contract –
    found that the requirement was implicit
   Her regular office is in an unsafe part of town and she is a wife and homemaker so it‘s doubtful she can do the extra work at the
    office at nights and on weekends
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    Court refers to Drobot:
     o    Says it doesn‘t make sense that one can deduct the cost of renting a costlier room from a neighbour but cannot deduct a
          cheaper and more convenient room in her own home
     o    Also doesn‘t make sense that a self-employed person can deduct home office cost but not employees – contravenes neutrality
          and horizontal equity
    Concludes that the reasonable expenses of using a space in one‘s own home to meet a requirement for home office space are
     deductible under s.8(1)(i)(ii)
    But court readjusts her deduction, says she can only deduct 10% instead of 1/3 – looks at square footage devoted to home office

Felton v. MNR (1989 TCC), Thompson v. MNR (1989)
    Court takes an opposite approach and rules that ―Office Rent‖ can only arise from a landlord and tenant relationship and home
     offices are therefore not deductible

         All of these cases were decided before the SCC decisions on the GAAR
                o    Courts must use textual, contextual, purposive approach
                o    May reveal ambiguities in the text – maybe the meaning is not as clear

For 1991 and subsequent tax years:
    s.8(13) Additional Limits on Home Office Deductibility
     o even if you get over threshold of s.8(1)(i)(ii) and got employer certification under s.8(10), you still have to deal with s.8(13)
     o this section was not applied in Prewer b/c it was created after the decision
     o enacted b/c of the concern that the rules are too liberal
     o Parliament trying to reach a legislative allocation between valid work related expenses and personal consumption
    s.8(13)(a)(i) show that the home office is your principal place for performing your duties or you do not have another place to perform
     your employment duties; OR
    (a)(ii) your workplace is used exclusively for employment AND on a regular and continuous basis for meeting customers or other
     persons in the ordinary course of performing the duties of the office/employment
                o Prewer would probably not have passed this test
    you can only deduct your income to nil through home office deductions – you cannot generate a loss with home office expenses
                o any extra expenses you can carry them forward indefinitely
     o    there is a parallel provision to s.8(13) for people earning business income (self-employed individual) - s.18(12)
     o    for self-employment person, it's easier to establish initial eligibility under s.8(1) but both self-employed and employees have to
          pass s.8(13) hurdle

Legislative Reform – The Canada Employment Credit
   new government is giving a credit rather a deduction under s.118(10) for a general credit - Canada Employment Credit
   determined by formula A x B
    o     where A is the appropriate percentage of the taxation year (lowest tax rate for the year)
    o     and B is the lesser of (1) $1000 and (b) the individual's gross employment income (your employment income without regard to
          s.8, thus the credit can shelter other types of income)
   this provision addresses the problems with s.8
   but since this is a credit and not a deduction, it will be less beneficial to some employees
   if you are a higher income earner, it would be more valuable to you as a deduction b/c you're being taxed at a higher rate
   if you're making less, you're being taxed at a lower rate and given a credit at the same rate
   Why do they give credit instead of a deduction? It's less costly to give a credit than deduction b/c the value is less
   To make it more fair, why don't they just replace s.8 with a broader deductibility for employees that is similar to the deductibility that
    self-employed people have?
   the new credit will not reduce the complexity of act
   will not reduce the lack of neutrality - people will still try to arrange their affairs to fit under self-employed
   but perhaps it's better than doing nothing at all to help employees

                                     Steps for Determining Employees’ Home Office Deductibility

1) is the expense expressly allowed by s.8(1)?
          office rent, required by employment contract [s.8(1)(i)(ii)]
          supplies consumed directly in performance of job and required under employment contract [s.8(1)(i)(iii)]

2) certified by employer? s.8(10)

3) does the expense meet conditions of s.8(13)?
         principal place of employment, or
         used exclusively for employment, and for regular and continuous meetings with customers or clients?

if conditions met, office expenses cannot exceed income from the employment; losses carried forward and deductible against income
from the employment in future tax years

4) home office expense is deductible only to the extent ―reasonable‖ (s.67)

Timing Issues
   For computing income from office/employment, the ‖cash method‖ of accounting is generally used
    o    This means that income is recognized for tax purposes in the taxation year in which it is actually received, even though it may
         have been earned in a previous taxation year or may not yet have been earned
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     o     The same applies to expenses – they are accounted for in the taxation year that they are paid
    While this method may produce a distorted picture of a TP‘s income in a taxation year, it is simpler than other methods and are
     relatively accurate – especially for office/employment income which is generally received in regular increments and deductions are
     relatively few and similarly recurring
    Cash method can create opportunities for tax avoidance where TPs deliberately delay the receipt of income to defer its recognition
     to subsequent tax years
    There are some provisions designed to prevent this deferral by including certain types of income from office/empl on an ―accrual
     basis‖, which requires that they be recognized for tax purposes at the time when they have been earned, even if they have not been
     received
    the ―enjoyment‖ associated with the ―use or benefit‖ of an item does not necessitate legal entitlement or ownership – the use of
     ―enjoy‖ in s.6(1)(a) enlarges the benefit rule beyond actual receipt of the benefit

Cliffe v. MNR (1957)
Facts:
     Cliffe was manager and president of logging company, which was in financial difficulties
     C and his father agreed that they will not draw the salary they are entitled to until the company was in better financial shape
     Minister added the amount of wages not withdrawn to C‘s income for the 1954 tax year
     Minister argued that the company had enough money in its account to pay the salaries and still have $1000 left over
     C received the full balance of the 1954 salary owing to him in 1955 but he did not receive the full amount owing to him in 1955 in the
      same year
Held:
     The wages not withdrawn was not received by the TP (cash method) in the year 1954 and accordingly, it should not have been
      added to his income for that tax year
     The court defers to the company officials to make decisions in the best interest of the company – if they feel that they want to leave
      more cash in the account instead of paying salaries, then they should be able to do so
     Capital Trust Corpration et al v. MNR (1936 SCC)
     The TP was an executor of his father‘s estate and was entitled to $500 for his services but he never requested it for 5 years
     At the end of the 5 years, he received the whole amount at once, including arrears and was taxed in that year for the whole sum
     Court held that the estate was capable of paying $500 a month in each of the years in question and the TP simply failed to request
      payment
     Thus, he was assessed for the full amount in one year, despite that most of it represented arrears
     Vegso v. MNR
     TP worked on her father‘s farm for 10 years at a yearly wage of $800 ($700 of each year was held in trust for her by her father till
      she married)
     in 1954, the accumulated sum was paid to her
     Court held that she had to be taxed all in that year even though she believed that her salary was held in trust for her because she
      received the income in that tax year
     Green v. MNR
      o     Cliffe was distinguished from Green
      o     In Green, money was set aside in an account for TP and TP had discretion as to when he withdraws his salary
      o     b/c it was under the absolute control of the employee to withdraw his salary from the account, it is considered received by the
            employee even if you choose not to pick it up/withdraw it from the account
      o     In Cliffe, Crown says the company deducted the entire 1954 salary in its 1954 tax year so shouldn't the employee be taxed in
            1954?  Court says it's irrelevant – it simply flows from the diff accounting method used for employees and business income
      o     The company is entitled to deduct it in 1954 b/c it's legally payable but it doesn‘t mean the employee necessarily received it
      o     Crown is concerned that the 2nd slice of salary was never taxed by either the employee or employer - in tax limbo
     s.78(4) gov has stepped in to limit this limbo time re: Unpaid Remuneration and Other Amounts
      o     Prevents companies from deducting an amount that is payable unless they actually pay it within 180 days after the end of the
            tax year (6 months) of which it was incurred
      o     If you actually paid it, then the employee is going to be including it - somebody is going to be paying tax on this amount
      o     If you wait more than 180 days, then you can't deduct it until the year you actually pay it
      o     Issue comes up with bonuses - companies will declare a bonus, which incurs a liability to pay the bonus and than pay it later
      o     if you declare a bonus you must pay it 180 days after the end of the taxation year for the company to deduct it in the year they
            paid it
      o     This rule applies to the deducting party (the employer) and it doesn't change the timing for the employee - they simply report it
            in the year they receive it

INCOME OR LOSS FROM BUSINESS OR PROPERTY – Part I, Div. B, Subdiv. b
Relevant Provisions
   s.9(1) defines the income of a TP from a bus/prop as the ―profit‖ from that business, a concept that implies the deduction of
    reasonable expenses incurred in order to obtain the income
   s.9(2) defines a TP‘s loss from a bus/prop as ―the taxpayer‘s loss, if any, for the taxation year from that source computed with such
    modifications as the circumstances require‖
   s.9(3) stipulates that income/loss from a property do not include capital gains or losses from the disposition of that property
   s.10 – 11 contain special rules governing the timing of inclusions and deductions
   s.12 – 17 specify various amounts that must be included in computing a TP‘s income from a bus/prop
   s.18 – 21 contain rules both limiting and permitting the deduction of specific amounts in computing a TP‘s income from a bus/prop
   s.22 – 25 apply where the TP ceases to carry on a business

    Bus/prop income is fully taxable under s.9(1) and s.3(a), and losses are fully deductible under s.3(d)
    This is in contrast to capital gains and losses, which are only one-half taxable/deductible
    Where an economic gain/loss is not contemplated by the Act, neither the gain nor loss is recognized for tax purposes
    Therefore, where a TP realizes a gain, it is advantageous to argue that the gain was not contemplated by the Act or that the gain
     originated from the disposition of capital rather than a bus/prop – b/c it won‘t be 100% taxable
    Where the TP suffers a loss, it is more advantageous to characterize the loss as a loss from a bus/prop b/c it‘s 100% deductible
                                                                                                                                               34
Characterization
   s.248(1) Definitions
    o     Business – includes a profession, a calling, a trade, manufacture or undertaking of any kinds whatever and … an adventure or
          concern in the nature of trade but does not include an office or employment
    o     Property – property of any kind whatever whether real or personal or corporeal or incorporeal
   Distinction between the two: Property income arises from capital alone and is derived primarily from the ownership of property, while
    business income is derived primarily from the combination of capital and labour in commercial enterprise
   This means that interest/rent income are not inherently business or property income – could be either depending on the level of
    effort/activity/labour required to generate it
   If you are the owner of a building and rent flows to you passively, then it's property
   If you are providing a level of service that exceeds normal, may be business income but this line is very difficult to draw
   Unlike office/employment, business and property are two separate sources of income but the distinction only matters in certain
    situations:
   Property income is not earned. Only business, employment/office income are earned.
   Attribution Rules: Attributes ―income from the property‖ (read narrowly) – doesn‘t apply to business income
   Childcare Expenses: Only allowed to deduct 2/3 of earned income (which doesn‘t include property income)
   Travel Expenses – s.18(1)(h) can be deducted if amount is incurred for the purpose of earning business, and not property income
   RRSPs: Can only be deducted from earned income (business only, not property)
   Small Business Corporation (SBC): Canadian controlled (90% assets to carry on business in Canada) – a corp that is earning
    purely property income cannot be a SBC

Walsh and Micay v. MNR
   Court said the apartment building provided services to tenants but nothing that is more than what is normally expected and were
    ancillary to the services it self
   They provided caretaker, heat, fridges, stoves, drapery, carpets, snow shoveling, etc.
   These services do not turn what is property income into business income
   What kinds/degrees of service to tenants will turn it into business income?
   Court said if they provided meal service, maids, laundry service, then these services are at much higher level – more like hotel
   Much more labour required and this would vault it into business income
   Many owners use Net Net Lease – where you pay rent ONLY to use the space and nothing else; you'd pay separately for all other
    services
    o     The fees for additional services would count as business income but won‘t affect the characterization of the rental income as
          property income

