Announcements

Over the past few years, CRA has taken a targeted approach in reviewing amounts claimed under specific lines (based on the type of claim) of a corporate tax return. Various projects conducted included reviews of professional fees, travel expenses and the purchase of certain vehicles.

CRA has recently focused their efforts on advertising and promotion expenses claimed by corporations. As part of this most recent project, CRA is asking for the following:

• a detailed list of the transactions (or the general ledger entries) related to the expenses; and
• a copy of the invoices and receipts for the ten largest transactions included in the expenses.

While there are many reasons to obtain this type of information, CRA may be analyzing whether any amounts deducted were personal, not wholly or partially deductible, or should have been capitalized. For example, provided no exceptions are available, amounts paid for food, beverages or entertainment are only 50% deductible to the corporation. Also, green fees for golf and membership fees in a golf club are not deductible regardless of whether they are incurred for business purposes.

ACTION: Be aware that additional CRA activity in these areas could result in extra time and administrative costs

With numerous COVID-19 benefits being based on employment and remuneration levels, the federal government has likely become increasingly concerned with falsified employment records. However, this is not a new issue. In particular, the government already has experience dealing with false records used to increase access to employment insurance (EI) benefits.

Employers can face penalties of up to the greater of $12,000 and the total of all claimants’ penalties in relation to the offences. In addition, false claims by the applicant would result in an increased number of required hours to qualify for EI benefits in the future, with the specific number dependent on the value of the EI overpayment.

A September 14, 2021 Federal Court case addressed a $15,277 penalty that was assessed for a single employee’s records.

In respect of COVID-19 subsidies, employers may be subject to penalties including the following:

• loss of all CEWS, CERS and CRHP benefits for the period plus a 25% penalty for manipulations of revenue;
• loss of all CRHP benefits for the period plus a 25% penalty for manipulations of remuneration;
• gross negligence penalties of 50% of any applicable disallowed claims;
• third-party penalties to advisors equal to their compensation from the employer plus as much as $100,000 in situations of culpable conduct; and/or
• in the extreme, criminal liability for false statements, attracting penalties of up to 200% of the excessive claim and potential imprisonment for upwards of five years

ACTION: Maintain supporting employment activity documentation as the government will be looking for situations in which employment records were falsified.

In the Fall of 2021, the government revised several business supports provided due to the COVID-19 pandemic.

The changes include extending the Canada Recovery Hiring Program (CRHP) to May 7, 2022 and increasing the subsidy rate to 50%. The wage and rent subsidies under the previous Canada Emergency Wage Subsidy (CEWS) and the Canada Emergency Rent Subsidy (CERS) are also being modified to provide much more targeted support to assist the hardest-hit businesses and those in the tourism and hospitality sector and extended to May 7, 2022.

While the base rules for the wage and rent subsidies under the more targeted approach are similar to the previous CEWS and CERS rules, there are some changes.

Both the wage subsidy and the rent subsidy are available under any of the following three gateways:

• Hardest-Hit Business Recovery Program – available to entities with a prior year revenue decline and a current period revenue decline of at least 50%;
• Tourism and Hospitality Recovery Program – available to qualifying tourism or hospitality entities with a prior year revenue decline and a current period revenue decline of at least 40%; and
• Local Lockdown Program – available for businesses in all sectors, subject to a qualifying public health restriction, with a current revenue decline of at least 40% (25% in some periods).

Hardest-Hit Business Recovery Program (HBRP)

Eligibility for the HBRP would require revenue declines of at least 50% for both of the following:

1. the current month (determined under the existing CEWS and CERS rules); and
2. the average of the first 13 CEWS periods (March 15, 2020 to March 13, 2021), referred to as the 12-month revenue decline.

The 12-month revenue decline would be calculated as the average of all revenue decline percentages from March 2020 to February 2021 (claim periods 1-13, excluding either claim period 10 or 11, which used the same comparative periods). Any periods in which an entity was not carrying on its ordinary operations for reasons other than a public health restriction (for example, because it is a seasonal business) would be excluded from this calculation.

