Corporate Tax Law

1
Corporate Tax Law

• Christine Van Cauwenberghe
• University of Manitoba
• Faculty of Law
• Seminar 2
• Tobias Chapter 7

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Arms Length Transaction

• The Act includes a number of rules to determine
  if parties are acting at arms length
• If parties are not acting at arms length, there
  is a greater possibility that the transactions or
  arrangements they enter into are not bona fide,
  and are done in order to achieve a favorable tax
  result

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Arms Length Transactions

• Cant sell a 1,000,000 property to your spouse
  for 1 to avoid the capital gain
• Section 69 deems the parties in that case to have
  sold the property for fair market value, which is
  the value that CRA deems (using appraisals, etc.)
• If parties are acting at arms length, CRA will
  generally not interfere

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Arms Length Dealings 251(1)

• (a) Related persons are deemed not to deal with
  each other at arms length term is defined in
  251(2)
• (b) Deems that a taxpayer and a personal trust do
  not deal with each other at arms length if the
  taxpayer, or any person not dealing at arms
  length with the taxpayer, is beneficially
  interested in the trust
• (c) If parties arent related, and (b) doesnt
  apply, then it is a question of fact as to
  whether they are dealing at arms length

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Related Persons 251(2)(a)

• Individuals connected by blood relationship,
  marriage or common-law partnership or adoption
• Persons are connected by blood relationship if
• One is a child or other descendent of the
  other or
• One is the brother or sister of the other

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Blood Relationship 251(6)

• This would include
• Grandparents
• Grandchildren
• This would not include
• Aunts, uncles
• Nieces, nephews
• See expanded definitions in 252(1) and 252(2)

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Marriage 251(6)

• Persons are connected by marriage if one is
  married to the other or if one is married to a
  person who is so connected by blood relationship
  to the other
• This would include
• Step-children
• Sisters- and brothers-in-law

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Common-law partnerships (CLP) 251(6) and 248

• Persons are connected by CLP if one is in a CLP
  with the other or with a person who is connected
  by blood relationship to the other
• A common-law partner means a person who cohabits
  at that time in a conjugal relationship with the
  taxpayer, and
• Has so cohabited for a continuous period of 1
  year or
• Have a child together
• and havent been separated for more than 90 days

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Adoption 251(6)

• Persons are connected by 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
  connected by blood relationship (otherwise than
  as a brother or sister) to the other

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(No Transcript)
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Related Persons 251(2)(b)

• A corporation and
• A person who controls the corporation, if it is
  controlled by one person
• A person who is a member of a related group that
  controls the corporation or
• Any person related to a person described in (i)
  or (ii)

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Related Group 251(4)

• Means a group of persons, each member of which is
  related to every other member of the group and an
  unrelated group means a group of persons that
  is not a related group

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Related Persons 251(2)(c)

• Any two corporations
• If they are controlled by the same person or
  group of persons
• If each of the corporations is controlled by one
  person and the person who controls one of the
  corporations is related to the person who
  controls the other corporation

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Two Corporations are Related If251(2)(c)
(contd)

• If one of the corporations is controlled by one
  person and that person is related to any member
  of a related group that controls the other
  corporation
• If one of the corporations is controlled by one
  person and that person is related to each member
  of an unrelated group that controls the other
  corporation

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Two Corporations are Related If251(2)(c)
(contd)

• If any member of a related group that controls
  one of the corporations is related to each member
  of an unrelated group that controls the other
  corporation or
• If each member of an unrelated group that
  controls one of the corporations is related to at
  least one member of an unrelated group that
  controls the other corporation

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Arms Length 251(1)(c)

• If not related, and not a trust/beneficiary
  situation, then question of fact as to whether or
  not the parties are acting at arms length

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Arms Length - McNicol

• Three criteria to determine whether or not the
  parties are acting at arms length
• The existence of a common mind which directs the
  bargaining for both parties to the transaction
• Parties to a transaction acting in concert
  without separate interests and
• De facto control
• The parties must bargain separately, each seeking
  to protect their own independent interest, or
  they will be considered to be acting not at arms
  length