Capital Gains v. Property Income – s.9(3)
   s.248(1) Extended Definition of “Business” includes ―an adventure or concern in the nature of trade‖
   This expands the meaning of business beyond a trade or ongoing activity and can encompass a single transaction
   This category has been a source of considerable litigation, constituting the main boundary between characterization as income/loss
    from business on one hand and a capital gain/loss on the other

MNR v. Taylor (1956 Ex. Ct.)
Facts :
    T is the president of a metal company, wants to obtain foreign lead to supplement the inadequate supply in Canada
    Company policy won‘t allow the company to buy more lead so he purchases lead himself and sell it to the company, assumes the
     risk himself
    T made a profit on the one-time sale – didn‘t intend to make a living selling lead
Issue:
    Whether T‘s purchase and sale of the lead was an adventure or concern in the nature of trade, in which case it was taxable as
     income from a business; OR whether it was a capital gain from realization of an investment and thus not taxable (at the time)
Held:
    T‘s purchase and sale of the lead was an adventure in the nature of trade even though it was a one-time transaction – thus it was
     taxable as business income
Analysis:
    The fact that a person has entered into an isolated transaction has no bearing on the question whether it was an adventure in the
     nature of trade
    It is the nature of the transaction and not its singleness or isolation that is to be determined
     o      If the purchase was made for no other purpose except that of resale at a profit, there is little difficulty in concluding that the deal
            was ―in the nature of trade‖ even though it may be wholly insufficient to constitute by itself a trade (Rutledge)
     o      A commodity which yields no pride of possession, which cannot be turned to account except by realization can not be
            considered to be other than an adventure in the nature of trade (Fraser)
     o      Taylor couldn‘t do much with the lead other than to sell it, couldn‘t hold it to produce a stream of income or for personal
            use/enjoyment
    If a person deals the commodity in the same way a dealer ordinarily would, it may be fairly called an adventure in the nature of trade
     o      Taylor acted in the same manner as a trader in led would have, used broker to make transactions
    Taylor had speculative purpose – assumed risk of market rising or falling
    Negative Guides: (factors that won‘t prevent a finding that it is an adventure or concern in the nature of trade)
                  o    Isolated transaction
                  o    No organization in place to make trade
                  o    No work on property – may be adventure in nature of trade even though nothing was done to the subject matter of
                       the transaction to make it saleable
                  o    No intention to sell subject matter at a profit – may be an important factor but its presence is not an essential
                       prerequisite; not the TP‘s declared intent but what he did that must be considered (still speculated that the market
                       conditions would be favourable)
                  o    No expertise
                  o    Unconnected to the TP’s ordinary work or profession
                                                                                                                                         35
    Positive Guides: (factors that may point to a finding that it is an adventure or concern in the nature of trade)
               o    The nature and quantity of the subject matter of the transaction may be such as to exclude the possibility that its
                    sale was the realization of an investment or otherwise of a capital nature
               o    Intention to resell
               o    Speculative Purpose – Taylor saw advantages of a business nature in the transaction and these outweighed the
                    risk of loss which he undertook
               o    Acted in the same manner as a regular dealer/ trader of the property would have acted

Secondary Intention

Regal Heights Ltd. v. MNR (1960 SCC)
   SCC characterized the TP‘s gain as business income from an adventure in the nature of trade on the basis that the TP had a
    ―secondary intention‖ to resell the property, notwithstanding that its primary purpose in acquiring the property was to develop a
    shopping centre
   A transaction may be characterized as an adventure or concern in the nature of trade only where the possibility of resale at a profit
    was one of the motivating considerations that entered into the decision to acquire the property in question
   Use a ―but for‖ test according to which a transaction may be characterized as such where the TP would not have acquired the
    property were it not for the possibility of resale at a profit

    this case generated lots of criticism because it would mean you could never have capital gain - it will always be an adventure
    also said this punishes people who have changed circumstance
    subsequent cases said that the secondary intention must exist at the time of purchase - this will always be a very difficult exercise
    there is a very blurry line between business and investment income that results from the source concept of income

Fernando (1997 Tax Ct of Canada)
   rules that the secondary intention must exist at time of purchase

Reasonable Expectation of Profit (REOP TEST)

Stewart
Facts:
    TTC employee bought four condo units from which he earned rental income and incurred losses as a result of significant interest
     expenses
    Condos were purchased as a Tax Shelter: a net loss-generating investment; will not generate a stream of income that will be
     sufficient to cover the expenses
     o     this is attractive b/c if you have income from other sources, you can deduct the losses against them
     o     there may be a benefit over a long period of time if the plan is to sell the asset at a capital gain to recoup the losses at a
           realization of the property at a higher value
     o     the property will increase in value over time and then you can sell it and only be taxed half on your kg
     o     during the time you hold the property, you can deduct losses against your income
     o     you get tax deferral and are taxed at a reduced rate
     o     but the key is the investment must still be a good investment, otherwise you won't be able to make a profit at realization
    in Stewart, his losses ended up being larger than he anticipated
    condos were purchased with very little down, mostly financed at interest
    The losses were disallowed by the Minister on the basis that the TP had no REOP and thus, it wasn‘t a source of income
Issues:
    Is the REOP Test in Moldowan the test for determining whether the TP has a business or property source of income under the Act?
     If not, then what is the test?
    Did the courts below err in disallowing the TP‘s interest expense deductions on the basis that there was no source of income?
    Held:
    REOP analysis cannot be used as an independent source test – to do so would run contrary to the principle that courts should void
     judicial innovation and rule-making in tax law
    There was no personal element to the TP‘s endeavour and its commercial nature was never questioned – therefore he was entitled
     to deduct his rental losses
Analysis:
    Court said there are 4 problems with REOP Test:
        1. Inconsistent application
                        There is a spectrum of ways in which the REOP test has been applied
                        Sometimes used to distinguish between personal and commercial activity
                        Other times used to deny deduction of losses from bona fide business on the basis that it had no objective
                             REOP
        2. Vagueness of term "reasonable expectation of profit"
                        Does profit mean before or after you deduct depreciation charges?
                        Should it include capital gain that might be realized down the road?
                        It is uncertain how much expected profit would be required, in what time frame and whether the amount of
                             expected profit should vary with the risk of the venture
                        Ambiguity causes uncertainty when people are planning their affairs and this causes unfairness
        3. Invites retroactive application
                        When test is applied aggressively in a retroactive way, the easier it is for courts to second-guess TP's business
                             judgment  this is unfair to TP since hindsight is always 20-20
                        You're penalizing those who take calculated business risks that don't work out
                        Only when the business fails would the Minister question whether there was REOP, yet when the TP makes a
                             profit, the Minister would not hesitate to tax their income
        4. REOP Test exceeds proper role of judges in tax cases
                                                                                                                                        36
                       There is no clear statutory basis for this test – the Act doesn't say that you need REOP
                       In matters of tax law, court should be reluctant to engage in judicial innovation and rule making; several cases
                        have crossed this line
                       In light of the fact that there are already anti-avoidance rules in existence, court should not embellish them and
                        add new doctrines/rules
                       Court should above all try to achieve certainty for TP in the way they interpret the Act

   Government's Counterarguments:
           o Revenue Loss
                       If TP continues to deduct losses from a failing enterprise can be costly to Minister
                       Hugill - TP may be disguising personal expenses as business enterprise
                       Court must recognize that a business is going to fail at some point
                       Stewart knew from the outset that there would be losses
                       Policy concern: this is shifting the tax burden onto other TPs b/c he is shifting his income to be taxed at a
                           lower rate as kg
           o The purpose of REOP test is to distinguish between commercial and personal activities
           o Where there is no personal or hobby element to a venture undertaken with a view to profit, the activity is
                commercial and the TP’s pursuit of profit is established without resorting to REOP Test
                       However, where there is suspicion that the TP‘s activity is a personal endeavour, the TP‘s ―reasonable
                           expectation‖ is a factor, among others, which can be examined to ascertain whether the TP has a
                           commercial intent
           o 2-Step Approach with respect to the source question:
                       Is the activity of the taxpayer undertaken in pursuit of profit, or is it a personal endeavour?
                       If it is not a personal endeavour, is the source of the income a business or property?
           o    Objective Factors in assessing whether there is REOP: 1) the profit and loss experienced in past years, 2) the TP‘s
                training, 3) the TP‘s intended course of action, 4) capability of venture to show a profit
           o Even if there is a personal element to the endeavour, the TP can still show that it is run at a sufficiently commercial
                manner and his predominant intention is to make a profit - then you can deduct the losses
           o Court seems to suggest that it would be very obvious whether there is a personal element or not, but this may not
                always be so obvious
           o Some gender bias may also come into play - a lot of things women do may be more likely construed as
                personal/related to the family
           o When applying REOP tests, you are evaluating the commercial nature of the activity, not the TP's business acumen
           o Landry - Court mentions the number of consecutive loss years, the longer it is, the more it suggests it‘s person won't
                incur profits, looks at whether the TP is adjusting business plan to deal with losses
           o Morris (2003 FCA) – Court denied it b/c the activity had a very substantial personal element and couldn't be
                described as business like

   s.3.1(1) proposes a statutory REOP test
    o    specifies "cumulative profit" to make the rule more precise
    o    eg. you own a business from 1990-2000, you incur losses in many years but the tax year in question is 1997
    o    in that year, is it reasonable to expect that looking at the entire experience of the business was cumulatively profitable
    o    it doesn't matter if there were losses and then ONE year that made a profit – this does not make the business cumulatively
         profitable
    o    in determining whether there is a cumulative profit, you disregard capital gains
    o    this is intended to restore the pre-Stewart law
    o    there was much protest to this amendment and gov now said they will not implement this but will draft a more modest response
         to restore pre-Stewart law and address that ―profit‖ can include capital gain
    o    some say a better response would be not to let TP deduct the loss immediately but add it to the cost base of the property
    o    this would prevent TP from deferring tax and would ensure that taxes are paid at regular rates on ordinary income

Specific Inclusions in Business or Property Income

   s.9 Income – a TP‘s income for a tax year from a bus/prop is the TP‘s profit from that bus/prop for that year
   s.12 lists specific income inclusions aside from profit

        Accounting Principles and Tax Principles:
             o common for businesses to have 2 income statements - one for ITA and one for accounting purposes
             o Why? Computation of profits for accounting and tax purposes have different underlying objectives
                   Accounting:
                         trying to create an honest, true picture of the financial position
                         bias in accounting rules in favour of conservative statements of income, not exaggerating profitability of
                             business
                         accountant can select from different approaches to find one that is most appropriate for the particular
                             business
                   Tax:
                         businesses have incentive to understate their income so tax rules have to address a different policy
                             concern
                         restricted choices to ensure that the same rules are applied across the board to everyone for purposes of
                             horizontal equity, neutrality and anti-avoidance
                         tax law also promotes/deters/supports certain activities - accounting rules cannot further policy objectives
                             like tax rules can
                                                                                                                                           37

    s. 12(1)(c) Interest – any amount received or receivable by the TP in the year as, on account of, in lieu of payment of or in
     satisfaction of, interest to the extent that the interest was not included in computing the TP‘s income for a preceding tax year, shall
     be included in computing bus/prop income
           o    Act wants to catch things that are not called interest but are received in lieu or/in satisfaction of interest
           o    Interest is a stream of income that arises from a debt – debt is a form of property aka "chose in action"
           o    Debt can be income from business or property depending on circumstances
           o    Eg. promissory note is the most straightforward debt instrument but so is a Canada Savings Bond; mortgage; investment
                certificate; corporations issue bonds/debentures to raise capital
           o    interest is a price paid for borrowing money or buying property on installment
           o    When you pay your installment, you repay both interest and principal
           o    The payment of principal is not taxable as income to the recipient but the income portion is taxable
           o    This leads to an avoidance strategy to capitalize interest to characterize what is really an interest payment as party of the
                payment of principal
           o    there is nothing in the act that defines interest but the courts have elaborated on this a bit
           o    interest accrues day by day
           o    s.16(1) Income and Capital Combined – anti avoidance provision that broadens what can be taxed as interest
                o a statutory substance-over-form rule
                o an amount shall be deemed a interest irrespective of when the contract or arrangement was made or the form or
                      legal effect thereof and shall be included in the TP‘s computation of income