The HBRP would be based on the qualifying remuneration (the same amounts previously eligible for CEWS) and qualifying rent expense (the same amounts previously eligible for CERS) at a rate based on the current-month revenue decline. At the minimum revenue decline of 50%, the subsidy would be 10%, rising to a maximum of 50% where the revenue decline is 75% or more. These subsidy rates would be halved for periods after March 12, 2022.

The rates are summarized in the chart below:

Lockdown support would also be available as under the previous CERS rules.

Tourism and Hospitality Recovery Program (THRP)

The THRP would target the tourism and hospitality sector, with examples including hotels, restaurants, bars, festivals, travel agencies, tour operators, convention centres, providers of cultural activities and convention and trade show organizers.

Eligibility for the THRP would require revenue declines of at least 40% for both of the following:

1. the current month (determined under the existing CEWS and CERS rules); and
2. the average of the first 13 CEWS periods (March 15, 2020 to March 13, 2021), referred to as the 12-month revenue decline (calculated in the same way as the HBRP).

At the minimum revenue decline of 40%, the subsidy would be 40%, equal to the revenue decline, rising to a maximum of 75% where the revenue decline is 75% or more. These subsidy rates would be halved for periods after March 12, 2022.

The rates are summarized in the chart below:

Lockdown support would also be available as under the previous CERS rules.

Increased cap on qualified rent expense

Under CERS, qualified rent expenses were limited to $75,000 per location and an aggregate of $300,000 for all locations within an affiliated group. The aggregate monthly cap is increased from $300,000 to $1,000,000 for rent subsidies under the new gateway.

Local Lockdown Program

Organizations that are subject to a public health restriction are proposed to be eligible for support at the same rates applicable for the THRP (see above), regardless of sector.

The base rules require having one or more locations subject to a public health restriction lasting for at least seven days in the current claim period that requires them to cease activities that accounted for at least 25% of total revenues during the prior reference period. This would not require meeting the 12-month revenue decline, only a current-month decline. It would be available to all affected organizations, regardless of sector.

Special rules were introduced to provide expanded access to this program from December 19, 2021 to February 12, 2022. The expansion allows entities to qualify if they are subject to a capacity-limiting public health restriction of 50% or more. In addition, the current-month revenue decline threshold is reduced to 25% (from 40%).

ACTION: Targeted wage and rent subsidies are still available to those particularly hard-hit entities or those in the tourism and hospitality industry. Ensure to apply if eligible.

The December 14, 2021 Economic and Fiscal Update proposed a temporary refundable small businesses air quality improvement tax credit of 25% on eligible air quality improvement expenses incurred by small businesses to make ventilation and air filtration systems safer and healthier.

The credit will be available for qualifying expenditures between September 1, 2021 and December 31, 2022 related to the purchase or upgrade of mechanical heating, ventilation and air conditioning (HVAC) systems, and the purchase of standalone devices designed to filter air using high-efficiency particulate air (HEPA) filters, up to a maximum of $10,000 per location. There is also a $50,000 maximum claim to be shared among all affiliated entities. The $10,000 and $50,000 limits apply to expenditures over all years (since the beginning of the program) rather than to each particular taxation year.

Eligible entity

The credit is available to qualifying corporations, partnerships and individuals other than trusts. A qualifying corporation is a Canadian-controlled private corporation (CCPC) that has (in combination with associated corporations) less than $15 million in taxable capital employed in Canada.

Qualifying expenditures

To qualify, expenditures must be made for a qualifying location in Canada used by the entity in its ordinary commercial activities.

Claiming the credit

Expenses incurred September 1 – December 31, 2021 are claimed in the entity’s first tax year that ends on or after January 1, 2022, while expenses incurred January 1 – December 31, 2022 are claimed in the tax year in which the expenditure was incurred.
ACTION: Maintain and provide us with any receipts for amounts expended that may benefit from this tax credit.

The credits are taxable in the taxation year in which they are claimed.