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Arms Length - Merritt

• Where the mind by which the bargaining is
  directed on behalf of one party to a contract is
  the same mind that directs the bargaining on
  behalf of the other party, it cannot be said that
  the parties were dealing at arms length. In
  other words where the evidence reveals that the
  same person was dictating the terms of the
  bargain on behalf of both parties, it cannot be
  said that the parties were dealing at arms length

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Small Business Deduction

• Lower rate of tax on first 400,000 of active
  business income
• If companies are associated, then they must
  share this deduction
• Need to be aware of these rules, especially where
  there are multiple shareholders, or families own
  several businesses

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Small Business Deduction

• A corporation that is a Canadian-controlled
  private corporation throughout a year can deduct
  17 from its normal tax rate on first 400,000 of
  income from an active business carried on in
  Canada for the year

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Active Business 125(7)

• Means any business carried on by the corporation
  other than
• A specified investment business or
• A personal service business
• and includes an adventure or concern in the
  nature of trade.

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Active Business Income 125(7) and 129(4)

• Includes income for the year that pertains to or
  is incident to that business, other than income
  for the year from a source in Canada that is a
  property
• Conversely, income for the year from a source in
  Canada that is a property excludes income that
  pertains to or is incident to an active business
• Bottom line is that income that would prima facie
  be considered income from property is considered
  active business income if there is sufficient
  nexus between the property income and the business

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Specified Investment Business125(7)

• A business, the principal purpose of which is to
  derive income from property
• Dont look at amount of activity look at source
  of revenue (royalties, interest, dividends, rent,
  etc.)

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Specified Investment Business

• Exception where the corporation employs more than
  5 full-time employees in the business throughout
  the year
• Exactly 5 full-time employees is not sufficient
• 5 full-time plus 1 part-time is sufficient
• Managerial, administrative, financial,
  maintenance or other similar services provided by
  associated companies may be factored into 5
  employees, but cant allocate fraction of
  employees between different ventures

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Personal Services Business

• A business of providing services where the
  individual who performs services on behalf of the
  corporation (the service provider) or any
  person related thereto is a specified
  shareholder of the corporation and, but for the
  existence of the corporation, the service
  provider would reasonably be regarded as an
  officer or employee of the person or partnership
  for whom services are performed.

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Specified Shareholder 248(1)

• A taxpayer who owns, directly or indirectly, at
  any time in the year not less than 10 of the
  issued shares of any class of shares of the
  corporation or of a corporation that is related
  thereto

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Personal Services Business

• A corporation is not carrying on a PSB if it
  employs more than 5 full-time employees in its
  business, or provides services under contract to
  an associated business

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Personal Services Business

• Some people may want to incorporate to increase
  the types of expense they can deduct
• Independent contractors are generally able to
  deduct more expenses than employees
• Prohibiting PSBs from using the SBD means that
  the income earned by the PSB will be subject to
  tax at full corporate rates
• No portion of the tax is refundable

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Business Limit

• 400,000
• A CCPC that is associated only with one or more
  other corporations that are not
  Canadian-controlled is not required to share its
  business limit

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Associated Corporations 256(1)

• Relevant to the use of the small business
  deduction
• Dont want people structuring their corporations
  to multiply use of 400,000 SBD
• Difference between concept of control for the
  purpose of determining whether
• A corporation is related to a person (narrow)
• A corporation is associated with another
  corporation (expansive)

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Associated Corporations

• Use de facto control for association purposes
  directly or indirectly in any manner whatever
• Various deeming provisions even where no de facto
  control
• Want to catch people wherever they can

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Corporations are Associated Where256(1)

• One of the corporations controlled, directly or
  indirectly in any manner whatever, the other
• Both corporations were controlled, directly or
  indirectly in any manner whatever, by the same
  person or group of persons

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Corporations are Associated Where256(1) (contd)

• (c) Each of the corporations was controlled,
  directly or indirectly in any manner whatever, by
  a person and the person who so controlled one of
  the corporations was related to the person who
  controlled the other, and either of those
  persons, owned, in respect of each corporation,
  not less than 25 of the issued shares of any
  class, other than a specified class, of the
  capital stock thereof

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Corporations are Associated Where256(1) (contd)