Groulx v. MNR (1967 SCC)
   Farmer got many offers for his farmland and negotiates with one purchaser
   Agrees on $395K paid over a period of 5 years without interest unless if the installments were late
   Minister says that there was an implicit interest payment in each of these installments even though the parties explicitly said no
    interest
   Held: Interest was deemed to be part of the sums received by the farmer
   Analysis:
   He simply wanted to assure himself a capital price of $395K so he won‘t have to pay tax on interest
   Court says it's normal practice to charge interest on the installments
   The farmer is not an inexperienced investor and when he offered to waive the interest he was aware of the economic value of
    waiving interest – he discussed interest in negotiations
   Agreement had clause saying that early payments would be discounted by 5% (the market rate of interest at the time)
   He had sold the property for more that its FMV so there is an interest component here that should be taxed
   FMV became the most significant factor the court looked at thereafter (FMV = the price agreed by 2 independent parties bargaining
    freely)
   If the price agreed by the parties is greater than FMV, then that is indicative of an interest component – but isn‘t a price agreed by 2
    independent parties the FMV?

Van West Logging v. MNR (1971 Ex. Ct.)
   TP sold a tract of timber for $7.5 million of which $1.5 mil was payable on closing with remainder due over next 5 years in
    installments
   The agreement did not provide for payment of interest except in the case of overdue installments, in which case interest was
    payable at 6% per year
   Court held that the installment payments did not have an interest component in them for these reasons:
               o Unlike the Groulx, there was no evidence that the parties ever discussed interest, no evidence that it affected the
                     price the vendor charged the purchaser, so there was no reason to say part of the payment constituted interest -
                     s.15(1) does not apply
               o There was no evidence that it is the invariable practice to charge interest on deferred payments in such sales of
                     timber limits
               o There was no evidence justifying a conclusion of fact that the price was excessive and could only be justified by not
                     charging interest on the deferred installments
   Despite it being a clear tax advantage for the vendor to sell the timber for a higher price with no interest than to charge a lower price
    with interest, the TP is not caught under s.16(1)
   S.16(1) cannot be applied by the Minister in all cases where no interest is claimed on deferred payments, but rather that it
    should only be used when something in the evidence indicates that it was the intention of the vendor to avoid taxation on
    interest by including it as part of a larger capital payment than would otherwise have been made

Timing Issue
    There is a choice for TP as to what timing rules they use to report their interest income (cash method and receivables accounting
     methods of income) but you have to be consistent in the method you choose
    Interest receivables means you may not receive the interest for a few years  the interest simply accrues over that time
    For some debt instruments, interest will neither be paid (cash) nor be payable (receipts) but even if no interest payable (receivable),
     TP still has to report interest ―accrued‖ over the year
    s.12(4) Annual Accrual Rule for Individuals
                o     if you're an individual holding a debt instrument and interest is neither received or receivable that year, you are
                      forced to include as your income the interest that has accrued in that year – even if your right to receive the interest
                      is not until a later year
                o     eg. you buy a bond on July 1, 2004 and you redeem it with interest on June 30, 2009, on June 30, 2005, you must
                      include the interest accruing up to this date in your tax return this year ("anniversary day")
    Thus, we see 3 Methods of Accounting:
                o cash
                o receivables
                o accrual - s.12(4)
                                                                                                                                            38
    s.16(2)(3) Deep Discount
               o if the full yield (discount + explicit interest) is more than one third greater than the explicit interest rate, then you have
                   a deep discount
               o then the full discount is deemed to be interest, always

Deductions from Business or Property Income
5 Basic Principles – they often overlap
     1) s.9(1) Income from business or property is Profit (Implies “net profit”)
              o s.9(1) The concept of profit is a net concept that implicitly authorizes the deduction of legitimate expenses incurred in
                   order to earn income from the business or property to which the expenses relate
              o Implies "net profit" = gross receipt – expense incurred to get the income, which reflect ability to pay
              o s.9 is the fundamental authority for ALL business deductions in that profit is NET profit
              o Test to determine deductibility of a particular outlay/expense is whether it was made or incurred by the TP in
                   accordance with ordinary principles of commercial trading or well accepted principles of business practice (Symes)
     2) s.18(1)(a) Income Producing Purpose
              o If you pass s.9 and then you must show that you pass the Income Producing Purpose Test in s.18.1(a)
              o s.18(1)(a) disallows the deduction of any outlay or expense except to the extent that it was made or incurred by the
                   TP for the purpose of gaining or producing income from a business or property
              o It overlaps with s.9 with respect to whether the expense was incurred to produce income
              o Emphasis is on Purpose of incurring expense – not necessary to show that the expense actually produced an
                   identified item of income as long as there was a genuine purpose to earn income (Royal Trust)
              o Look to objective evidence - Remoteness Test: if the expense is too remote from the business operation, you
                   cannot deduct it for the purpose of earning income
              o Imperial Oil
                         Shipping of oil and crashed into another ship, caused damage
                         IO found negligent and paid tort damages
                         Can the tort damages be deducted as an expense of carrying on business?
                         Yes, employee negligence is in the normal risk of earning this type of income, not too remote from the
                               nature of business
     3) s.18(1)(b) Capital Expenses
              o TP may not deduct capital expenses except as expressly permitted in s.18
              o Reflect distinction between capital and current expenses:
              o Capital Expenses – expenses incurred once and for all to acquire an asset of enduring benefit to the business
              o Current Expenses – expenses incurred repeated and used up virtually immediately
              o If you deduct whole cost of capital expense in the year it's bought, it's a misstatement b/c you won't use up the
                   property the year it's bought
              o CE contributes to the earning process over many years so you can only deduct it as a percentage of the cost under
                   capital cost allowance rules
     4) s.18(1)(h) Personal/Living Expenses
              o Lots of overlap with s.18(1)(a)
              o Personal consumption cannot be deducted b/c we're precisely trying to tax personal consumption power (ability to
                   pay and consume goods and services in the market)
              o If we allow personal consumption deductions, TP‘s ability to pay is understated and not property measured Only if
                   you're carrying on an act of business or travel will what usually be considered personal/living expenses be deductible
     s.67 Reasonableness Test
              o s.67 – Amounts are deductible only to the extent it's reasonable
              o determining what is reasonable overlaps with s.18(1)(a),(h)
              o s.67.1 gives 50% limitation for food/beverage/entertainment purposes
                         They are meeting a basic personal need so it's inequitable for you to deduct all of it
                         There is risk of abuse
                         At the end of the day, there is an inherent consumption element
                         But be careful you don't see this in a problem and automatically deduct 50% if you see food/bev/ent
                               expense because you need to pass all the previous hurdles first and if you do pass, then you can deduct
                         s.67.1 is a limitation and not authority to deduct that amount
                         A purely personal event where no business was discussed is not deductible
Fines and Penalties

65302 British Columbia v. Canada (2000 SCC)
Facts:
    Chicken/egg farmer exceeded the quota of how many egg layers he was suppose to have
    It's a regulated market so that the price of eggs can be monitored and controlled so it won't be flooded by supply
    He incurred a big fine and wanted to deduct it from his income
    TP knew he was over quota beyond margin of error, made conscious business decision to go over quota, didn't purchase extra
     quota, tried to hide laying chickens from investigators
Issue:
    Whether levies, fines and penalties may be deducted as business expenses from a TP‘s income
Held:
    YES, fines and penalties can be deducted as business expenses
                                                                                                                                           39
Analysis:
   SCC reviews 2 main arguments re: non-deductibility of fines and rejects both:
   1) Avoidability Test
   If the finds were avoidable, then it is non-deductible because owner can carry on business without incurring the fine
   Fines are deductible if they were unavoidable
   Day v. Ross – trucking firms incurred overweight fines – deductible because it‘s inevitable that the firm would incur some of these
    finds
   Amway – incurred fines for customs evasion – not deductible b/c incurred as a result of conscious decision to evade legal rules
   Incorporates avoidability test into s.18(1)(a) – it‘s deductible if unavoidable ―for the purpose of earning income‖; must be sufficiently
    connected to the business purpose
   2) Not deductible if it‘s contrary to public policy to allow deduction of the fine
   If the purpose of the fine is to deter or punish certain behaviour, it would be against public policy to allow the deduction of fine

   4 reasons why SCC reject the tests and why fines are deductible:
    o Certainty - vague avoidability/public policy tests make it difficult for TP to fill out own tax returns
    o Doctrinal Incoherence - We allow deductions of expenses from illegal business so to disallow deductions of fines from legal
          business is doctrinally incoherent
           Duff said it's not doctrinally incoherent b/c the reason we tax illegal businesses is b/c we don't want them to shift their
               share of tax burdens onto other TPs  we don't want to let them benefit from tax-free income from illegal businesses
    o Equity and Neutrality - fundamental to deductibility of all business expenses
           profit is a net concept b/c taxing someone on gross would overstate their ability to pay and would discourage activities
               where valid business activities may be denied
    o Court's Role in Tax Matters – It‘s Parliament‘s role to decide whether deductions of fines are disallowed as a matter of public
          policy, not the court‘s
           The court cannot disregard the ordinary meaning of s.18(1)(a) when that ordinary meaning is harmonious with the scheme
               and object of the Act
           If Parliament chooses to prohibit the deduction of fines on the grounds of public policy, then it must do so explicitly
               if the expense was so egregious or repulsive that it couldn‘t' be construed for the purpose of earning business income
               then it cannot be deducted, but this is not the case here
Minority Judgment:
   Wants to determine deductibility on a case-by-case basis but majority says this creates too much uncertainty for TPs since they
    have to file tax returns by on their own
   Argue that compensatory fines are deductible b/c not contrary to public policy but punitive fines should not be deductible because
    this would undermine the deterrence effect
   Rejects avoidability test as well