For the 2020 year, many employees were required to work from home due to the COVID-19 pandemic. Those employees generally had two deduction possibilities: using the flat method of claiming $2/day the individual worked from home, or doing a detailed calculation to claim the actual costs associated with working from home. While the first option was only a temporary relieving measure for the 2020 year, the Liberal election platform promised to extend access to this deduction for the 2021 and 2022 years.

In the summer of 2021, CRA started to review these claims. A tax journalist from the Financial post, was one of the individuals selected for review. He discussed his experiences in an August 5, 2021 article (What you need to know if the CRA reviews your home office expenseclaims, Jamie Golombek). The author had used the detailed method to claim actual workspace in home expenses and was asked to provide (among other items):

• an employer-signed Form T2200 and a Form T777 setting out the claims;
• receipts and supporting documents, noting that credit card statements, bank statements, or cheques would not be sufficient support;
• for the workspace itself, the calculation details for the percentage claimed, including space used for employment and personal purposes and a copy of the floor plan of the residence with the home office; and
• for cell phone expenses, CRA requested copies of the mobile contract, monthly account summaries, proof of payment, and a breakdown of the minutes and data used to earn employment income.

Similar to other deductions against income, not all claims are reviewed; nonetheless, taxpayers should be prepared to provide this level and type of detailed support.

Also, in a Technical Interpretation, CRA confirmed that the temporary flat-rate claim of $2 per day (maximum $400) can be deducted by adult children living at home provided that they contribute towards the payment of eligible home office expenses and meet the relevant eligibility criteria.

ACTION ITEM: Be prepared to provide detailed supporting documentation for workspace in home claims made under the detailed method.

A July 21, 2021 Money Sense article (My three kids chose different educational paths. How do I withdraw RESP funds in a way that’s fair to them and avoids unnecessary taxes?, Allan Norman) considered some possibilities and strategies to discuss when withdrawing funds from a single RESP when children have different financial needs for their education. Some of the key points included the following:

• There is likely a minimum educational assistance payment (EAP) withdrawal that should be taken, even by the child that needs it least.
• The EAP includes government grants (up to $7,200) and accumulated investment earnings on both the grants and taxpayer contributions.
• The grants can be shared, but only up to $7,200 can be received per child, with unused amounts required to be returned to the government.
• Only $5,000 in EAPs can be withdrawn in the first 13 weeks of consecutive enrollment.
• The withdrawal amount is not restricted by school costs.
• The children are taxed on EAP withdrawals.
• It is generally best to start withdrawing the EAP amounts as early in the child’s enrollment as possible, when the child’s taxable income is lowest. If the child is expected to experience lower income in later years, there is flexibility to withdraw EAP amounts in those later years instead.
• The level of EAP withdrawn for each child can be adjusted. As individuals are taxed on the EAP withdrawals, planning should consider the children’s other expected income (e.g. targeting less EAPs for years in which they will be working, perhaps due to co-op programs or graduation). Consider having the EAP completely withdrawn before the year of the last spring semester as the child will likely have a higher income as they start to work later in the year.
• To the extent that investment earnings remain after all EAP withdrawals for the children are complete, the excess can be received by the subscriber. However, these amounts are not only taxable, but are subject to an additional 20% tax. Alternatively, up to $50,000 in withdrawals can also be transferred to the RESP subscriber’s RRSP (if sufficient RRSP contribution room is available), thus eliminating the additional 20% tax. An immediate decision is not necessary as the funds can be retained in the RESP until the 36th year after it was opened.

ACTION ITEM: The type, timing, and amount of RESP withdrawals can significantly impact overall levels of taxation. Where an RESP is held for multiple children, greater flexibility exists. Consult a specialist to determine what should be withdrawn, at what time, and by whom.

Recently, individuals have become more interested in investing in digital assets such as cryptocurrencies (Bitcoin, Ethereum, Dash etc.); cryptocurrency liquidity mining and yield farming; and non-fungible tokens (NFTs). The next question often asked is whether such items can be held in tax-advantaged accounts such as an RRSP.