• (d) One of the corporations was controlled,
  directly or indirectly in any manner whatever, by
  a person and that person was related to each
  member of a group of persons that so controlled
  the other corporation, and that person owned, in
  respect of the other corporation, not less than
  25 of the issued shares of any class, other than
  a specified class, of the capital stock thereof

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Corporations are Associated Where256(1) (contd)

• (e) Each of the corporations was controlled,
  directly or indirectly in any manner whatever, by
  a related group and each of the members of one of
  the related groups was related to all of the
  members of the other related group, and one or
  more persons who were members of both related
  groups, either alone or together, owned, in
  respect of each corporation, not less than 25 of
  the issued shares of any class, other than a
  specified class of the capital stock thereof

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Specified Class of Shares 256(1.1)

• Essentially a class of shares which bear
  debt-like attributes
• Not convertible or exchangeable
• Non-voting
• Dividend fixed by amount or percentage
• Dividend cannot exceed prescribed amount
• Redemption amount cannot exceed consideration
  paid, plus unpaid dividends
• Effectively ignore any value in these shares

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Deeming Rules 256(1.2)(a)

• Mere ownership of shares in the same corporation
  is sufficient to constitute two or more
  shareholders as a group of persons
• CRA has stated in almost all cases where the
  voting power in a corporation is equally divided
  between 2 shareholders, the corporation will be
  controlled by the group consisting of the two
  shareholders

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Deeming Rules

• More difficult to determine which group controls
  corporation where there are more than two
  shareholders
• Question of fact

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Deeming Rules 256(1.2)(b)

• (b) For greater certainty,
• (i) a corporation that is controlled by one or
  more members of a particular group of persons in
  respect of that corporation shall be considered
  to be controlled by that group of persons, and
• (ii) a corporation may be controlled by a person
  or a particular group of persons notwithstanding
  that the corporation is also controlled or deemed
  to be controlled by another person or group of
  persons

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Deeming Rules - 256(1.2)(c)

• A Corporation is deemed to be controlled by
  another corporation, person or group of persons,
  where
• Shares of the corporation having a fair market
  value (FMV) of more than 50 of the FMV of all
  issued and outstanding shares or
• Common shares having a FMV of more than 50 of
  the FMV of all issued and outstanding common
  shares
• are owned by that other corporation, person or
  group of persons

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Fair Market Value of Shares

• FMV of a share of the capital stock of a
  corporation is to be determined without regard to
  its voting attributes
• Minority interests are generally valued at a
  discount due to lack of liquidity and control

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Look-through Rules 256(1.2)(d) and (e)

• Shares of a corporation owned by another
  corporation are deemed to be owned by the
  shareholder of that other corporation
• Shares of a corporation held by a partnership are
  deemed to be owned by the members of that
  partnership in proportion to their profit shares

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Look-Through Rules256(1.2)(f) and (g)

• Shares of a corporation held by a trust are
  deemed to be owned by the beneficiaries under
  rules that vary, depending upon the terms of the
  trust
• In determining the FMV of a share of the capital
  stock of a corporation, all issued and
  outstanding shares of the capital stock of the
  corporation shall be deemed to be non-voting

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Shares owned by Minors256(1.3)

• Parent generally deemed to own the shares of a
  minor
• Shares held by a trust for the benefit of a minor
  child are attributed to their parents (as a
  result of both 256(1.3) and 256(1.2)(f), being
  the look-through rules for trusts)

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Options and Rights 256(1.4)

• If any person has a right at any time, either
  immediately or in the future, and either
  absolutely or contingently
• To acquire shares of a corporation or control the
  voting rights, or
• To cause a corporation to redeem, acquire or
  cancel any shares of its capital stock
• that person will be deemed to own those shares,
  unless the rights is contingent upon the death,
  bankruptcy or permanent disability of the
  individual

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Deeming Rules 256(2) and (2.1)

• Where two otherwise unassociated corporations are
  each associated with the same corporation they
  are deemed to be associated with each other
• Where the multiplication of otherwise
  unassociated corporations is to enhance access to
  the small business deduction in an abusive
  fashion, two or more corporations are deemed to
  be associated

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Example 7.3-1

• Mr. Morris owns 51 of the voting shares of
  Company X
• His father owns 51 of the voting shares of
  Company Y
• Are Company X and Company Y related?