Note:
   s.67.6 was added in 2004 budget re: non-deductibility of fines and penalties in response 65302 BC
    o s.67.6 ―In computing income, no deduction shall be made in respect of any amount that is a fine or penalty imposed under a
         law … by any person or public body that has authority to impose the fine or penalty‖
    o Therefore, deductions such as those in 65302 are now legislatively denied – fines are no longer deductible
Business vs. Personal Expenses
   s.18(1)(h) prohibits deduction for personal/living expenses
    o    Reasons for this prohibition:
          Neutrality:
                     because we are taxed on our ability to pay, which is based on our ability to consume – we should not deduct
                          what we are consuming
                     It may distort choices people make if certain expenses are deductible - eg. may buy expensive cars (if they are
                          deductible) instead of going on vacation, etc.
          Horizontal Equity:
                     if people only have employment income, they cannot deduct these expenses while people with property or
                          investment income can (See Symes)
          Vertical Equity:
                     if these expenses are deductible, usually people with more income would have more money to spend on these
                          expenses, and would be allowed more deductions (See Symes)
                     as soon as you allow one person to deduct something from personal consumption, you are disadvantaging the
                          person who also has personal expenses but can't deduct them
    o    s.18(1)(h) suggests that business and personal expenses are distinct and mutually exclusive
    o    but there is much difficulty with this distinction in reality - there are dual purposes expenses
    o    What criteria do courts use to distinguish these 2 types of expenses?
          Simplicity:
                     It is difficult to maintain certainty in people's tax planning and to make enforceability possible if boundaries
                          between these types are unclear
                     courts tend to take a dichotomous approach to business and personal expenses
                     Courts must draw on social understandings and norms to decide what belongs to work life and personal life
                     Scott, Symes - what constitutes work/personal life can shift over time
                                                                                                                                           40
Entertainment Expenses
Royal Trust Company v. MNR (1957 Ex. Ct.)
Facts:
    TP and senior officers in his trust company joined social clubs to enlarge network and promote business
    Used club as an extension of office facilities to discuss and conduct business
Issue:
    Whether the TP was entitled to deduct fees and dues for social club memberships from its taxable income
Held:
    Yes, the social club fees are deductible because they were for the purpose of producing income from the business and it is in
     accordance with principles of accepted business practice
    Analysis:
    s.18(1)(a) requires that an expense must be made for the purpose of gaining or producing income from the business but the fact
     that there is no resulting income does not prevent the deductibility of the expense  This is a purpose test
    Thus, if an outlay or expense is made or incurred in accordance with the principles of commercial trading or accepted business
     practice, AND
    it is made or incurred for the purpose of gaining or producing income from his business, its amount is deductible for income tax
     purposes

Legislative Response to Royal Trust
    s.18(1)(l)(i) says that an expense for the use or maintenance of a yacht, a camp, a lodge or a golf course or facility is not deductible
     o     Parliament decided these are too extravagant and too vulnerable to abuse to allow deductions for these things
     o     eg. if you take a client to play golf at a club, then have lunch at the lunch at the club, these are ALL undeductible
     o     Sie-Mac Pipeline
                 o     Company sent customers and employees to a trip to a fishing lodge to show its appreciation to its customers and
                       inform them of new equipment
                 o     Court disallowed deduction even though it may have been incurred for the purpose of producing income because it
                       was a ―use of property‖ within the meaning of s.18(1)(l)(i)
     o     If you play golf on the facilities but have lunch outside the club, the lunch would be deductible for 50% (s.67.1) but golf game is
           not deductible
     o     if you go to golf club and don't play golf but just for lunch, that is deductible b/c you're not using the golf course for golf
     o     Bottom Line: as long as you don't use the facilities as intended, you won't be caught by this provision

    s.18(1)(l)(ii) disallows the deduction of membership fees/dues in any club, the main purpose of which is to provide dining,
     recreational or sporting facilities for its members
     o    Royal Trust would be decided differently today
     o    b/c these expenses are so prone to abuse, they are no longer allowed to be deducted
     o    this seems arbitrary b/c some business can be done at the club for sure
     o    but it achieves simplicity in that no fees can be deducted - draws a bright line
     o    the non-deductibility does not seem to have decreased their use and popularity
     o    many businesses still incur these expenses for business purposes despite the non-deductibility
     o    to determine "main purpose" of club, CRA would look at constitutional documents of club, how it's run, how services are carried
          out
     o    also have to look at whether the membership would constitute a taxable benefit to the employee- CRA is pretty lax about taxing
          employees as a benefit; probably b/c they are not deductible to the employer
     o    in principle, if the employee is receiving something entirely for their benefit, it can be seen as a taxable benefit
     o    Definition of "club" - if something is not called a club but functions as a club, can it be considered a club?

Scott v. Canada (1998 FCA) - issue of deductibility of food
              o    A courier is always on the run and has to pay more for food b/c constantly moving around
              o    Court says he can only deduct the cost of food that is above and beyond a normal person's intake of food
              o    Thus, he was allowed up to $8 for food and $3 for Perrier
              o    Crown says this is consumption and should not be deductible but Court says the characterization of expense have to
                   change with social practices
              o    What may be a personal expense at one time may become business expense at another time

Limits on Deductibility
    s.67.1 – 50% limit on deductibility of human consumption of food, beverages and entertainment
               o     Recognizes an element of personal consumption even where business purpose is present
               o     Acknowledges this dual purpose
    s.67.1(4)(b) – entertainment include ‗amusement and recreation‖
    s.67.1(4)(a) – no amount paid or payable for travel on an airplane, train, or bus shall be considered to be in respect of food,
     beverages or entertainment consumed or enjoyed while traveling thereon
               o     thereby excludes airplane means and in-flight movies from the operation of the rule

Child Care Expenses – s.63
    Symes says childcare expenses are not deductible as a business expense
    CE is becoming a bigger barrier for parents who want to be in the workforce and have children as well  resulted in s.63 and
     overcame the notion that they are purely personal non-deductible expenses
    In 1993 Symes case failed in its argument that CE should be 100% deductible
    Deduction amounts were low at first but since then, amendments have been made to make deduction closer to the actual cost of
     childcare
    Now:
     o $4000/child over 6
     o $7000/child under 7
     o $10000/child with severe and permanent disability
                                                                                                                                            41
     o     no longer any cap for a family
     o     16 is the age cap when you're no longer considered a child
     o     see p.1276 in casebook setting out monetary amounts for different ages
    If there are 2 parents in the household, deduction must be claimed by the lower earning parent and only to the extent of 2/3 of their
     earned income in the year
     o "earned income" includes business, employment, research grant
    You cannot claim CE if you're paying the mother/father of the child or a relative living in the house caring for child

Criticism for this system:
     The only way you can claim CE is if you have a receipt but if you're a low income earner, you may not be paying for regulated
      childcare – you may be paying neighbour in cash with no receipt
      o     This is an issue of accessibility to childcare expense deduction
     System also makes it unfair because it's the main way government supports childcare services but really only available if you're a
      fairly affluent family and can claim something as a deduction (leaves out a lot of people)
     There is not a lot of public services there for people who can't afford the private ones
     System supports a perception that childcare should be a private cost to parents and keeps the childcare worker wages very low

Symes v. Canada (1993 SCC)
Facts:
    A female lawyer had to hire a nanny so she can practice law
    She argues that she should be able to deduct 100% of her childcare expenses under s.9 (as a business expense) instead of the
     childcare expenses provision under s.63
Held: Childcare expenses are not deductible as a business expense.
    Trial judge recognized that CE should not be seen as a personal expense anymore but as an expense in earning income (there is a
     mixed reaction to the progressivity of this)
    Policy concern: May fragment the push for publicly funded childcare b/c the women who can afford private childcare would have
     their needs met and the pressure for public childcare would recede
    CA overturned trial decision and SCC upheld it
    Iacobucci says he's not bound by ancient cases that say CE are purely personal
    Test 1: Would accountants generally advise you to deduct CE? No they wouldn't
    Test 2: Do many working parents incur this type of expense? Yes, especially women
    Test 3: But-for Test - would you have incurred this expense but-for the business? No, she wouldn't have incurred this expense if she
     wasn't running business
    Test 4: Availability test - would the need for this expense still exist in the absence of the business? Yes, her children still would need
     to be cared for regardless of whether she was in business
                o If yes, it means the CE is only to make the TP available to the business, thus it's a personal expense
    Test 5: Was the expense purely a matter of personal choice or consumption? A lifestyle choice?
                o Iaco says he's uncomfortable in characterizing the choice to have children as a purely personal one
                o There is an element of public policy – it's unfair to women; childbearing/caring benefits all of society, there is
                     pressure on men and women to procreate and women should not bear all the social costs of childbearing
                o In modern times, it is not appropriate to characterize childcare as a purely personal expense
    Doctrinal tests point in direction of no CE deductions while public policy points in favour of deduction
    Iaco doesn't answer whether it's business or personal b/c s.63 resolves the case
    s.63 is meant to be a complete code for deductibility in childcare expenses and override more general provisions for deductibility of
     expenses
     o     Symes‘ nanny expenses fall completely within the language of s.63 and thus, should be governed by s.63 and nothing else
    Court cites Olympia Floor & Wall Tile
                o corporation spends 25-30% of its profits to charitable donations but you cannot deduct more than 10% of your
                     income under charitable donations (s.110.1 Div C)
                o Olympia wants to deduct these donations under s.9 and s.3 in Div B b/c this is the main way they promote their
                     business, maintain good relations and contacts in community
                o They won and got to deduct under Div. B
                o Company convinced the court that these donations have a business purpose; that it was a business development
                     strategy
    Symes tried to use the same argument but Iaco said no
    In his view, Olympia only shows that a particular expenditure, such as a charitable donation, may be made for more than one
     purpose
    Since the purpose of business development was not addressed in s.110.1, Olympia could resort to a more general provision
     regarding deductibility
    Iaco is not impressed by the suggestion that Parliament wants to give full deductibility to business income earners and none for
     employees – concern about equity
    Majority also ruled that their decision did not violate s.15(1) of the Charter

DISSENT (L‘HEUREUX-DUBE & MCLACHLIN):
   Dube concludes that CE can be business expense, not just personal
   1) s.63 is permissive, doesn't prohibit CE deductions from s.9 or s.18 – ss. 9(1) and 63 may co-exist
   2) There is nothing in the wording of s.63 that excludes the application of s.9
   3) s.63 itself is outdated, it was introduced 20 years ago and women's economic status has continued to progress  it's no longer
    an adequate reflection of their status
   4) Parliament's intention, by enacting s.63, is to allow women to access workforce – to limit deductibility under it would be
    antithetical to the whole purpose of the legislation
   5) At the very least, the provision is ambiguous and when it's ambiguous, the traditional way to read it is in favour of the TP
   6) Re: Different treatment of employees and self-employed: There are many examples of how employees don't get to recognize
    expenses in the same way as business people
                                                                                                                                          42
     o    This is unfair but we have to look at this in the way what is equitable amongst different business people and the different
          expenses they incur to carry on their businesses – fundamentally the case is about horizontal equity for businesspeople
     o    The fact that business expenses have a personal element does not mean it's not deductible as long as it has a primary
          business purpose
     o    That's just something you need to do as part of working life – CE is just something you have to have to earn business income

Interest Expense
    s.20 creates a series of specially authorized deductions that are permitted even if they might be prohibited by s.18
    4 Elements to s.20(1)(c) (Shell Canada):
                    o Interest must be paid or payable in the year it is deducted
                    o TP must have a legal obligation to pay the interest
                    o The borrowed money must be used for the purpose of earning non-exempt income from bus/prop
                    o The amount must be reasonable
Hierarchy of provisions:
    s.9 is ultimate authority for all deductions
    s.18 prohibits deductions of certain amounts unless they meet particular tests
    s.20 are exceptions to the exceptions in s.18

    Courts have generally held that interest expenses on borrowed capital are properly characterized as capital expense – normally
     nondeductible under s.18 but only allowed b/c it's expressly authorized under s.20(1)(c)
     o     Critics says that interest expense is just part of your overhead to operate your business
    S.67 places reasonableness limits on deductions but s.20(1)(c) also puts a reasonableness limit
    The purpose of s.20 is to encourage productive capital investment
    "borrowed money used for the purpose of earning income" is the controversial phrase in cases
    Courts have developed "eligible and ineligible use" of borrowed money  this is not in statute
    eligible use = earn income for business or property
    ineligible use = finance personal expenditure or purchase property that has no income earning potential
    ―Use for the purpose‖ – debate about whether this section is referring to form or substance of a transaction
                      o    There are both subjective/objective elements
                      o    It‘s not enough that the subjective purpose of loan is to earn income – what counts is for what purpose the
                           money was actually used