An RRSP’s tax-preferred treatment only extends to “qualified investments.” Broadly speaking, qualified investments only include money and securities that are listed on a designated stock exchange. As such, digital assets like cryptocurrencies and NFTs are not qualified investments, so they cannot be held in an RRSP.

However, the investment market has seen a recent surge in cryptocurrency-based exchange-traded funds (ETFs). Many of these are traded on designated stock exchanges, so these cryptocurrency ETFs may be qualified investments. A September 20, 2021 Walletbliss article (Best Crypto ETFs in Canada (2021): Cryptocurrency For All, Simon Ikuseru) lists Canadian Bitcoin and Ethereum ETFs noted as being eligible RRSP and TFSA investments.

Caution must be afforded as a penalty tax applies if the RRSP acquires a non-qualified investment, with the penalty tax equal to 50% of the fair market value of that investment. In addition, the RRSP is taxable on any income from the non-qualified investment and on any capital gain (not the normal 50% taxable capital gain) from disposing of the non-qualified investment.

ACTION ITEM: If interested in holding digital assets in a tax-sheltered savings account such as an RRSP, make sure that item is a qualified investment.

When a shareholder passes away, their shares are deemed to be disposed of at fair market value (FMV) unless a tax-free rollover is available and used. This can cause a tax liability at a time when no cash is available. Holding a life insurance policy in the corporation in respect of the owner-manager can fund these tax liabilities or provide cash to buy out the shares from the estate.

In some cases, whole-life insurance policies are used as tax-sheltered investment tools. However, a problem may arise in that the FMV of the insurance policy is deemed to be its cash surrender value (CSV) for the purpose of determining the FMV of the shares of the corporation. In other words, obtaining such a policy potentially increases the gain experienced on the shares upon deemed disposition at death. Also, the insurance proceeds may not go to the desired party.

Insurance tracking shares can be used to address these issues. They are essentially shares whose value is directly attached to a policy’sCSV, death benefit, or both. They can be issued as preferred shares without access to voting rights, dividends from business profits, or participation in value growth of the rest of the business. If obtained at the initiation of the life insurance policy, the shares can be purchased for nominal consideration because the FMV of the policy should also be nominal. The insurance tracking shares could be redeemed after death, with the related dividend being tax-free by using the increased capital dividend account from the payout of the insurance policy.

As the policy increases in value due to the investments, so do the tracking shares, which would be held by the specific parties intended to benefit from the increases, such as the individual’s children. Two May 19, 2021 Technical Interpretations confirmed CRA’s 2005 position that the CSV would be allocated between the common shares and the insurance tracking shares based on the rights and attributes of each class, using the same valuation principles that would guide the allocation of the value of other corporate assets.

If done correctly, the proceeds of the common shares on death would not be affected by the increase in insurance policy value. However, it is important to note that a specialist should be used in setting up these shares as significant precision in the share attributes is required to ensure that it functions as intended.

ACTION ITEM: Holding a life insurance policy in a corporation can be a useful tool to assist with continuity upon death of an owner-manager. The use of insurance tracking shares can mitigate increases in capital gains upon death when using such policies.

Directors can be personally liable for unremitted employee source deductions and GST/HST unless they exercise due diligence to prevent failure to remit these amounts on a timely basis. CRA cannot personally assess the director more than two years after the individual properly resigns as a director.

In an August 11, 2021 Tax Court of Canada case, the Court reviewed whether the individual properly resigned as a director. CRA assessed the taxpayer as a director personally for $305,390 of unremitted source withholdings for the 2008 to 2014 years on the basis that he never properly resigned.

The taxpayer was appointed as a director in 1999 at the commencement of his employment as a programmer. In 2011, the taxpayer sent an email resigning his employment to the corporation’s owner, followed by a phone call. The taxpayer provided nothing in writing to the corporation (as a legal entity separate from its owner). The taxpayer asserted that as the assessment was issued in 2016, more than two years after he allegedly resigned as a director, the assessment should be vacated.