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Example
49
Example
50
Example
51
Example
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Example 7.4-1
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Related Persons

• Is A related to B Ltd.? If so, by what
  section(s) of the ITA?
• A 55

B. Ltd.
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Related Persons

• Is A related to B Ltd.?
• Is A related to C Ltd?
• Is B Ltd. related to C Ltd.?
• A 51

B. Ltd. 51
C Ltd.
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Related Persons

• For the previous scenario, would As sister,
  child or parent be related to B Ltd. and C Ltd.?

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Facts- A and B are spouses- C is unrelated to
A or B

• Are A and B related to X Ltd.?
• Is C related to X Ltd?

B 1/3
A 1/3
C 1/3
X Ltd.
57
Facts- A, B and C are all unrelated - A and B
have a common interest so as to be a group

• Are A and B related to X Ltd.?
• Is C related to X Ltd?

B 1/3
A 1/3
C 1/3
X Ltd.
58
Related Entities

• Are B Ltd. and C Ltd. related?

A 51
A 51
C Ltd.
B Ltd.
59
None of A, B, C D are relatedA and B have a
common interest so as to be a group

• Are X Ltd. and Y Ltd. related?

B 40
A 1/3
A 20
C 40
D 1/3
B 1/3
Y Ltd.
X Ltd.
60
Related Entities

• Are X Ltd. and Y Ltd. related?

A 51
As spouse 51
Y Ltd.
X Ltd.
61
A and C are each related to BA is not related to
C

• Which corporations are related?

A 51
B 51
C 51
Y Ltd.
Z Ltd.
X Ltd.
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- E, F and G are not related but comprise a group
by common interest- B and C are related- B is
related to each of D, E, F and G

• Are X Ltd. and Y Ltd. related?

B 1/3
C 1/3
A 1/3
F 1/3
E 1/3
G 1/3
Z Ltd. 1/2
D 1/2
X Ltd.
Y Ltd.
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Associated Corporations

• Section 256 of the Act
• For the purposes of these example questions,
  assume all children are over the age of 18

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Mrs. X, who lives in Vancouver, owns 100 of X
Co.Mrs. Y, who lives in Winnipeg, owns 100 of Y
Co.Mrs. X and Mrs. Y are sisters

• Are X Co. and Y Co. associated?

Mrs. X 100
Mrs. Y 100
Y Co.
X Co.
65
Same facts as previous problem, except that Mrs.
Y also owns 100 of the non-voting preferred
shares in X Co. The shares owned by Mrs. Y are
not shares of a specified class

• Are X Co. and Y Co. associated?

Mrs. Y 100 common Y Co. 100 pref X Co.
Mrs. X 100
X Co.
Y Co.
66
Are X Co. and Z Co. associated?Are Y Co. and Z
Co. associated?Are X Co. and Y Co. associated?

• Ms. Y is the daughter of Mrs. X

Mrs. X 95
Ms. Y 100
Mrs. X 45
Ms. Y 45
Y Co.
Z Co.
X Co.
67
Are A Co. and B Co. associated?Are A Co. and C
Co. associated?Are B Co. and C Co. associated?

Mr. A 100
Mr. A 70
A Co. 51
C Co.
B. Co.
68
Are X Co. and Y Co. associated?The preferred
shares owned by X Co. are not shares of a
specified class

Child 2 50 Common
Child 1 50 common
Mr. X 100
X Co. 25 Prefs
Y Co.
69
Mrs. Z is unrelated to Mr. XMr. X owns a stock
option which, if he chose to exercise, would
increased his total shareholdings in X Co. to 60
of the companyMs. Y is the daughter of Mr. X

• Are X Co. and Y Co. associated?

Ms. Y 75
Mr. X 50
Mrs. Z 50
Mr. X 25
Y Co.
X Co.
70
Are J Co. and B Co. associated?John and Bob are
unrelated to each other

Bob 25
John 75
John 25
Bob 75
J Co.
B Co.