Sinha v. MNR (1981)
   TP used student loan to invest in stock market
   Wanted to deduct interest he was paying on student loan that was used to earn money from stock market
   Crown says the purpose of the loan was for educational purpose (personal and living expenses under s.18(1)(h)) and not for
    investment
   Court says that it's not the purpose of loan that we look at but the actual use of the money – which was to earn income
   Even though borrowing was for a personal use (education), interest is deductible
   Deductibility of interest depends on current use of borrowed money

Failed Business and Deductibility
    If you dispose of income earning property and buy personal property you will lose interest deduction – reverse can be true as well
    Exceptions re: lost sources of income in Tennant - affirmed and codified by s.20.1
    allows investor in securities who suffers losses to deduct
    if you borrowed money to carry on business and then cease to carry on business (ie it fails), can still deduct the interest on the loss
    saving provisions for those who have undertaken risk, can continue to deduct
    not necessary to show the investment actually produced income as long as there was a reasonable expectation of earning income
     when you purchased the shares - you can deduct

Bronfman Trust v. Canada (1987 SCC)
Facts:
    A trust decided to make capital allocations to a beneficiary and to finance the allocations, they took out a bank loan instead of
     liquidating its capital assets
    The trust now wants to deduct the interest expenses from its income because although the loan‘s direct use is not to produce
     income, the loan preserves income-producing assets which might otherwise have been liquidated
Held: Interest payments are not deductible under s.20(1)(c)
Ratio: A direct ineligible use cannot be disregarded for an indirect eligible use of borrowed funds. The borrowed funds were not of an
income-earning nature.

    Eligible and Ineligible Uses of Borrowed Money
    Not all interest expenses are deductible under s.20(1)(c) – the onus is on TP to trace the borrowed funds to an identifiable use
     which triggers the deduction
    Focus of inquiry centred on what the TP used the funds for – whether it‘s an eligible or ineligible use
    Ineligible Uses:
                 o    Interest on borrowed money to: produce tax exempt income, to buy life insurance policies, for non-income earning
                      purposes (personal consumption or making capital gains)

    Original or Current Use of Borrowed Money
    It is the current use rather than the original use of borrowed funds which is relevant in assessing deductibility
    TP can‘t continue to deduct interest payments merely because the original use of borrowed money was to purchase income-bearing
     assets, after he has sold those assets and put the proceeds of sale to an ineligible use
    Conversely, a TP who uses the money for an ineligible purpose but later uses the funds to earn non-exempt income from bus/prop
     should not be deprived of the deduction for the current eligible use (Sinha)
                                                                                                                                         43
    Direct and Indirect Use of Borrowed money
    The trust is asking the court to characterize the transaction on the basis of an indirect use of borrowed money to earn income rather
     than a direct use of funds that was counter-productive to the trust‘s income-earning capacity
    If court allows the argument that that deductibility should be allowed because the loan preserves income-producing assets, it would
     be unfair for the less wealthy TPs with no income-earning assets b/c they would not be able to deduct interest payments on loans
     used in the same way
    A direct ineligible use will not be overlooked in favour of a indirect eligible use  implies form over substance
    TP is pleading substance over form
    To accept indirect uses just makes a mockery of the provision – Parliament could not have intended this

How does the court reconcile this decision with Trans-Prairie (below)?
   Dickson does not overturn Trans-Prairie because there will be exceptional circumstances where borrowed money is used for the
    bona fide purpose of protecting a TP‘s incomer-earning assets
   Says Trans-Prairie is an exceptional case where bona fide purpose exists

Corporations
Trans-Prairie Pipelines Ltd v. MNR (1970 Ex. Ct.)
   TP corporation wanted to raise capital by way of bond issues for expansion of business but couldn‘t until it first redeemed its
    preferred shares – Instead of having shareholders, replaced them with bondholders
   Used borrowed funds to redeem preferred shares held in the corporation rather than investing in new income earning equipment
   This means they are borrowing money on interest
   CRA says this is not an income earning use of money
   Exchequer Court says interest is deductible even if the direct use was not an income earning use
   Indirectly, the TP was borrowing to preserve and increase the income earning capacity of the business
   The borrowing of money was to fill the hole of redemption of the shares
   Court should take a broader view of the overall borrowing, which was to increase the capacity of the business

Individuals
Sternthal v. The Queen (1974)
     S wanted to deduct interest but court determined the borrowed money was for personal purpose
     He borrows money while holding a portfolio of securities and then makes an interest free loan to his kids the same day
     Argued that he borrowed money to make the loan so that he can preserve his securities, don‘t have to liquidate
     Court says this is not deductible b/c the real purpose was to make interest-free loan to children, which is not income producing
     Had he made an interest bearing loan to kids, then that would have been income-earning

Zwaig v. MNR (1974)
   Sells securities to broker for cash on the agreement that he will repurchase them later the same day
   Uses cash to buy life insurance policy
   Borrows money to repurchase securities
   Direct use of borrowed money was to buy securities - income earning use of borrowing - wants deduction
   Court says NO, may have arranged it to look as though you've met the requirements, but s.20(1)(c) speaks to the purpose and the
    purpose of this was to buy life insurance (which is an ineligible use)

Robitaille v. Canada (1997 TCC)
   Partner in law firm and has a capital account at the firm
   1) withdraws capital from the firm from his partnership account
   2) buys house
   3) borrow money to refinance partnership interest
   TP claims he's using money to invest in his law firm and he's using it to earn income
   Court says despite ordering events to create an aura of compliance with s.20(1)(c), it was really for the purpose of buying a home
   Therefore, not deductible
   this is less of an issue for corporations b/c of Trans-Prairie Pipeline case

        Tracing
    Onus on TP to trace but if TP is using a formal tracing simply to conceal the real purpose of the borrowing, then we flip to looking at
     substance (the real economic purpose)
    Conversely, there will be cases where even though formal tracing isn't met, the bona fide purpose was to earn income and will
     permit deduction - Trans-Prairie

         after Bronfman there was much uncertainty - raised the threshold for deductibility

MNR v. Attaie (1990 FCA)
  A man from Iran came to Canada and borrowed money to buy a house
  Had an open mortgage for a short term bridge financing b/c he expected to have money from Iran to pay it off quickly
  Funds from Iran became available but interest rates have skyrocketed while his mortgage is a low interest loan
  Makes more sense for him to invest money to get interest
  He wants to deduct interest expense against securities portfolio
  Revenue Canada says no – the real purpose is to buy a home in Canada
  Before Bronfman, trial court held for taxpayer - satisfied the real purpose of maintaining mortgage loan was to make investment
  essentially the use changed
  SCC then releases Bronfman and Federal CA overturned Attaie relying on Bronfman – not deductible
  Onus is on taxpayer to trace funds directly to an income producing use
  This indirect purpose of allowing the capital to be invested does not satisfy the bona fide purpose of borrowing for income producing
   purposes
                                                                                                                                          44
 Tennant v. MNR (1996 SCC) - disappearing source problem
   T borrows $1M and buys shares in company, something goes wrong, sells his original shares and buys new shares and now his
    assets are worth $1000
   But he still has $1M outstanding loan and wants to deduct interest expense of this loan
   CRA says he wasn't using borrowed funds to earn interest anymore so he cannot deduct
   Court says no, interest is still fully deductible
   Initial investment was disposed of but the funds can be traced to another income earning investment
   Changes in the value of the property doesn't affect the right to deduct interest
   There was a genuine risk taken which went bad
   s.20.1 meant to protect people who have investments that radically decline in value

Ludco Enterprises (2002 SCC)
   Cdn TP incurs $6M interest expenses on borrowed money to invest in shares of off-shore tax haven corporation
   Shares produced modest dividends relative to interest expense
   Shares are eventually sold for a large capital gain
   Almost all of the return from the investment was from kg – which was the express purpose of the investment
   CRA says you can't deduct interest on this loan  Met formal tracing requirement but you don't have income producing purpose
   Income means some reasonable expectation of NET INCOME, not capital gain
   But SCC agrees with TP and opens up issue of meaning of income – it is deductible
   There's nothing in s.20(1)(c) that says income only means net income or profit, just "income" is used in language
   Doesn't even say the primary purpose is to earn income - even if it's an ancillary purpose of the investment, that is all that the
    section requires on its face

Singleton v. Canada (2002 SCC)
   Similar to Robitaille but slightly reordered
   Partner in law firm borrows money and contributes money to capital account to finance partnership (an income earning business)
   Then withdraws the same amount to buy a house
   SCC says interest is deductible
   They don't place any weight on the order of transaction
   Says they were 2 separate transactions – the borrowing to contribute to firm and the withdrawal to buy a house
   TP has met onus of tracing funds to income earning purpose
   Says court's job is to apply s.20(1)(c) without searching for underlying economic realities
   Found that TP used borrowed funds to refinance his capital account and not to buy a house
   Dissent says the court should focus on the economic realities – that the funds were really borrowed to buy a house

Lipson Estate v. Canada (2006 TCC)
   Has the same purpose  to get interest deduction for mortgage
   TP relied on s.20(1)(c), attribution rule and s.20(3) refinancing provision
   s.20(3) if you've borrowed money for income earning purpose, if you borrow another loan to discharge the first one, the interest is
    deductible even though the purpose of the 2nd loan is not for income production - you've already met the test in s.20(1)(c)
   Any interest on the new loan to discharge the first loan is deductible

Current v. Capital Expenditures
   s.18(1)(b) prohibits any deduction in respect of an outlay, loss or replacement of capital, a payment on account of capital or an
    allowance in respect of depreciation, obsolescence or depletion except as expressly permitted by the Act
              o     Thus, capital losses and capital expenditures are not deductible unless it is allowed elsewhere in the Act
              o     Capital expenditures are not fully deductible in the taxation year in which they were incurred, but must be deferred in
                    whole or in part to subsequent tax years
   Current Expenditure:
              o     Expenses on revenue account
              o     Generally deductible in full in the year it‘s incurred
   Capital Expenditure
              o     Added to cost of property acquired when expense incurred
              o     Not generally deductible in the year incurred
              o     May be eligible for depreciation under CCA rules
              o     If not, it will eventually factor into kg or kl on disposition of property
   There is no bright line test to distinguish between the two categories – depends on facts of the case