Taxpayer loses – resignation

In referencing the Ontario Corporations Business Act, the Court reiterated that the resignation of a director is effective at the time a written resignation is received by the corporation or at a time specified in the resignation. As no written resignation of his position as a director was sent by the taxpayer or received by the corporation, the Court ruled that the taxpayer had not resigned. In other words, as the taxpayer was both an employee and a director, resigning as an employee was not automatically a resignation as a director.

Taxpayer wins – CRA’s assessment

After reviewing testimony and various documents, the Court found that the underlying assessment was overstated. As the Court did not have evidence to reduce the assessment to the proper amount, the appeal was allowed in full.

While this was an Ontario case, similar rules regarding resigning as a director exist in other jurisdictions.

ACTION ITEM: If you intend to resign as a director, ensure that the resignation of yourself as a director is received by the corporation.

In a July 29, 2021 Tax Court of Canada case, a trucking company (the taxpayer) engaged the services of a number of drivers as independent contractors (ICs). The taxpayer provided the vehicles along with a fuel card (that would cover all fueling costs). However, since the contract stipulated that the ICs were responsible for the fuel, payouts to the ICs were reduced by 76 cents/km for fuel. These were referred to as chargebacks. CRA had assessed the taxpayer with HST of 13% on all of the chargebacks (amounting to over $118,000 over a 30-month period), arguing that they were taxable supplies (in Ontario).

Taxpayer loses – no fuel was received

Since the taxpayer never physically received the fuel, the taxpayer argued that it never actually provided a supply (or resupply) to the ICs. However, the Court determined that the taxpayer was considered the original recipient because the taxpayer was liable for the payment of the fuel card debts. The taxpayer then would have been considered to immediately resupply the fuel to the ICs in exchange for chargebacks reconciled at the completion of the delivery.

Further, the Court determined that the taxpayer was not acting as an agent for the ICs since it was in the taxpayer’s best interest to ensure that fuel could always be purchased seamlessly (i.e. without the possibility of interrupting the delivery due to an IC’s financial difficulty), and the independent contractor agreement was clear that the parties were separate and not acting in an agency arrangement.

Taxpayer wins – place of supply

CRA had assessed on the basis that the resupply of fuel to the ICs occurred at the taxpayer’s office in Ontario, the place from which the payments were made and reconciled. However, the Court found that the supply was actually provided in the place where the fuel was purchased and inserted. Since 69% of the fueling costs related to expenditures outside of Canada, the Court found that the same percentage of total chargebacks was not taxable supplies. The GST/HST to be charged on resupply was reduced by this amount.

The Court also noted that some of the fuel costs were also likely incurred within Canada but outside of Ontario, meaning that the GST/HST charged in some cases would likely vary from the 13% assessed.

Audit triggered by inaccurate bookkeeping

The fuel and maintenance chargebacks had been originally incorrectly coded in the accounting records as payments for “rental” of the taxpayer’s trucks to the ICs. As trucks supplied in Ontario by rental likely would have been subject to a full 13% HST charge, one can understand where CRA’s position may have originated. The clarification occurred at the notice of objection phase. Had the chargebacks been correctly coded from the beginning, some of the problems and dispute costs may have been avoided.

ACTION ITEM: The details of supply agreements to contractors should be reviewed to determine if GST/HST should be charged. Also, if uncertain how to code an item for bookkeeping purposes, seek guidance from an accounting professional as incorrect treatment may trigger an audit.

Oftentimes, family members of the owner of a business will work for the business. However, these arrangements can be somewhat informal, and amounts paid may be denied as a business expense if the work performed and amounts paid to the worker are not properly documented.

A June 10, 2021 Court of Quebec case provides one such example of this issue. An individual (P) owned and operated a corporation (Pco) that provided trucking services. Pco deducted $46,000 over three years for amounts paid to P’s father-in-law and mother-in-law for filing and driving services. Pco also deducted approximately $11,000 over two years for payments to P’s spouse for filing services. P was assessed with income on all of these amounts.

The Court reviewed whether Pco actually paid the amounts to the family members.

Taxpayer loses

The taxpayer argued that, while P’s father-in-law and mother-in-law never cashed the cheques provided by Pco, these payments represented their contributions to household expenses. However, the Court found that the amounts were never paid.

All payments to P’s spouse were made to a joint bank account with P, but the payments did not specifically correspond with the amounts P’s spouse was allegedly paid for her services. P argued that funds from the joint account (reflecting her compensation) were used to pay off P’s spouse’s credit card bills. Again, the Court found that no payments were actually made to P’s spouse.

The Court noted that it believed P’s spouse did provide services and that the result would have been different if the bank statements had shown amounts paid directly to her for her services.

As no payments were determined to have been made to P’s spouse or his in-laws, no amounts were permitted to be deducted. Further, the Court determined that these assessments could be made outside the normal reassessment period and that the assessed gross negligence penalties were justified.

ACTION ITEM: Family members should be paid for work done for the business in the same manner as other non-family members.

Many owner-managers are shocked at both the difficulties in finding a buyer for their business and the low prices an owner-managed business often commands.

A recent Intelligent Work article (How Does 10x-ing Value Work in an Owner-Managed Business?, John Mill) discussed guidance provided to Harvard MBA students regarding investing in owner-managed businesses. That guidance included the reality that these businesses with earnings between $750,000 and $2 million tend to be priced at 3x to 5x earnings before interest, taxes, depreciation and amortization (EBITDA), as compared to 6x to 12x earnings for larger companies with EBITDA of more than $5 million. In addition, most owner-managers are forced to sell due to age or health issues and such distress sales generally result in lower multiples.

Often, investors do not want to be owner-managers, and as such, will employ another individual to run the business. This further reduces the value of owner-dependent businesses.

Some strategies to grow the value by focusing on the qualities that command higher multiples include the following:

• competent management that is not owner-dependent;
• lean systems;
• engaged employees; and
• a solid track record of EBITDA growth.

The article suggested a 10-year track record of 18% EBITDA growth (an average for the successful expanding of small businesses) as an appropriate target.

ACTION ITEM: Starting the discussion on how to maintain and enhance the value of an owner-managed business should be commenced many years before the anticipated sale or transition.

In a March 5, 2021 French Technical Interpretation, CRA commented on whether a travel allowance paid to employees on a per kilometre basis, but only up to a limited number of kilometres, could be a non-taxable allowance.

For the allowance to be non-taxable, it must be a reasonable allowance for the use of a motor vehicle when travelling in the performance of employment duties. Further, measurement of the use of the vehicle must be based solely on kilometres, or the allowance will be deemed unreasonable and therefore taxable.

First, CRA opined that placing a cap on the number of kilometres covered would not mean that the measurement was not based solely on kilometres. As such, it would not automatically be unreasonable.

However, the allowance could still be unreasonable since it may not be high enough in relation to the total motor vehicle expenses that the employee is expected to incur in the performance of their employment duties. If considered unreasonable, the allowance would be taxable.

ACTION ITEM: Structure compensation for the employment use of an employee’s vehicle carefully to ensure that any allowance received will not be taxable to the employee. A taxable assessment after the fact can create significant employee/employer issues.

Self-employed individuals whose net self-employment income was less than $5,000 will not be required to repay CERB, as long as their gross self-employment income was at least $5,000 (in 2019 or the previous 12 months preceding the application) and they met all other eligibility criteria.

On May 12, 2021, a remission order that would allow this relief was released. For the debt to be remitted, individuals will need to file their 2019 and 2020 tax returns before December 31, 2022. The explanatory notes also indicated that CRA estimates approximately 30,000 individuals will benefit from this remission order.

Individuals who have already repaid CERB due to their net income being less than $5,000 (but meeting all other eligibility criteria) will need to apply by completing Form T180 to get reimbursed for their repayment. Eligible applicants can expect reimbursements within about 90 days of submitting their applications. It is estimated that approximately 6,500 individuals could receive this type of reimbursement. CRA has also noted that, if a taxpayer is reimbursed for their CERB payment repaid in 2020, CRA may reassess their 2020 tax return.

ACTION ITEM: If you repaid CERB for the above reasons, make sure to apply to have the amount reimbursed.