Canada v. Johns-Mansville Corp. (1985 SCC)
Facts:
    TP in open-pit mining business and it was necessary to purchase land regularly to extend the perimeter of the mine to maintain a
     gradual slope and prevent landslides \__/
    At first blush, buying land looks like a capital expense – part of the structure of business
    TP deducted the cost of land acquired during the year as an ordinary business expense
    Minister disallowed the deductions on the basis that land was a capital expenditure and cannot depreciate, endures forever however
     it‘s used
Issue:
    Can the TP, when purchasing additional land, charge the purchase price as a production expense or must the TP capitalize the land
     cost?
                 o    If it‘s characterized as a current expenditure, it is fully deductible
                 o    If it‘s characterized as a capital expenditure, it can only be deducted over a period of time under CCA rules
Held:
    The land costs were current expenditures and not capital expenditures.
Analysis:
    The land in this case is in a strange situation
                                                                                                                                                 45
     o      Usually, no capital cost allowance for land b/c land doesn‘t wear out and value doesn‘t depreciate based on wearing out
     o      But for mining properties, there is a ―depletion allowance‖ – since land is used for getting ore, the value of land will depreciate
            as the finite amount of ore is extracted
     o      But the land in this case is not ore-bearing land – so no depletion allowance given
    There may be relief by realizing a capital loss at the end when the land has no more value, but if the land never realizes a kg, there
     would be nothing for the kl to be deducted against
                 o      If we don‘t allow TP to claim this bona fide business expense, he may not get any recognition for it
                 o      It is likely that the hole in the ground will be worth very little at the end – likely won‘t make a profit from selling it as
                        capital – it‘s consumed in the mining process
    “Once and for all test” from British Insulated
    When an expenditure is once-and-for-all and with a view of bringing an enduring asset or advantage for the trade, it suggests that
     it's a capital expenditure
    B.P. Australia says there is no one rigid test or criterion for characterizing current vs. capital expenses - it's a common sense
     guiding of circumstances and features
                 o      Whether the expense is recurring (current) or one-time expense (capital)
                 o      % of operating costs that it represents (3% in this case)
                 o      Does the expense create lasting addition to income-producing assets or is it consumed immediately?
                 o      Is the expense incurred on the structure within which the profits were to be earned (capital) or was it part of the
                        money-earning process (current)?
                 o      Difference between acquiring means of production and simply using them
                 o      Method of payment – series of payment for continued use OR lump sum to secure future use or enjoyment?
                 o      Is there any other way for the expense to be recognized in the computation of income?
                                    If no other way, more likely to treat it as current expense
    Court refers back to strict construction rule, uncertainty in legislation should be resolved in favour of TP
    b/c if we don't do this, TP may be denied a deduction for a bona fide business expense

Notes:
   Recall in Symes, the dissent argued childcare expenses should be deductible as a business expense b/c s.9 doesn't expressly
    prohibit that
   Symes cites Canada v. John-Mansville - very traditional approach to strict construction, in contrast to Stubart which rejected strict
    construction
   Allowing this deduction as a business expense - will it distort neutrality and equality? the main concern for court is that the TP won't
    get a deduction when they are entitled to one
   Bottom Line: no expense is INHERENTLY a capital or current expense
   Repairs v. Replacement/Renovation Expenses:
    o If you're doing regular repairs from normal wear and tear, it's a current expense
    o If you are replacing the building or some part of it, or renovating, upgrading significantly, building an extension, it is a capital
         expense
    o You can get capital cost allowance and you can deduct all 100% in that year
   Goodwill:
    o Goodwill is the value of a business over and beyond its identifiable assets
    o Eg. customer loyalty, reputation, name recognition
    o Expenses of developing goodwill are current expenses that can be deducted in calculating annual income
    o Eg. marketing, promotion, doing cold calls to get customer
    o But if you're purchasing existing goodwill, that's a capital expense
         • eg. purchasing a client list, purchasing company and part of it was for goodwill
         • Gifford 2004 SCC individuals bought a client list and court held this was a capital expense b/c they were purchasing
               existing goodwill

Capital Cost Allowance
•   For accounting purposes, the cost of tangible capital property with a limited useful life is generally depreciated over its expected life
    in order to match the expense of the asset with related revenues over the course of its useful life
•   For tax purposes, deductions in respect of depreciation are explicitly prohibited under s.18(1)(b), but s.20(1)(a) allows a TP to
    deduct Capital Cost Allowances as allowed by regulation

Methods of Depreciation
•   Straightline Method
    o    The cost of the property is deducted in equal annual increments over the course of its useful life until the unrecovered or
         undepreciated cost (―book value‖) reaches zero
•   Declining-Balance Method
    o    A percentage of the unrecovered or undepreciated cost is deducted each year, causing this book value to approach but never
         reach zero
   Most CCAs are computed on a declining-balance basis – depreciation rates are set out in part XI of schedule II of Regulations

CCA Deductions
  CCAs are generally computed by a ―class method‖
  Depreciation rates in Regulations are not applied to individual assets but to the class as a whole to produce an Undepreciated
   Capital Cost (UCC) for the class as a whole
  Deduction of CCAs under s.20(1)(a) is optional and TPs can choose to maintain the UCC of a class of property by forgoing current
   deductions and deferring the tax value of these deductions to subsequent accounting periods
             o    this gives TP flexibility to time CCA deductions to coincide with years in which they actually have revenue
             o    if you're starting brand new business and incur losses initially, you may not claim CCA b/c it will increase your
                  business losses which would have to be carried forward
  CCA is only available to those earning bus/prop income, not for those with employment or other sources of income
                                                                                                                                     46
Depreciable Property
   s.13(21) “Depreciable Property”
    o    Property must be acquired by the TP and must be property in respect of which a deduction has been allowed under s.20(1)(a)
         or would be allowed if the TP owned the property at the end of the year and the Act were read without reference to the
         ‗available use‖ rule in s.13(26)
    o    If "depreciable property" = a capital expense which CCA can be claimed, is that not a circular definition?
    o    "capital cost" not defined in Act but understood by court and CRA to be the amount you paid for the asset (the actual cost of
         acquisition)
              includes cost of any capital improvements to asset
              includes acquisition expenses - eg. legal fees
              includes proceeds of disposition - defined in s.13(21): includes sale price of property sold, other things like insurance
               proceeds when property is destroyed, expropriation payments from gov, compensation received if property is ruined
   Re: Leased Property
    o    Common law provinces courts have consistently held that lease arrangements constitute an acquisition of property by the
         lessee – so the lessee can deduct CCA, and not the lessor
    o    In civil law, concept of ownership is absolute so lessees cannot be said to have acquired property within the definition of
         depreciable property
    o    Legislature created s.16.1 to clear up this issue, which allows arm‘s-length parties to a leasing agreement for a term exceeding
         one year to elect to characterize the lease as a contract of purchase and sale financed by money borrowed from the lessor by
         the lessee
    o    Where the parties do not file an election, the tax consequences are determined according to MNR v. Wardean Drilling and
         Canada v. Construction Berou Inc.

Classes of Property (some examples) – see ITA for others
   Class 1 - 4%
              o buildings and component parts
              o low rate suggests buildings have useful life that's quite long
              o these rates are supposed to reflect estimated useful life of assets
              o although gov may give faster rate to promote certain objectives
   Class 5 - 10%
              o pulp mills
   Class 6 - 10%
              o building of frame, log, stucco, etc. if used in farming or fishing, fence, greenhouse, water storage tank
              o less permanent type of building, no proper foundation in the ground
   Class 7 - 15%
              o canoe, rowboat, certain vessels
   Class 8 - 20%
              o gives basket clause for anything not described in Regulations
                         a tangible capital property that is not included in another class in this Schedule, subject to some
                             exceptions
   Class 12 - 100%
              o doesn't 100% deduction make it a current expense?
              o this class includes smaller items that wear out quickly
              o eg. book that is part of a lending library, chinaware, small tools, linens
              o also includes items gov wants to encourage investment in or subsidize the cost of
              o eg. certified feature film, a metric scale acquired between certain years, cash register designed to calculate GST
    CCAs tend to be a popular way to give tax concessions to businesses - low profile, gov doesn't have to jump through many hoops to
     give them – easy to change and don't have to go through Parliament
    Definitely problems with this in terms of tax policy b/c not monitored

Computing CCA
  Intangible property not described in Sched. II (eg. purchased goodwill) is defined as eligible capital property, a percentage of which
   may be deducted on a declining-balance basis under s.20(1)(b)
  Classes of depreciable property are subject to specific exclusions in Reg. 1102(1) and (2), where the classes of property do not
   include property:
  Reg. 1102(1)
             (a) the cost of which is deductible in computing the TP‘s income
             (b) that is described in the TP‘s inventory
             (c) that was not acquired by the TP for the purpose of gaining or producing income – consistent with s.18(1)(a) and (h)
             (d) that is used as recreational facilities – consistent with s.18(1)(l)(i)
  Reg. 1102(2) excludes all land from the categories of depreciable property that CCA may be claimed

         CCA maximum entitlement is determined by applying the max % rate to the undepreciated capital cost (UCC) of the class of
          the assets at the end of the year (Declining-balance method)
         UCC defined in s.13(21)
               o always calculated for the class and not individual asset
               o this formula allow for negative figures as a result
               o Main Thesis of Computation:
                           UCC = (A+B) - (E+F)
                           A = capital cost of all properties acquired in the class
                           B = any "recapture" previously included in income under 13(1)
                                                                                                                                            47
                              E = total depreciation previously claimed on the class
                              F = for all properties disposed of (sold) from the class the lesser of:
                                     the proceeds of disposition of the property
                                     the capital cost of the property
The Half-Year Rule: reg. 1100(2) (for property acquired after 1981)
         Where at the end of a taxation year,

          the amount added to the UCC of a Class in respect of acquisitions

          exceeds

          the amount subtracted from the UCC of the Class in respect of dispositions,

          the maximum CCA for the year shall be determined as if the UCC of the Class was reduced by 50% of that excess
          [Note some properties are expressly exempted from the half-year rule, including most of the items listed in Class 12 (100%)]

Recapture and Terminal Loss
   CCA is to allow the cost of the property to be deducted over the course of its useful life
   the rates set in the Act are set based on the estimated useful life of things in that class
   but b/c it's only estimate, it's possible for the property to lose value more quickly than the rates set
   UCC will suggest that there is still value but the proceeds will reflect that is has declined more quickly, then there will be a positive
    UCC resulting in a terminal loss
   Terminal loss arises when CCA rate is too low in relation to the real useful life of the asset or conversely, the asset has a much
    longer useful life than CCA rate suggests
   eg. GST cash register has a 100% rate but it is likely to last much longer than one year
   If you depreciate it at 100% and then sell it the following year for 3/4 of original price, you're going to have recapture (include the
    portion of depreciation previously claimed back into income)

Recapture
   s.13(1) Defines Recapture: arises when at the end of a taxation year, the negative amounts in the computation of UCC exceeds
    the positive amounts
   Eg. $50 Capital Cost for use in business and held for period of 5 years
   During 5 years, TP claims CCA each year until UCC has dropped to $20, they have deducted $30 CCA over the years
   If they then sell it for $40 in Year 5, recapture is:
          A 50
          E 30
          F 40
          -20 UCC for Year 5
   We'll have to include $20 as recapture b/c we claimed $20 too much CCA
   Recapture rules reconcile the CCA rules with the real world situation of how fast the asset has depreciated
   Recapture is calculated for the class as a whole and not for individual assets
   The pooling system allows for deferral of recapture
   eg. if they own 18 of same asset, selling one for $40 is unlikely to bring the UCC into recapture
   Not until the last one is sold will you have to consider recapture
   Recapture system designed to bring back into income any CCA that was excessively deducted up to the original capital cost of the
    asset – then recapture stops b/c the capital cost is the thing there available for you to deduct
   Any amount realized on an asset above that is dealt with as a capital gain b/c that amount was never available to be depreciated
                o this is the reason why under Part F, we take the lesser of proceeds and capital cost
   eg. $75 proceeds, 50 cap. cost, 20 UCC

          A 50
          E 30
          F 50 (lesser of)
          - 30 recapture
    But what if the TP acquired another asset before the end of the year for $30 to get rid of the negative balance before year end?
    This does not get rid of capital gain consequences b/c it applies to individual assets sold for proceeds more than its cost

Terminal Losses
   s.20(16) Terminal Loss arises when at the end of the year, the positive amounts in the UCC of the class exceed the negative
    amounts and the TP no longer owns any assets of that class
   When a TP owns no more property of a class that retains a positive UCC at the end of a tax year, s.20(16) prohibits the deduction of
    any CCA and requires the deduction of a terminal loss equal to the amount of remaining UCC
   Unlike recapture, which can happen at any time, TL only applies when there is no more property in that class, at which point it is
    fully deductible under business income
   eg. $50 capital cost and claimed $30 CCA so there is $20 UCC in Yr 5, then we sell asset for $10 in Yr 5
          A 50
          E 30
          F 10
           10 UCC
   If you have no more property in the class, $10 becomes terminal loss
   You can claim the whole balance like having an extra big CCA deduction for the year to catch the class up to reality
   If you acquire another property in the class, then it will defer terminal loss b/c you can claim CCA again
                                                                                                                                          48
Separated Class Requirement
   ITA requires or permits specific kinds of depreciable properties to be categorized as separate classes for the purpose of computing
    CCA, recapture and terminal loss
   Reg. 1101(1ac) – a separate class is generally prescribed for each rental property w/ a capital cost of $50,000 or more, making it
    impossible to avoid the recognition of recapture depreciation on a disposition for proceeds exceeding the UCC of the property
   Reg. 1101(1) Where a TP acquires depreciable properties for the purpose of gaining or producing income from different businesses,
    Reg.1101(1) prescribes a separate class for properties acquired for the purpose of gaining or producing income from each business,
    making it impossible to rely on the UCC of depreciable property of one business to shelter recaptured depreciation on the
    disposition of depreciable property of another business

    s.39(1)(b)(i) says there is no capital loss on depreciable property (although there can be kg), so any terminal loss is treated as an
     ordinary business expense

Allocation on Disposition of Property
    If a purchaser wants to buy a corporation, they can either buy out the shareholders or buy the individual business assets
    CCA impacts whether to buy shares or assets
    If the vendor company has claimed too much CCA in the past, then when it sells the business assets for FMV, it will likely have
     recapture – which will be fully included in business income and subject to tax at the year of sale
    That might not be attractive to vendor to realize a lot of recapture on the sale
    Vendor has a few options:
     o     May prefer to sell shares instead of business assets, as it will generate capital gains – included only at ½
     o     Or to allocate as much proceeds as possible to non-depreciable capital property (eg. land) and depreciable property on which
           little or no CCA has been claimed in order to minimize recapture on previously claimed CCA
     o     Or maximize any terminal losses that might be realized on the disposition of depreciable property
    On the other hand, Purchasers will prefer to allocate as much proceeds as possible to inventory or services provided, since these
     are fully deductible in computing their income
    Or to depreciable property (esp. those with high rate of CCA) in order to benefit from high CCA and/or terminal losses
    The new purchaser is a brand new TP and get to refresh UCC at the cost they paid for buying corporation
    However, there may be cases where the Vendor and Purchaser‘s interests converge
     o     If a Vendor has, b/c of accumulated losses from prior years, claimed little or no CCA, it may be mutually beneficial to allocate a
           substantial portion of the proceeds of a sale to depreciable property, enabling the purchaser to claim substantial CCA with little
           or no recapture to the vendor
                 V would not have to worry about over-claiming CCA from before, so no worries of recapture
                 P would want to claim max CCA possible so the higher the amount allocated to the depreciable property the better
     o     Alternatively, where the Vendor has claimed substantial CCA on a class and the Purchaser has accumulated losses from prior
           years, it may be mutually advantageous to allocate most of the proceeds to non-depreciable property, thereby avoiding
           recapture on the depreciable property and reducing the amount of CCA that the purchaser may subsequently claim
                 V would not have to pay recapture b/c the UCC of the depreciable property would be low (very little proceeds allocated to
                  the class), thus they wouldn‘t have been able to claim too much CCA from the class
                 P already had prior losses and don‘t need to add any more to his plate, thus he doesn‘t need a lot of CCA to claim

    Results in tax benefits for everyone except CRA
    This situation results in anti-avoidance provision s.68(a)
                o gives minister power to reallocate for tax purposes the purchase price to assets if that is more reasonable
                o but how do you determine what is more reasonable?
    Golden (SCC) gives a narrow reading to s.68(a)
                o if the parties are dealing at arm's length, then by definition the price they agree to pay is the FMV of the assets
                o they are allowed to take tax considerations into account in determining FMV
                o s.68(a) provides a high threshold for Minister to meet before they can find allocation unreasonable and have power
                     to reallocate
                o non-arm‘s length parties – there‘s a greater chance of court finding that s.68 will apply
Definitions
s.54(a)
          “adjusted cost base”
                    for depreciable property, acb is simply capital cost
                    only for undepreciable property is acb really "adjusted"
          “capital property”
                    means any depreciable property of the TP and any property (other than depreciable property), gain or loss from the
                     disposition of which would, if the property were disposed of, be a capital gain or a capital loss, as the case may be,
                     of the TP
s.248(1)
          “disposition”
                    any transaction or event entitling a TP to proceeds of disposition of the property (see p.1462 ITA for other definitions)
s.13(21)
          “proceeds of disposition”
                    includes sale price, compensation for property unlawfully taken, compensation for property destroyed paid out by
                     insurance, compensatory damages
          “total depreciation”
                    the total CCA allowed under s.20(1)(a) for a particular class of property
                                                                                                                                         49
CAPITAL GAINS

History of Preferential Capital Gains Taxation
    kg not taxed until 1972 because it wasn‘t an income from a source
    1972 - kg is expressly included in computation of income under s.3(b) – taxed at ½
    1984 - $500,000 lifetime exemption for kg on all forms of property
    1988 – reduced exemption to $100,000; $500,000 only retained for qualified small business corporation shares and qualified farm
     property; inclusion from raised from ½ to ¾
    1992 – $100,000 exemption abolished for non-income producing real property
    1994- $100,000 exemption completely abolished; $500,000 exemption retained
    2000 – reduced inclusion rate from ¾ back to 2/3; then to ½
    There is no longer a kg exemption except for qualified small businesses, qualified farms and qualified fishing property

Policy Concerns:
 Arguments for heavier kg taxation:
     o Horizontal equity - kg represent an accretion to economic power - a buck is a buck is a buck, should be treated as any other
         type of income
     o Vertical equity - kg is received disproportionately by high income people
     o Neutrality - If you tax kg at less than normal tax rates, you will give incentives that would distort the way people would
         otherwise organize their affairs - jeopardize efficiency of market
     o Simplicity - blurry distinction between income and kg; b/c there's difference in tax rates between them, it's complicated for TPs
         to determine what kind of income they have (have to consult accountant); gov has to do monitoring and enforcement; lot of
         litigation with respect to characterization
     o Deferral - kg benefit not only from reduced inclusion rate but from deferral; a true picture of your income would include
         accruing kg (Carter Commission says this); but b/c of the administrative difficulties to pay tax on gains they haven't realized, we
         use the realization system, but this doesn't take away the economic value people are accumulating over the years and the way
         they can use that value to pledge against loans, etc.
     o Revenue - a source of revenue for gov to include kg tax gains fully

    Arguments against lesser kg inclusion:
     o Inflation - many gains are inflationary; if you hold asset over many years and prices have risen generally, then there is inflation;
         when you realize the asset for a gain, that gain only reflects inflation and not a real economic gain (counterarg to horizontal
         equity)
          but there is some inflation protection in the Act already b/c the rates are indexed for inflation
          also, other kinds of income are taxed on a nominal basis and not on an inflation-adjusted basis
          suggested to index the adjusted cost base
     o Lock-in Problem - people may be discouraged from changing their investments according to what is the most productive use
         of money b/c they have to realize capital gains on disposition - a take on the neutrality argument; b/c kg are taxed, people's
         decisions about when the time is right to shift investments will be distorted
          to ensure that kg is taxed at least once in its generation, upon the owner's death, the gains are realized and taxed
          Bronfman Trust: we see the situation where the person would never sell those shares b/c there's such a huge cost on
              realization
     o Bunching Argument - b/c of the progressive rate structure and kg is realized all at once, they will be taxed at a higher rate as
         compared to gradually earned incomes that are taxed at lower rates as they are earned - higher change of being taxed at a
         higher rate
          argument against this is that people have ability to time the disposition of their assets to minimize tax
          most people who earn kg are in the highest bracket anyway
          you have bunching b/c you have the deferral of taxes for so many years until realization so there's value to the TP in that
              deferral
     o Capital Gains encourages investments - a broader economic policy argument
          if there are lower kg tax, it will stimulate investment, generate growth in economy and everyone benefits from that
          kg often promote taking risks in investments
          having kg exemption will free up more capital for investors and ensures a retirement nest egg
          counterarg: the reward comes at the very end when you've already been successful, so it's not effective way of
              encouraging investment
          b/c kg are 1/2 taxable, we reduce the deductibility of capital losses (also deducted at 1/2) - if we allow full inclusion of kg,
              we can also allow full deductibility of kl, which may encourage even more investment
          perhaps 1/2 rate should be targeted to certain types of investments that are more valuable to the economy - preferential
              rate on kg on personal or recreational property doesn't do much for economy

Characterization
   Capital gains = Proceeds – cost of property and cost of selling the property
   Capital losses = Cost of property and cost of selling property > proceeds
   kl only deductible against kg and is done so in s.3(b)
   s.39(1)(a) and (b) define kg and kl as a ―residual‖ – that is, as gains or losses that would not otherwise be included or deductible in
    computing a TP‘s income if not for s.3
   “capital property” – Where a gain or loss from disposition would, if the property were disposed of, be a kg or kl
   “inventory” – Where the gain or loss would be characterized as income/loss from a business
   If you see ―capital property‖ – you will get a kg or kl; If you only see ―property‖ – the question is open
                                                                                                                                             50
Personal Use Property (―PUP‖)
   There can be no capital losses on personal use property other than Listed Personal Property – s.20(2)(g)(ii)
   B/c consumption expenses are not deductible in your income
   “personal property” s.54 – property owned by TP that is used primarily for the personal use or enjoyment of the TP or a person
    related to the TP
   “LPP” – have to be held primarily for personal use or enjoyment but with recognition that these things are held for a partial
    investment purpose as well, so we don‘t totally deny their losses – we only allow losses on LPP to be deducted against other LPP
    gains
   s.41(2) Determination of net gain– tng from LPP is ½ the amount determined – same inclusion rate as regular capital property
   s.41(3) LPP loss – you cannot deduct LPP loss against any other income except LPP gains, not even other capital losses – the
    only thing you can do is carry it forward 3 years or back 7 years

Computation
  s.3 shows there is still a fundamental difference between income and taxable gain
  s.3(b)(ii) taxes kg

    s.40(1)(a) defines "gain" (note: not kg)
                o a gain from the disposition of any property is the amount, if any, by which the amount of disposition exceed the total
                     acb to the TP of the property immediately before the disposition and any disposition expenses
                o proceeds – (acb + expenses of disposition)
                           disposition costs = legal fees, real estate commission, etc.
                           acb = cost +/- adjustments in s.53
    It may be that you sold property in previous year and you have deferred or installment payment system. If you only receive proceeds
     gradually, you are taxed gradually – s.40 (i)+(ii) Reserves Rule
    s.40(1)(b) defines loss = [acb + expenses] - proceeds

    s.39(1)(a)+(b) Meaning of capital gain and capital loss
               o kg = a gain for the year determined under subdivision C that would not be included in income were it not for s.3(b)
                         the only way kg is included in income is if it's caught by s.3(b) b/c it's not a source of income from s.3(a)
                         we must look at common law definitions of kg (fruit and tree analogy) to understand these provisions
               o kl = loss of the year under subdiv. C and you can't deduct under 3(b) or loss under 3(d) from dispositions of property,
                    except depreciable property (?)
    s.54 mini dictionary of Subdivision C terms
               o "capital property"
                         any depreciable property or any property other than depreciable property where gain/loss would be a
                              capital loss

    s.39(4)-(6) Election concerning disposition of Canadian securities
    s.39(4) allows taxpayers who disposes of Canadian securities in a given year to elect in his return that year or any subsequent tax
     year to treat all his gains and losses resulting from these transactions as being a capital gain or loss
    but once you elect this, you must stick with this treatment and cannot change your mind – election will provide the benefit of a lower
     inclusion rate but also a lower allowable rate for losses
    s.39(6) “Canadian security‖ = security issued by a corporation resident in Canadian
    s.39(5) Exception election under subsection (4) will not be allowed if you are a trader or dealer in securities, a financial institution, a
     lending corporation, a nonresident or any combination thereof

Vancouver Art Metal Works v. Canada (1993 Fed. Ct. Appeal)
   TP is selling Canadian shares and files election to be included as kg
   Minister reassess and says they cannot apply for the election b/c they are a trader/dealer in securities
   Although they are not licensed to trade court says trader/dealer not limited to people in constant fulltime business of trading
    securities or registered to trade
   It's broad enough to include anyone who meets the common law definition of a trader
   Parliament could have said they only intended to include REGISTERED dealers but they didn't say so
   To limit scope of provision to registered traders would lead to a strange result where people can avoid falling under the exception
    not because he is not a dealer but simply b/c he has not registered as one
   Someone who merely has an adventure or concern in the nature of trade (eg. a one-time transaction) would not be excluded under
    s.39(5)
   Factors in determining whether a person is a trader under s.39(5):
               o    Frequency of transactions
               o    Duration of holdings (whether it was for quick profit or long term investment)
               o    Intention to acquire for resale at a profit
               o    Nature and quantity of the securities held or made the subject matter of the transaction
               o    Time spent on the activity

Special Capital Gains Rules
Reserves – s. 40(1)(a)
   Where TP disposes of property and the proceeds are payable over more than one year, the Act allows TP to bring their tkg into
    income gradually as the proceeds are received
   This is accomplished through the reserve in s.40(1)(a) – the amount, if any, of which (i) plus (ii) exceeds (iii)
   Where a TP deducts an amount under (iii), it is included back into calculation of gain in (ii) for the immediately following year
   If there are proceeds that remain payable after the end of this subsequent year, the TP may again claim a reserve under (iii), and
    the process repeats until all the proceeds are paid
   This rule allows TPs to defer the recognition of a reasonable portion of the gain otherwise determined, provided that no less than 1/5
    of this gain is recognized in the year in which the property is disposed of and in each of the following 4 taxation years
                                                                                                                                          51
   It's the kg that's eligible for the reserve, NOT the proceeds
                                       FORMULA: The amount, if any, of which (i) + (ii) exceeds (iii)
                                                (i) = kg (this would only be applied in the year you dispose of the capital property)

                                                PLUS

                                                (ii) = if the property was disposed of in previous year(s), the amount, if any, claimed by
                                                 the TP under (iii) in computing the TP‘s gain for the immediately preceding year from the
                                                 disposition of property (this would not be applied in the year you dispose capital property)

                                                MINUS

                                                (iii) = a reasonable reserve in respect of the proceeds up to amt determined by the
                                                 formula of 1/5 the amount determined in (i) x (4 - # of tax years ended after disposition of
                                                 property)
   Example:
   Capital property cost $75,000; sale of property in 2006 for $100,000
   Terms of payment of proceeds allow purchaser to pay in 5 equal annual installments - 20,000/year
   kg = 25,000

   In 2006,
               o   (i) 25,000
               o   (ii) not relevant in this initial year
               o   (iii) clause (C ) says you can claim a reasonable reserve for a portion of the gain
                          clause (D) says you can apply a formula to determine your reserve - sets the max reserve you can deduct
                          Thus, you can claim a reasonable amount up to the amount determined in (D)
               o   Formula: 1/5 of amount determined under (i) x (4 - # of tax years ended after disposition of property)
               o   In this case = 5000 x (4-0) = 20,000 max reserve
               o   Gain for 2006 = (25,000 - 20,000) = 5,000
   In 2007,
               o   (i) doesn't apply this year b/c it only applies to the year you dispose of the property
               o   (ii) Applies to property disposed of before the year
                        the amount claimed as a reserve in (iii) then becomes the amount to include in calculating gain for 2007 =
                         20,000
               o   minus (iii) 1/5 x 25,000 = 5000 x (4-1) = 15,000 max reserve
               o   Gain for 2007 (ii) - (iii) = 20,000 - 15,000 = $5000
   In 2008,
             o    (i) doesn‘t apply
             o    (ii) $15,000
             o    minus (iii) 1/5 x 25,000 = 5000 x (4-2) = 10,000 max reserve
             o    Gain for 2008 (ii) – (iii) = 15,000 – 10,000 = $5,000
        Gain is defined as (i) + (ii) - (iii)

Deemed Disposition
  Normally, kg only taxable on disposition but in some circumstances, the Act deems the disposition to have occurred or deems the
   proceeds to be at a certain level
  Forces kg to be brought into income to prevent tax avoidance opportunities and to limit the length of deferral

   Non-FMV Transfers - s.69(1)
            o   Where a TP has disposed of anything to a person with whom the TP is dealing at non-arm's length for no proceeds
                OR proceeds less than FMV, OR if you dispose property to any person by gift inter vivos, the TP is deemed to have
                received proceeds to disposition equal to the FMV
            o   If we didn't have this rule, people can just give away their property to avoid tax
                          Effect to receiver: the recipient of the gift is deemed to have acquired the property at FMV
                          this provision is only for GIFTS, but what if they received it at below fmv?
                          There is no consequence to the purchaser - they will only be taxed at whatever cost they paid
                          But this will increase the gain in the future to the purchaser and potentially result in double taxation
                          eg. mother sells house to son for $80 when fmv is $100
                          mom is taxed as though she received $100, son will be taxed for $80
                          but when son sells the house to someone else, he will be taxed on the $20 difference even though the
                           mother was already taxed on this amount
                          This is a definite penalty to discourage this kind of kg avoidance
            o   You need to ask what the consequences to the transferor and transferee

   Deemed Disposition of kg on Death - s.70(5)
            o   On death, TP deemed to have disposed all of his property immediately before their death equal to FMV at the time
                           if you receive property on death, you're deemed to acquire it at FMV so the beneficiary is only taxed on
                            gains above the price you inherited it  this prevents the beneficiary from being taxed on the actual value
                            of the inheritance
            o   This is to ensure that kg taxation effected at least once per generation
                                                                                                                                               52
Rollovers
    opposite of deemed disposition
    DD forces realization of kg when under normal rules it wouldn't be realized
    Rollover achieves the opposite - allows deferral in the realization of kg beyond the normal time it would be realized as income
    allows a disposition of property to occur without realizing kg
    NOTE: the accrued kg is not avoided, simply deferred to the transferee to be realized at a later time in their hands
    a more technical term for rollovers is a "non-recognition transaction"
    we allow this extra deferral to recognize some economic mutuality between the parties or to encourage or facilitate certain kinds of
     transfers that are deemed economically or socially desirable
    There are many different kinds of rollovers in ITA but the basic mechanism is always the same - involves 2 steps - s.73(1):
                o    Transferor is deemed to receive proceeds equal to her acb of the property
                o    Transferee is deemed to acquire the property at a cost equal to the same acb
                               in effect, the transferee steps into transferor's shoes and takes over their acb
                               it is regardless of what consideration actually paid on the transaction - just look at "deemed" proceeds and
                                cost
                               what really happens is that there is a zero gain transaction because gain = proceeds - acb, but proceeds in
                                this case is equal to acb
    Qualifying transfers - s.73(1.01)
                o    transfer to spouse or CLP
                o    transfer to former spouse or CLP as part of settlement of rights arising out of their marriage or CLP partnership (don't
                     worry about this)

    2 Basic Types of Rollovers on transfer of property to spouse/CLP:
               o   Inter vivos transfers - s.73(1)
                             unless the transferor elects out of spousal rollover, the rollover rule applies
                             this makes sense b/c the transferor is the one with the immediate tax consequences from the transfer
                             default rule is that any transfer of capital property between spouses/CLPs will be a rollover
                             but if you don't want the rollover apply, you have to elect it in your tax return
                             you might want to elect if you want to realize a gain b/c it's a small business corp share and you qualify for
                              kg exemption
                             or you have losses that year that you can deduct against
                             If I elect out of rollover, then revert back to the deemed disposition rules under s.69 - deemed to be
                              disposed at fmv
                             THEREFORE: s.69 is the default rule but for spouses, the rollover is the default rule (overrides s.69) - if
                              they elect out of the rollover, then they revert to s.69
               o   On death - s.70(6)
                             73(1) modifies s.69(1) for spouses and CLPs
                             70(6) modifies s.70(5) for spouses and CLPs
                             if you dispose your capital property to your spouse immediately before your death, your spouse is deemed
                              to have acquired the property at the transferor's acb
                             there is also an ability to elect out - s.70(6.2) but it's the deceased's personal representative choice to elect
                              in the deceased's tax return
                             net capital losses in s.3(b) can be carried forward forever and can normally only be deducted against
                              capital gains, but in the year of death and the year immediately preceding death, you can deduct them
                              against any gains
                             if the disposition at death is a loss, you can reduce the dead person‘s income by realizing it but you have
                              to elect the rollover to do this
                                      comes out of Div. C - carryovers
Capital Gain Attribution – s.74(2)
   Remember: income attribution applies whenever someone has transferred or loaned property to spouse and minor relatives
   any income from the property or property substituted therefor will be taxed at the transferor's hands
   Capital gains can also be attributed back
   in the case of spouses/CLP, there is attribution on any kg on transferred property but there is no parallel rule for minors
   there is only income attribution rules for minor relatives until they turn 18 and it stops
   s.74(2) Attribution occurs where an individual has lent or transferred property to a spouse/CLP:
                     o       (a) (i) the amount, if any, by which the recipient's non-LPP tkg exceeds (ii) the recipient's allowable capital loss
                             for the year from dispositions occurring in the attribution period of property (other than LPP) that is lent or
                             transferred or substituted (in essence, their net tkg non-LPP)
                     o       (b) if there is a net loss from (a) calculation, the loss will also be attributed back to the transferor
                     o       (c ) net gains from LPP are attributed back
   To get out of spousal attribution:
               o Transferee spouse must pay fmv consideration at the time of transfer - s.74(5)
                                   if it's a loan, then there must be market interest rate applied to it
               o     If it's capital property being transferred, the transferor spouse must elect out of rollover rules from s.73(1)
               o     in essence the spouses must act like arm's length parties in the marketplace

Capital Gains Exemption for Small Business Corporation Shares
   doesn't affect s.3(b) - deducted in computing taxable income
   applies only to very select types of kg - qualifying small business shares and qualified farm and fishing property
   won't have to apply on exam - just know it
 Other Income and Deductions
   you can't include income unless it's from a source or expressly included into income by the act
   recall Schwartz case re: sources of income
   s.56(1) of Subdiv. d was to plug holes in concept of sources of income to bring in misc. types of income to be included

				
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